Federal Deposit Insurance Corporation

55017th Street NW, Washington, D.C. 20429-9990 Division of Insurance and Research

March 1, 2016

MEMORANDUM TO: The Board of Directors

FROM: Diane Ellis

Director, Division of Insurance and Research

SUBJECT: Final Rule on Implementing the Dodd-Frank Requirement to

Increase the Reserve Ratio from 1.15 Percent to 1.35 Percent

SUMMARY AND RECOMMENDATION

Staff recommends that the FDIC Boai•d of Directors (the Board) adopt the attached final

rule and authorize its publication in the Federal Register.

The final rule implements three provisions of the Dodd-Frank Wall Street Reform and

Consumer Protection Act (Dodd-Frank Act) that: (1) raise the minimum reserve ratio for the

Deposit Insurance Fund (DIF or fund) to 1.35 percent (from the former minimum of 1.15

percent); (2) require that the DIF reserve ratio reach 1.35 percent by September 30, 2020; and (3)

require that, in setting assessments, the FDIC "offset the effect of [the increase in the minimum

reserve ratio from 1.15 percent to 1.35 percent) on insured depository institutions with total

consolidated assets of less than $10,000,000,000."

In a notice of proposed rulemaking adopted by the Board on October 22, 2015, and

published in the Federal Register on November 6, 2015 (NPR), the FDIC sought comment on

every aspect of the proposed rule and on alternatives.l The FDIC received a total of eight

comment letters. Staff considered all comments in developing the final rule. Comments are

discussed in the relevant sections that follow.

As proposed in the NPR, the final rule imposes a surcharge on the regular quarterly

deposit insurance assessments (regular assessments) of insured depository institutions with total

assets of $10 billion or more (large banks). The final rule provides that the surcharge will equal

an annual rate of 4.5 basis points applied to the institution's assessment base (with certain

adjustments).

Staff recommends that the final rule become effective on July 1, 2016. If the reserve

ratio reaches 1.15 percent before that date, surcharges will begin July 1, 2016. If the reserve

1 See 80 FR 68780 (Nov. 6, 2015).

Concur:

~~ ~ '~ ~ /'e. m

Charles Yi ~ ~ "`

General Counsel
ratio has not reached 115 percent by that date, surcharges will begin the first day of the calendar

quarter after the reserve ratio reaches 1.15 percent. (Lower regular assessment rates will take

effect the quarter after the reserve ratio reaches 1.15 percent.) Staff expects that surcharges will

commence in the second half of 2016 and that they should be sufficient to raise the reserve ratio

to 1.35 percent in approximately eight quarters; i.e., before the end of 2018. Surcharges will

continue through the quarter that the reserve ratio first reaches or exceeds 1.35 percent, but not

later than December 31, 2018.

If, contrary to staff's expectations, the reserve ratio does not reach 1.35 percent by

December 31, 2018 (provided it is at least 1.15 percent), the final rule provides that the FDIC

will impose a shortfall assessment on any bank that was subject to the surcharge (large bank).

To satisfy the Dodd-Frank Act requirement that the FDIC offset the effect of the increase

in the reserve ratio from 1.15 percent to 1.35 percent on insured depository institutions with total

assets of less than $10 billion, the final rule provides assessment credits (credits) to these

institutions (small banks) for the portion of their regular assessments that contribute to growth in

the reserve ratio between 1.15 percent and 1.35 percent.2

The final rule adopts the proposal in the NPR with a few changes. First, the NPR

proposed that the assessment bases of large banks be increased (for purposes of the surcharge) by

the entire regular assessment bases of affiliated small banks.3 In response to a comment, the

final rule adds to a large bank's surcharge base each quarter only the amount of any net increase

in affiliated small banks' aggregate. assessment bases in excess of 10 percent per annum from

December 31, 2015. Second, the final rule provides that after the reserve ratio reaches 1.38

percent (rather than 1.40 percent as proposed in the NPR), the FDIC will automatically apply a

small bank's credits to reduce its regular assessment up to the entire amount of the assessment,

rather than limiting credit use to an annual rate of 2 basis points as proposed in the NPR.

DISCUSSION

Policy Objectives

Both the Dodd-Franlc Act and the Federal Deposit Insurance Act (FDI Act) grant the

FDIC broad authority to implement the requirement to achieve the 1.35 percent minimum

reserve ratio. In particular, under the Dodd-Franlc Act, the FDIC is authorized to take such steps

as may be necessary for the reserve ratio to reach 1.35 percent by September 30, 2020.

