Simpler capital rule for small banks proving hard to pull off

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WASHINGTON — A proposal by the federal banking agencies to ease capital requirements for community banks is prompting criticism from banks and state regulators who say it may be too complicated to implement.

The regulatory relief law enacted last year allows banks under $10 billion of assets to opt for one simple capital ratio rather than having to comply with multiple risk-based measures. But after last year's release of the regulatory proposal to carry out that measure, concerns have trickled in that the proposed 9% "community bank leverage ratio," or CBLR, was too high and that proposed standards for banks falling under that ratio would be hard to adopt.

“The way the proposal is written today, there’s still too many unanswered questions” and “still too much complication,” said Timothy Zimmerman, the chief executive of Standard AVB Financial Corp. in Monroeville, Pa. “My bank and most of the community banks out there are in wait and see” as to whether they would opt for it.

State regulators have also criticized the proposal, which was spearheaded by the Federal Deposit Insurance Corp. In a recent letter to the FDIC, the Conference of State Bank Supervisors said the proposal “is a fundamental obstacle to achieving the regulatory relief intended” because of how the agencies establish a new "prompt corrective action" framework.

Traditionally, PCA requirements are set of remediation steps for troubled banks in a weak capital position. State regulators argue that a PCA framework, for those choosing the new leverage ratio, would effectively kick in under the proposal whenever a bank's ratio fell below 9%. But the current risk-based regime applies PCA for a 5% "Tier 1" leverage ratio.

“That’s a pretty big jump to go from a 5% to a 9% ratio to trigger the PCA restrictions,” said James Cooper, senior vice president of policy at the CSBS. At that point, a PCA “limits the bank’s growth if it can’t replace that funding source.”

Congress authorized regulators to set the new leverage ratio between 8% and 10%. And, to be clear, the law also directs the regulators to establish procedures for when a qualifying bank falls below the set capital ratio.

The proposal would create a whole new tiered framework for when a bank falls below the 9% ratio; the agencies argue it would be harder on the bank to switch back to a risk-based capital ratio restrictions.

But state regulators want the agencies to revert the bank back to the existing PCA framework for risk-based capital requirements when it falls below the 9% CBLR ratio.

The regulators said in the proposal that they chose a new PCA framework partly because it could be “unduly burdensome to begin complying with the more complex risk-based capital reporting requirements at the same time that the organization is experiencing a decline in its CBLR."

However, during an interview with reporters Monday, FDIC Chairman Jelena McWilliams, when asked why the regulators chose a new PCA framework, said they are still reviewing all options.

“There [are] some substantive issues and some statutory things that we are trying to weed through to make sure that when we have this new CBLR . . . that it makes sense given the statutory framework,” she said. “If there are open questions, we have to rethink the framework. And I don’t know where we’ll end up yet. We’re still working through that.”

According to the proposal, CBLR banks can "stop using the CBLR framework and instead become subject to the generally applicable capital requirements.”

Bankers, meanwhile, appeared far more concerned with the ratio set by regulators after they released the proposal in November. (The proposal was published in the Federal Register last month and regulators are accepting public comments until April 9.)

McWilliams recently said regulators set the ratio at 9% as a “compromise” because they would have tacked on more requirements at 8%, and even fewer banks would qualify at the maximum level of 10%.

“Here is the bottom line: You could potentially set it at 8%, 9% or 10%, but each of those would have caveats where we feel the community banks would have to be,” McWilliams said after the FDIC board meeting where the agency unveiled the proposal. “So it seemed to be the right approach to give us some flexibility moving forward.”

Still, the banking industry is pushing hard for the lower 8% CBLR threshold that would allow more community banks to qualify for the option. The Independent Community Bankers of America estimates that 600 more banks would be eligible for the CBLR option if it was set at 8% rather than 9%.

Part of this is because banks prefer to have a “buffer” of at least 50 to 100 basis points above the minimum capital ratio during examinations, said Chris Cole, executive vice president and senior regulatory counsel at the ICBA.

“Whether it’s 8% or 9%, the bank examiner will expect you to have a buffer,” he said. “The 9% is too high. We think 8% would be the right level.”

However, the regulators estimate that 83% of the 5,408 insured depository institutions and 56% of the 151 holding companies of insured institutions would qualify for the CBLR ratio under the current proposal and based on asset sizes as of the 2018 second quarter.

But bankers remain hesitant.

“The bottom line is if I can get a more simplified approach and a ratio closer to 8%, we would probably go with that” CBLR option, Zimmerman said.

However, some in the industry say the CBLR option will gain more interest as the international banking regulators continue to ramp up the Basel capital standards.

“We’re likely to see revisions that change the Basel capital requirements in the future,” said Hugh Carney, vice president of capital policy for the American Bankers Association. “Even if a bank has little interest now, once the Basel capital standards change, a bank may choose to opt in to the CBLR. This isn’t necessarily about today, it’s about whether this is reducing the regulatory burden in the future as well.”

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