Co-Authored by Sylvia Mayer, Conray C. Tseng and Walter E. Zalenski.
On September 13, 2012,  the Federal Deposit Insurance Corporation (“FDIC”) issued two rules requiring large financial institutions to submit resolution plans in contemplation of their failure.  These two rules, which impose concurrent deadlines on covered institutions, share many similarities, as well as certain significant distinctions.  Moreover, many institutions will be subject to both rules.  This article addresses the distinct parameters, but similar purposes and prescriptions, of the two rules and common, outstanding issues with respect to their implementation.
The Rules at Issue
 

  • DFA Res-Plan Rule

The first rule, which was issued in final form pending approval by the Board of Governors of the Federal Reserve System (“FRB”) and will be codified at 12 CFR 381, addresses resolution planning as required under Section 165(d) of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”).  This rule requires bank holding companies (“BHCs”) with $50 billion or more in consolidated assets and other specified categories of covered companies to submit an annual resolution plan (“DFA Res-Plan”), often referred to as a “living will,” to the FDIC and FRB.  The DFA Res-Plan must include a strategic analysis outlining utilization of the Bankruptcy Code or other applicable insolvency regimes to facilitate the rapid and orderly resolution of the institution in a manner that avoids systemic risk to the U.S. financial markets in the event of material financial distress or failure of the BHCs or one or more of its systemically important subsidiaries.  We previously reported on the DFA Res-Plan rule here.

  • IDI Res-Plan Rule

The second rule, which was issued in interim final form pending an additional comment period, covers resolution planning by insured depository institutions (“IDIs”) with $50 billion or more in assets.  This rule (codified at 12 CFR 360) requires covered IDIs to submit an annual resolution plan (“IDI Res-Plan”) to the FDIC.  IDIs are not eligible to file bankruptcy.  Instead, resolution of an IDI involves the FDIC being appointed receiver of the IDI pursuant to the Federal Deposit Insurance Act (“FDIA”).  As a result, an IDI Res-Plan must include a strategic analysis outlining how the FDIC should proceed with the rapid and orderly resolution of the IDI pursuant to FDIA in the event of the IDI’s material financial distress or failure.