Furthermore, under the FDIC's special assessment authority in section 7(b)(5) of the FDI Act,

the FDIC may impose special assessments in an amount determined to be necessary for any

purpose that the FDIC may deem necessary.

2 As used in this final rule, the term "bank" has the same meaning as "insured depository institution" as defined in

section 3 of the FDI Act, 12 U.S.C. 1813(c)(2). In general, but with some exceptions, a "small institution" is an

insured depository institution with assets of less than $10 billion or an insured branch of a foreign institution.

3 As used in the final rule, the term "affiliate" has the same meaning as defined in section 3 of the FDI Act, 12

U.S.C. 3(w)(6), which references the Bank Holding Company Act ("any company that controls, is controlled by, or

is under common control with another company"). 12 U.S.C. 1841(k).

2
The purpose of the final rule is to meet the Dodd-Frank Act requirements in a manner

that appropriately balances several considerations, including the goal of reaching the minimum

reserve ratio reasonably promptly in order to strengthen the fund and reduce the risk of procyclical assessments, the goal of maintaining stable and predictable assessments for banks over

time, and the projected effects on bank capital and earnings. The primary mechanism described

below for meeting the statutory requirements —surcharges on regular assessments —will ensure

that the reserve ratio reaches 1.35 percent without inordinate delay (likely in 2018) and will

ensure that assessments are allocated equitably among banks responsible for the cost of reaching

the minimum reserve ratio.

Background

The Dodd-Frank Act gave the FDIC greater discretion to manage the DIF than it had

previously, including greater discretion in setting the target reserve ratio, or designated reserve

ratio (DRR), which the FDIC must set annually.4 The FDIC Board has seta 2 percent DRR for

each year starting with 201 l.s The Board views the 2 percent DRR as a long-term goal.

By statute, the FDIC also operates under a Restoration Plan while the reserve ratio

remains below 1.35 percent.6 The Restoration Plan, originally adopted in 2008 and subsequently

revised, is designed to ensure that the reserve ratio will reach 1.35 percent by September 30,

2020.

In February 2011, the FDIC adopted a final rule that, among other things, contained a

schedule of deposit insurance assessment rates that apply to regular assessments that banks pay.

The FDIC noted when it adopted these rates that, because of the requirement making banks with

$10 billion or more in assets responsible for increasing the reserve ratio from 1.15 percent to

1.35 percent, "assessment rates applicable to all insured depository institutions need only be set

high enough to reach 1.15 percent" before the statutory deadline of September 30, 2020. The

February 2011 final rule left to a later date the method for assessing banks with $10 billion or

more in assets for the amount needed to reach 1.35 percent.

In the February 2011 final rule, the FDIC also adopted a schedule of lower regular

assessment rates that will go into effect once the reserve ratio of the DIF reaches 1.15 percent.

These lower regular assessment rates will apply to all banks' regular assessments. Regular

`~ 12 U.S.C. 1817(b)(3)(A)(i).

5 A DRR of 2 percent was based on a historical analysis as well as on the statutory factors that the FDIC must

consider when setting the DRR. In its historical analysis, the FDIC analyzed historical fund losses and used

simulated income data from 1950 to 2010 to determine how high the reserve ratio would have to have been before

the onset of the two banking crises that occurred during this period to maintain a positive fund balance and stable

assessment rates.

6 12 U.S.C. 1817(b)(3)(E).

~ The Restoration Plan originally stated that the FDIC would pursue rulemaking on the offset in 2011, but in 2011

the Board decided to postpone rulemaking until a later date.

3
assessments paid under the schedule of lower rates are intended to raise the reserve ratio

gradually to the long-term goal of 2 percent.$

Staff expects that, under the current assessment rate schedule, the DIF reserve ratio will

reach 1.15 percent in the first half of this year.

Description of the Final Rule

Surchar es

SuNcharge Rate and Duration

As proposed in the NPR, to implement the requirements of the Dodd-Franlc Act and

pursuant to the FDIC's authority in section 7 of the FDI Act, the final rule adds a surcharge to

the regular assessments of banks with $10 billion or more in assets. Also as proposed in the

NPR, the final rule provides that the surcharge will begin the quarter after the DIF reserve ratio

first reaches or exceeds 1.15 percent and will continue until the reserve ratio first reaches or

exceeds 1.35 percent, but no later than the fourth quarter of 2018.9 The final rule provides that,

for each quarter, the FDIC will notify banks that will be subject to the surcharge and infoi~n

those banks of the amount of the surcharge within the timeframe that applies to notification of

regular assessment amounts,lo

As proposed in the NPR, the final rule provides that the annual surcharge rate will be 4.5

basis points, which staff expects will be sufficient to raise the reserve ratio from 1.15 percent to

1.35 percent in 8 quarters, before the end of 2018.

