On July 15, 2022, the Division of Risk Management Supervision (the “Staff”) of the Federal Deposit Insurance Corporation (“FDIC”) published a two-page statement (the “Statement”) “to remind” insured depository institutions (“IDIs”) of their obligation to scrutinize deposits received from broker-dealers and other third parties to determine whether those deposits should be reported as brokered on the IDI’s call report, even when the broker-dealer or third party has filed a notice with the FDIC to claim the primary purpose exception (“PPE”) for those deposits.1 The diligence required of an IDI includes reviewing contracts between a broker-dealer and third-party administrators.
In connection with the Statement, the Staff also issued a new entry in its “Brokered Deposits Q&A” addressing their expectations for IDIs receiving deposits through the PPE. Additionally, the FDIC updated – for the first time in nearly a year – its online list of PPE notice filers and added a new explanatory footnote reminding IDIs that the PPE is unavailable where a third party is “matchmaking.”2
As discussed below, the Staff’s position on this issue is inconsistent with the amendments to the regulations adopted by the FDIC in 2020 (the “Regulations”), as well as the existing Qs&As. By altering the meaning of the Regulations the staff has effectively amended the Regulations without either approval of the Board of Directors or solicitation of comments from the public as required by federal law.
II. Overview of Brokered Deposit Regulations
The Regulations included a new procedure for third parties to claim the PPE when they place deposits at IDIs – targeted at sweep programs, but potentially available to others – in an amount less than 25 percent of the total assets that the third party has under administration for its customers in a given business line.3 Under the Regulations, an entity placing deposits pursuant to the PPE need only file a notice with the FDIC that it is placing deposits in reliance on the PPE, and may rely on the PPE immediately upon the FDIC’s receipt of the notice.
The Regulations further provide that deposits placed at unaffiliated banks through a sweep program will be deemed “brokered” notwithstanding the PPE if another third party provides administrative services to a broker-dealer or others offering sweep programs, and those services are deemed “matchmaking activities.”4
A third party is engaged in “matchmaking activities” if “[t]he person proposes deposit allocations at, or between, more than one bank based upon both (a) the particular deposit objectives of a specific depositor or depositor’s agent, and (b) the particular deposit objectives of specific banks, except in the case of deposits placed by a depositor’s agent with a bank affiliated with the depositor’s agent.”5 The definition is intended to encompass service providers that support the offering of sweep programs by a broker-dealer and others by reviewing customer transaction information and proposing allocations of deposits among banks in a broker-dealer’s sweep program.
III. New Staff Expectations
Despite the fact that under the Regulations a PPE notice is effective as of filing – and notice filers receive an immediate email response from the FDIC upon filing that the notice has been received and may be relied on – the Statement imposes a diligence mandate on IDIs receiving deposits from a PPE notice filer. Pursuant to the Statement, an IDI should “review the agreements between the broker dealer and any additional third party to evaluate and determine whether the additional third party is facilitating the placement of deposits, including by engaging in matchmaking activities.”6
The Staff notes in the Statement that it has reviewed agreements between broker-dealers that have filed PPE notices and third-party sweep program administers and found “the additional third parties are engaging in facilitating the placement of deposits, for example by engaging in matchmaking activities, which meet the deposit broker definition,” thus making the broker-dealers ineligible for the PPE.7 As a result, IDIs receiving deposits from these broker-dealers have misclassified the deposits as non-brokered on their call reports.
The Staff repeated this expectation in new Q&A D.10, stating that “[a] An IDI that receives sweep deposits from an unaffiliated broker dealer with a primary purpose exception for that business line must determine whether there are any additional third parties involved in the deposit placement arrangement that qualify as a deposit broker because the IDI is responsible for accurately reporting the deposits on its Call Report.”8
The Statement and Q&A constitute the third effort by the Staff to limit the amount of sweep deposits placed using the assistance of a third-party administrator that IDIs classify as non-brokered. Previous efforts involved adding Qs&As on two separate occasions to clarify the “matchmaking” definition. The latest Staff actions seem to be a direct response to the FDIC’s receipt of “primary purpose exception notice filings from broker dealers asserting that an additional third party involved in the unaffiliated sweep program provides the broker dealers with ‘administrative services.’”9 In the Staff’s view, these “administrative services” are matchmaking and the deposits are brokered.
IV. Inconsistencies in the FDIC’s Approach
The preamble to the final rule adopting the Regulations (“Preamble”) states that “Upon the FDIC’s receipt of [a PPE notice], the third party that is the subject of the notice may rely upon the applicable designated exception for a particular business line. The FDIC will establish an electronic process for the receipt of notices. This process will include providing the notice filer with an immediate acknowledgement of receipt.”10
The text of the Regulations provides that “The FDIC may, with notice, revoke a primary purpose exception of a third party, or a person required to submit a notice under paragraph (b)(3)(iii) of this section, that qualifies for the primary purpose exception due to reliance on a designated exception, if: (A) The third party no longer meets the criteria for a designated exception; (B) The notice or subsequent reporting is inaccurate; or (C) The notice filer fails to submit required reports.”11
A Q&A published on January 22, 2021 further provides that “A notice that is submitted through the electronic process will be acknowledged immediately upon receipt via a return email. Entities may begin relying upon the primary purpose exception immediately after receipt of the return email acknowledgement, and may continue to rely on the primary purpose exception unless the FDIC notifies the filer that it is not eligible for the primary purpose exception.”12
The process set forth in the Regulations thus appears straightforward: (1) a third party files a PPE notice with the FDIC; (2) an IDI can immediately thereafter rely on the notice and consider deposits placed by the third party to be non-brokered; and (3) if the FDIC believes the third party is not actually eligible for the PPE, it can, with notice, formally revoke the PPE after which time the deposits placed by the third party may be brokered.
The Preamble discusses the limited responsibility of IDIs receiving deposits from PPE notice filers to conduct diligence into their PPE eligibility. While the proposed brokered deposit regulations would have imposed on IDIs a responsibility “for monitoring the nonbank third party’s eligibility for the [PPE],” the Regulations eliminated this requirement, stating: “Given the potential volume of third parties that could qualify for the primary purpose exception, and the idiosyncratic business models that such third parties may have, the FDIC agrees that this expectation is not appropriate.”13
By apparently shifting obligation to determine the validity of a PPE notice from the FDIC to individual IDIs, the Statement and the new Q&A significantly change the procedure adopted by the FDIC Board. The Staff’s publications therefore attempt to amend the clear text of the regulation providing for the effectiveness of a PPE notice until revoked by the FDIC without following the notice and comment procedures of the Administrative Procedure Act.
The Staff is clearly attempting to respond to industry taking advantage of the vague definition of “matchmaking activities” in the Regulations. The Regulations appear to target third party administrators of sweep networks, but the definition is so imprecise that it is vulnerable to good-faith arguments that administrators are not engaged in matchmaking. Rather than re-propose a more functional definition to satisfy its objectives (an action that would necessitate approval by the FDIC Board of Directors), the Staff is attempting to narrow the definition – and thus widen the applicability – of the matchmaking definition by guidance.
We would expect this issue to be a focus of examinations in the coming year, though it does not appear at this time that the FDIC is to attempt to bring enforcement actions.
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Seward & Kissel LLP will continue to provide insight on developments regarding brokered deposits. If you have any questions, please contact Paul Clark or Casey Jennings in the Washington, DC office at 202-737-8833.