The Rules’ Main Similarities
The goals of the two rules are fundamentally the same: to require large financial institutions to submit resolution plans containing information useful to regulators should the institutions fail and contingency plans to resolve the companies in the event of failure. Likewise, although the legal frameworks governing resolution of the two types of institutions differ, the substantive, informational requirements for the two types of plans are much the same.  Both rules require that resolution plans contain non-confidential executive summaries that describe the key elements of the strategic plan for resolution in the event of financial distress, material developments at the company and changes to previously-submitted plans, and actions taken by the company to improve the plan and mitigate weaknesses to its effective and timely execution.  Although the content requirements vary in their details, in part because of differences in the nature of the IDIs and BHCs at issue, both rules also require further strategic analysis of the planned resolution; information about the institution’s corporate governance, organizational structure, and management information systems; and descriptions of the company’s interconnections with other financial entities.
In addition to the similarities that arise from their common purpose, the rules also intentionally complement one another in several ways for ease of implementation.  For example, the rules’ timing requirements are analogous, both in terms of initial filing dates—which are based on the size of the BHC or parent of the IDI—and in terms of regularity—institutions must submit new resolution plans annually and provide notice of material events within 45 days of their occurrence. The rules also streamline submissions when a BHC is required to submit a resolution plan under one rule, and one of its IDIs is required to submit a resolution plan under the other. The IDI rule states that a covered IDI “may incorporate data and other information from a resolution plan filed pursuant to Section 165(d)” of the Dodd-Frank Act, and the DFA Res-Plan Rule states that covered companies with less than $100 billion in total non-bank assets and 85% or more of their assets in IDIs may submit “tailored resolution plans” taking into account the fact that information about their IDIs will be provided separately.  The confidentiality provisions of both rules contemplate distinct public and confidential sections in the plans, with the latter being treated as confidential to the extent permitted by law.
Finally, the rules contain analogous review procedures, except that the FDIC and FRB jointly review DFA Res-Plans, whereas the FDIC alone reviews IDI Res-Plans. Both rules require that a financial institution respond to a finding of informational incompleteness within 30 days.  Once the plan is deemed informationally complete, it must ultimately be found “credible,” i.e., capable of fulfilling its purpose as a resolution plan, with any deficiencies in credibility remedied within 90 days.  Furthermore, both financial institution’s board of directors must approve the plan. While the regulatory burden associated with the production of a resolution plan is significant, both rules also envision an ongoing, collaborative process including dialog between regulators and the covered companies prior to submission of a resolution plan and the submission of initial plans that provide the foundation for developing more robust plans in the future.
The Rules’ Main Differences
As discussed above, the general purpose and essential elements of both rules are very similar; however, there are critical differences as well.  While IDIs and BHCs both must submit plans for the efficient resolution of the failed entity, the FDIC, as the nation’s deposit insurer, is statutorily compelled under the FDIA to maximize the return on assets of a failed bank or thrift and minimize losses to the insurance fund.  It is not surprising, therefore, that an IDI Res-Plan must ensure that depositors receive access to insured deposits nearly immediately after failure, maximize the net present value return from the sale or disposition of assets, and minimize losses to be realized by creditors.  On the other hand, while both rules are clearly related to financial stability, the DFA Res-Plan Rule is less concerned with particular issues like deposits and more concerned with preventing contagion among systemically important institutions and preserving any systemically important functions of a failing institution.
Despite differences between certain of the goals of the two rules, the substance of their informational requests is largely the same, though the formatting and categorization of the requests vary.  Minor differences include that the IDI rule expressly calls for consideration of the least costly resolution method. The rule also states that the IDI should consider various strategies for the payment of depositors, including:

  • A cash payment of insured deposits;
  • A purchase and assumption transaction with an IDI to assume insured or all deposits;
  • A purchase and assumption transaction with an IDI in which branches are broken up and sold separately to maximize franchise value; and
  • A transfer of insured deposits to a bridge institution as an interim step prior to a purchase and assumption.

These unique requests are fitting in the context of the FDIA resolution regime because the FDIC is required to pursue the most cost-efficient option, and purchase and assumption agreements and the establishment of bridge banks are two of its main options. The other two are outright liquidation, for which requested information about asset valuation and potential purchasers would be useful, and open bank assistance, in which the FDIC infuses capital to help a failing or failed institution.  The interim final rule also seeks information regarding the IDI’s interconnectedness to its parent company’s organization because severing the ownership structure would play a part in many resolution schemes.
In contrast, the DFA Res-Plan Rule’s primary objective is stabilizing the U.S. financial markets.  In addition, while the IDI Res-Plan is premised on the FDIC taking control of the IDI, the DFA Res-Plan is premised on the BHC managing its own rapid resolution, to the extent possible.  However, it also serves a secondary purpose of providing the FDIC with the necessary information to facilitate an orderly liquidation under Title II of Dodd-Frank if the company is unable to achieve a rapid and orderly resolution of its business.
Table of Similarities and Differences
To facilitate comparison of the two rules, a table is set forth below providing a high level summary of the essential elements of each rule.  The areas highlighted in green represents differences, while the areas not highlighted in green represent similarities.