Comments Received

The FDIC received several comments on the surcharge rate and estimated surcharge

period. In a joint comment letter, three trade groups stated that a "strong" majority of large

banks that they surveyed favored an alternative discussed in the NPR of charging lower

surcharges over a longer period and imposing a shortfall assessment only if the reserve ratio has

not reached 1.35 percent by a date nearer the statutory deadline. Specifically, the trade groups

proposed an annual surcharge of no more than 2.25 basis points to reach 1.35 percent in 14

8 On June 16, 2015, the Board adopted a notice of proposed rulemaking that would revise the risk-based pricing

methodology for• established small institutions. See 80 FR 40838 (July 13, 2015). On January 21, 2016, the Board

adopted a second notice of proposed rulemaking that would revise parts of the proposal adopted by the Board in

2015. The revised proposal would leave the overall range of initial assessment rates and the assessment revenue

expected to be generated unchanged from the current assessment system for established small institutions. See 81

FR 6108 (Feb. 4, 2016).

9 As discussed below, the final rule will become effective on July 1, 2016. If the reserve ratio reaches 1.15 percent

before that date, surcharges will begin July 1, 2016. If the reserve ratio has not reached 1.15 percent by that date,

surcharges will begin the first day of the calendar quarter after the reserve ratio reaches 1.15 percent.

to As with regular assessments, surcharges will be paid one quarter in ai-~•ears, based on the bank's previous quarter

data and will be due on the 30"' day of the last month of the quarter.
quarters, and a shortfall, if needed, to be assessed in the first quarter of 2020.11 A few other

commenters supported the three trade groups' proposal.

One commenter supported an alternative discussed in the NPR of foregoing surcharges

entirely and, if the reserve ratio does not reach 1.35 percent by a deadline sometime near the

statutory deadline, imposing a delayed shortfall assessment at the end of the following quarter.

On the other hand, the joint comment letter submitted by the three trade groups did note

that a few large banks surveyed supported the proposed surcharge rate and timeline in the NPR,

while a few others favored aone-time assessment once the reserve ratio first reaches 1.15 percent

(an alternative also discussed in the NPR). One bank in its comment letter also preferred a onetime assessment just after the reserve ratio first reaches or exceeds 1.15 percent in order to raise

the reserve ratio closer to 1.35 percent (but not all the way to 1.35 percent) sooner than would

occur under the proposal. Another trade group preferred charging surcharges over a shorter

timeframe —four quarters —but found that the proposal in the NPR and aone-time assessment

just after the reserve ratio first reaches or exceeds 1.15 percent were also reasonable options.

In staff's view, the final rule strikes an appropriate balance among these options after

considering: (1) the statutory deadline for reaching the minimum reserve ratio; (2) the

impoz-tance of strengthening the fund's ability to withstand a spike in losses; (3) the goal of

reducing the risk of larger assessments for the entire industry in a future period of stress; and (4)

the effects on the capital and earnings of surcharged banks.

Staff expects that surcharges will result in the reserve ratio reaching 1.35 percent in 2018.

Reaching the statutory target reasonably promptly and in advance of the statutory deadline has

benefits. First, it strengthens the fund so that it can better withstand an unanticipated spike in

losses from bank failures or the failure of one or more large banks.

Second, it reduces the risk of the banking industry facing unexpected, large assessment

rate increases in a future period of stress. Once the reserve ratio reaches 1.35 percent, the

September 30, 2020 deadline in the Dodd-Frank Act will have been met and will no longer

apply. If the reserve ratio later falls below 1.35 percent, even if that occurs before September 30,

2020, the FDIC will have a minimum of eight years to return the reserve ratio to 1.35 percent,

reducing the likelihood of a large increase in assessment rates. In contrast, if a spike in losses

occurs before the reserve ratio reaches 1.35 percent, the Dodd-Franlc Act deadline will remain in

place, which could require that the entire banking industry —including banks with less than $10

billion in assets, if the reserve ratio falls below 1.15 percent —pay for the increase in the reserve

ratio within a relatively short time. The final rule, therefore, reduces the risk of higher

assessments being imposed at a time when the industry might not be as healthy and prosperous

and could less afford to pay.

11 The h•ade groups noted that leaving the current assessment rate schedule in place when the reserve ratio reaches

1.15 percent would be roughly equivalent to an annual surcharge of no more than 2.25 basis points to reach 1.35

percent in 14 quarters.

