When Capitol Bancorp Ltd., a Lansing, Mich., company with banks in 15 states, wanted to charter a commercial bank in Oregon, it ran into a problem.
Oregon does not allow out-of-state holding companies to enter the state without acquiring a bank charter first, and Capitol is not in the acquisition business.
The solution: High Desert Bank opened last month in Bend as a federally chartered thrift. It turns out that the $4.4 billion-asset Capitol passed the qualified thrift lender test and can open thrifts anywhere in the nation.
Though it still prefers the commercial bank charter, “you have to work with what you have,” said Michael Moran, Capitol’s chief of capital markets. “We’ve accomplished what we wanted to do. It’s just a different route.”
Large banks typically buy their way into a market, but many community banks would prefer to open branches or, in Capitol’s case, establish banks. But current laws prevent them from branching their way into about half the states, and several community bankers said those laws are unfair to community banks with national strategies.
The laws exist largely to protect community bankers, but many bankers argue that they no longer make sense, because there are so many ways around them — though the alternatives can be expensive — and because more and more states are eliminating them.
Even some regulators in states where there are barriers to entry question how long they can remain in place.
“I do expect at some point the existing restrictions would be removed,” said Richard Fulkerson, Colorado’s commissioner of banks. “States are changing their laws to recognize changes in the industry, and the geographic restrictions make less and less sense all the time.”
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 eliminated many of the restrictions on interstate banking — allowing acquisitions across state lines — but still left individual states to decide on interstate branching.
The patchwork of laws can be confusing. Twenty-six states prohibit out-of-state banks from moving in without buying a charter first. However, they can establish federally chartered thrifts, which have few restrictions when it comes to moving into markets or branching across state lines.
Twenty-four states and the District of Columbia permit out-of-state banks to enter in some way without buying first, but the laws are not always cut-and-dried. Some of these states have reciprocity laws that let banks from other states branch in only if the banks are coming from states where their own banks are allowed to go.
Texas is a reciprocating state — but only when it comes to branching.
If an out-of-state holding company wants to establish a commercial bank there, it must buy a charter. That explains why Capitol, the majority owner of 56 individually chartered banking institutions, is planning to charter two federal thrifts in Texas.
Proponents of these barriers said they boost the values of community banks based in those states, because outsiders must buy their way in. The proponents also argue that giving states power over branching policy is important to the dual banking system.
“It’s protecting local ownership and a local nexus to the customers, consumers, and small business in that state to have the banks there be locally owned and more responsive to the local needs,” said Karen Thomas, the Independent Community Bankers of America’s executive vice president for government relations.
But other industry watchers said that the barriers are leftovers of the antiquated unit banking laws and do more harm to community banks than good, and that the original intent of protecting in-state banks from outside competition is not effective when large banks enter through acquisitions.
“Bank of America and Citi can go anywhere they want to,” since they have deep pockets for acquisitions, said Stephen Klein, the chief executive of the $850 million-asset Omni Financial Services Inc. in Atlanta. “At Omni, we can’t, because we don’t have the resources they have. We are governed by the same laws, but we don’t have the money to work around them. … It’s a competitive disadvantage.”
Still, companies like Omni and Capitol have found ways around the barriers, either by buying charters that are no longer in use or by opening federally chartered thrifts.
Georgia is one of the states that forbids branching into the state, which means Georgia banks also typically are prohibited from branching out of the state.
Georgia Bank & Trust Co. in Augusta wanted to set up a branch about 30 miles away in South Carolina, where it already “had a good book of business,” according to Daniel Blanton, its president and CEO. Acquisitions were too expensive, so its holding company, the $1.9 billion-asset Southeastern Bank Financial Corp., opened a federally chartered savings bank, Southern Bank and Trust, in Aiken, S.C., in September of last year.
“It made it more difficult, more expensive, but nevertheless, we figured out a way to do it,” Mr. Blanton said.
Despite the hoops he had to go through — and the fact that he has to deal with thrift and bank regulators — Mr. Blanton said he supports his state’s branching law, because it has made Georgia banks more valuable to buyers.
“There are always ways around it,” he said. “You just get creative. … As long as there are ways to skin the cat, I’m fine with it.”
Mr. Fulkerson, the Colorado commissioner, said that the laws governing interstate branching are driven largely by bankers, and if they determine laws are too restrictive they will push for changes.
Within a year after Riegle-Neal went into effect in 1997, 15 states had allowed interstate branching. Nine other states have followed suit since; most recently, Alabama did so in May.
Trabo Reed, Alabama’s deputy superintendent of banking, said officials there concluded that the restrictions were not improving the value of banks chartered in the state and were hindering their expansion into other markets.
“The bottom line, if you look at it from a business standpoint, is what is the value of a franchise and the locations, independent of legal and regulatory issues,” Mr. Reed said. “That is probably the best value of what your bank is. You don’t need the law to bolster value for your franchise.
“What we found years ago” when Alabama permitted statewide branching “is the value of banks is enhanced by them being able to go to the markets they want to go to, instead of somebody having to cross some regulatory hurdle to get into a market,” he said.
Several industry watchers said they believe the branching barriers will be eliminated, because they are not in the best interests of customers, especially commercial customers. More small businesses are doing business in multiple states, observers said, and if community banks cannot meet their needs, they will switch their accounts to large banks.
“Some of those laws have yet to catch up with the market,” said Chet Fenimore, the managing partner in the Austin office of Hunton & Williams LLP.
Until then Omni will have to pursue its national strategy one state at a time.
Omni’s primary business is making loans to investors who rebuild inner-city houses and has targeted 50 cities across the nation where it believes its model will work.
So far, it is doing business in seven states, but only has branches in five. It is currently looking to acquire a charter in Pennsylvania from a company that no longer needs it so it can turn its a loan production office there into a branch. (A charter can become available, for example, if a holding company merges subsidiary banks.)
Omni acquired so-called stripped charters to gain entry into Florida and Texas, at a combined cost of more than $1 million. Moving its headquarters from North Carolina to Atlanta, where Omni’s leaders live, was even more costly because to gain entry into Georgia it ended up buying a troubled thrift.
“The cost of that is not inexpensive,” Mr. Klein said. “I am in the process now of charging off a loan that I bought. It’s a six-figure chargeoff.”