IssueDFA Res-Plan Rule
12 CFR Part 381
IDI Res-Plan Rule
12 CFR Part 360
Resolution RegimeBankruptcy Code or other insolvency regimeFederal Deposit Insurance Act
AuthorityDodd-Frank Act § 165(d)FDIA § 9(a)Tenth
StatusFinal RuleInterim Final Rule
Regulatory Body/Bodies
  • FRB
  • FDIC
  • Financial Stability Oversight Council
FDIC
Covered Entities
  • U.S. Bank holding companies with consolidated assets of $50 billion or more
  • Non-bank financial companies supervised by the FRB or designated by the regulators as a covered company
  • Foreign banks or companies that are bank holding companies or treated as such and have $50 billion or more in consolidated non-bank assets in the U.S.
Insured depository institutions with assets of $50 billion or more
General PurposeRequire plan for rapid and orderly resolution in the event of material financial distress or failureRequire plan for resolution
Specific GoalsPrevent contagion among systemically-important institutions
  • Ensure that depositors receive access to insured deposits within 1-2 days of failure
  • Maximize the net present value return from the sale or disposition of assets
  • Minimize losses to be realized by creditors
General Informational Requirements
  • Executive Summary
  • Strategic Analysis
  • Corporate Governance
  • Organizational Structure: Legal Entities, Core Business Lines and International Operations
  • Management Information Systems, Software Licenses, IP
  • Interconnections and Interdependencies within Company’s Organization
  • Supervisory and Regulatory Information
  • Contact Information
  • Executive Summary
  • Strategic Analysis, Including Separation from Parent and Disposition of Deposit Franchise, Business Lines, and Assets
  • Corporate Governance
  • Organizational Structure: Legal Entities, Core Business Lines and Branches
  • Management Information Systems, Software Licenses, IP
  • Interconnectedness to Parent Company’s Organization
  • Supervisory and Regulatory Information
  • Contact Information
Specific Informational Requirements
  • Critical Services
  • Asset Valuation and Sales
  • Major Counterparties
  • Off-Balance-Sheet Exposures
  • Pledged Collateral
  • Trading, Derivatives, and Hedges
  • Unconsolidated Balance Sheet of covered company
  • Material Entity Financial Statements
  • Payment, Clearing and Settlement Systems
  • Capital Structure, Funding Sources
  • Affiliate Funding, Transactions, Accounts, Exposures, and Concentrations
  • Systemically-Important Functions
  • Cross-Border Elements
  • Least Costly Resolution Method
  • Critical Services
  • Asset Valuation and Sales
  • Major Counterparties
  • Off-Balance-Sheet Exposures
  • Pledged Collateral
  • Trading, Derivatives, and Hedges
  • Unconsolidated Balance Sheet of IDI
  • Material Entity Financial Statements
  • Payment, Clearing and Settlement Systems
  • Capital Structure, Funding Sources
  • Affiliate Funding, Transactions, Accounts, Exposures, and Concentrations
  • Systemically-Important Functions
  • Cross-Border Elements
Timing of Initial Plan Submission
  • July 1, 2012 for any covered company with $250 billion or more in total non-bank assets
  • July 1, 2013 for any covered company with $100 billion – $250 billion of non-bank assets
  • December 31, 2013 for any other covered company
  • July 1, 2012 for any covered IDI whose parent company has $250 billion or more in total non-bank assets
  • July 1, 2013 for any covered IDI whose parent company has $100 billion – $250 billion of non-bank assets
  • December 31, 2013 for any other covered IDI
Timing of Subsequent Plan SubmissionsAnnually on or before anniversary of initial submission dateAnnually on or before anniversary of initial submission date
Review Procedures
  • Reviewed for informational completeness and credibility as a resolution plan
  • Informational Incompleteness must be remedied within 30 days
  • Deficiencies in credibility must be remedied within 90 days
  • Ongoing, collaborative process to develop robust resolution plans
  • Reviewed for informational completeness and credibility as a resolution plan
  • Informational Incompleteness must be remedied within 30 days
  • Deficiencies in credibility must be remedied within 90 days
  • Ongoing, collaborative process to develop robust resolution plans
Internal Approval
  • By Board of Directors
  • Reflected in Board Minutes
  • Initial and Annual Plans
  • By Board of Directors
  • Reflected in Board Minutes
  • Initial and Annual Plans
Confidentiality
  • Contemplates a confidential section and a public section, which must include an executive summary
  • Confidential section protected to the extent permitted by law, but requires submission of request for confidential treatment and remains subject to approval
  • Contemplates a confidential section and a public section, which must include an executive summary
  • Confidential section protected to the extent permitted by law, but requires submission of request for confidential treatment and remains subject to approval

 
Common Issues Regarding Implementation
There are numerous questions about the creation and implementation of resolution plans that will only be answered with the passage of time.  Some questions relate to the requirements for each resolution plan, such as the extent of information required and where the line will be drawn between what information remains confidential or becomes public.  Some questions relate to the regulatory process, such as how the regulators and covered companies will resolve issues or concerns about the feasibility of resolution plans and steps required to limit exposure (such as the hot-button issue of subsidiarization).  While other questions relate to the practical application of resolution plans in the future, such as whether any of the resolution plans will actually be implemented in times of financial distress.
One issue, however, exists in connection with virtually all enterprises that are subject to the IDI resolution plan requirements: how to reconcile potentially competing interests between a BHC and its IDI subsidiary.  For example, prior to enactment of the Dodd-Frank Act, an issue would often arise when a BHC and its IDI experienced financial failure at the same time.  Often under these circumstances, the FDIC, as receiver for the IDI, would be at odds with the bankrupt BHC over whether the BHC was obligated to provide capital support for the benefit of the IDI’s depositors.  To this end, the FDIC has commonly argued that the BHC made an affirmative commitment, in a capital maintenance agreement or similar arrangement, to prop up the IDI.  If the FDIC prevailed on its assertion that there was such an agreement, then section 365(o) of the Bankruptcy Code provides for the deemed assumption of the agreement and requires the debtor in possession or trustee  to “immediately cure any deficit under any commitment by the debtor to a Federal depository institutions regulatory agency (or predecessor to such agency) to maintain the capital of an insured depository institution, and any claim for a subsequent breach of the obligations thereunder shall be entitled to priority….”  As a result, if there was an agreement to provide capital support, then any claims by the FDIC to enforce the agreement would have priority over other unsecured claims.
Section 616(d) of the Dodd-Frank Act amended the FDIA to require BHCs to “serve as a source of financial strength for any subsidiary of the bank holding company…that is a depository institution.”  “Source of financial strength” is defined to mean “the ability of a company that directly or indirectly owns or controls an insured depository institution to provide financial assistance to such insured depository institution in the event of the financial distress of the insured depository institution.”  In other words, the Dodd-Frank Act creates an affirmative obligation for a BHC to serve as a “source of financial strength” for an IDI that it owns or controls.  It is unclear whether Congress was mindful of the preexisting provisions of section 365(o) of the Bankruptcy Code when it enacted this “source of financial strength” obligation for depository institution holding companies.  Certainly there is not clear guidance as to how these provisions should be reconciled.  While the existence of section 616(d) of Dodd-Frank itself ought not create priority for an IDI’s subsequent claim against its BHC in bankruptcy, the new law potentially creates an environment where a BHC’s seemingly innocuous representations regarding compliance with section 616(d), including any such representations in its DFA Res-Plan, could be grounds for the FDIC to subsequently argue that a capital commitment for Section 365(o) purposes exists.  On the other hand, because the resolution plans are non-binding, in the context of an actual chapter 11 proceeding, the BHC may distance itself from any such provisions in its submitted DFA Res-Plan(s).
Conclusion
As noted above, only time will tell whether the resolution planning requirements will serve their intended purposes.  In the meantime, the DFA Res-Plan Rule and the IDI Res-Plan Rule impose significant compliance burdens on the covered financial institutions.  Although the FDIC is still soliciting comments on the interim final rule for IDIs, it is unlikely that the general contours of the rule will change substantially when the final rule is issued.  The two rules are substantially similar.  Where they diverge, the differences are a natural consequence of the different financial institutions and resolution regimes at issue. Although the rules provide significant detail about the informational requirements and other features of the resolution plans, several questions regarding their implementation are still unanswered pending practical experience over time.