5
In addition, large banks will account for future surcharges in the quarterly report of

condition and income (Call Report) and other banking regulatory reports based on generally

accepted accounting principles (GAAP) as quarterly expenses, as they do for regular

assessments, effectively spreading the cost of the requirement over approximately eight quarters

in a simple, predictable manner.

In contrast, a longer surcharge period or a delayed one-time assessment without

surcharges would reduce the fund's ability to withstand a spike in losses and increase the risk of

larger assessments for the entire industry in a future period of stress.

Five comment letters also stated that, rather than imposing a separate surcharge at a

uniform rate, the FDIC should implement surcharges in a risk-based manner.12 One commenter

argued that arisk-based surcharge would provide incentives to manage risk. Some commenters

suggested foregoing a surcharge and instead leaving in place the current risk-based assessment

rate schedule when the reserve ratio reaches 1.15 percent, rather than the lower one that is

scheduled to go into effect. One commenter also recommended that surcharges be integrated

into risk-based assessments in a way that maintains banks' incentives to hold long-term

unsecured debt.13

The final rule uses aflat-rate surcharge. As one commenter acknowledged, while the

FDI Act requires that regular assessments be risk-based, no such requirement exists for special

assessments.14 In fact, the most recent special assessment, imposed in 2009, was also aflat-rate

assessment, and, in 1996, Congress imposed aflat-rate special assessment on banks that held

deposits insured by the Savings Association Insurance Fund. In addition, nothing in the DoddFrank Act requires arisk-based assessment to raise the minimum reserve ratio from 1.15 percent

to 1.35 percent.

Banks subject to the surcharge will continue to pay risk-based regular deposit insurance

assessments. As a result, they will still have the incentives they now have to prudently,manage

risk and to issue long-term unsecured debt.

Moreover, because banks' risk profiles change over time, aggregate assessments using a

risk-based surcharge would be more prone to vary than will aflat-rate surcharge. This variance

would reduce the predictability of sLucharge revenue and create additional uncertainty regarding

the needed rates and the time required for the reserve ratio to reach 1.35 percent. Banks

themselves would have less predictable surcharge assessments.

lZ Suggested methods for implementing arisk-based surcharge included a surcharge based on a multiple of a bank's

initial base assessment rate, avariable-rate surcharge, or imposing the surcharge only on the weakest or riskiest

banks.

13 A bank's total base assessment rate can vary from its initial base assessment rate as the result of three possible

adjustments. One of these adjustments, the unsecured debt adjustment lowers a bank's assessment rate based on the

bank's ratio of long-term unsecured debt to the bank's assessment base. 12 CFR 327.9(d).

t`~ Compare 12 U.S.C. 1817(b)(1), requiring arisk-based deposit insurance assessment system, with 12 U.S.C.

1817(b)(5), which allows the FDIC to impose special assessments and contains no requirement that they be riskbased.
Banks Subject to the Surcharge

As proposed in the NPR, the final rule provides that the banks subject to the surcharge

(large banks) will be determined each quarter based on whether the bank was a "large

institution" or "highly complex institution" for purposes of that quarter's regular assessments.ls

Generally, this includes institutions with total assets of $10 billion or more; however an insured

branch of a foreign bank whose assets equal or exceed $10 billion will also be considered a large

bank and will be subject to the surcharge,i~

Comments Received

The FDIC received two comments fiom trade groups on which banks should be subject to

the surcharge. One commenter suggested that the surcharge should not apply to mid-size banks

and should only apply to highly complex banks, while another commenter proposed that the

surcharge be restricted to only the largest banks, those considered "too big to fail," or those

controlling a large share of industry assets. As an alternative to their suggestions, both

commenters proposed that the FDIC increase the $10 billion deduction from large banks'

assessment bases for the surcharge (discussed below), for example, to $25 billion or $50 billion,

which would effectively exempt banks with total assets under these threshold amounts from

siucharges.

Staff has identified no compelling basis to distinguish between large banks based on any

particular asset size or other profile. Further, the final rule is consistent with the statutory

language. The Dodd-Frank Act requires the FDIC to "offset the effect of [the increase in the

minimum reserve ratio] on insured depository institutions with total consolidated assets of less

than $10,000,000,000," and unlike other parts of the Act, there is no indication that section

334(e) should apply only to banks of a certain size or that engage in certain activities. The

apparent purpose of the Act's requirement was to insulate banks with less than $10 billion in

total assets from the cost of the increase in the minimum reserve ratio. The final rule

appropriately meets this requirement.

's In general, a "large institution" is an insured depository institution with assets of $10 billion or more as of

December 31, 2006 or a small institution that reports assets of $10 billion or more in its quarterly reports of

condition for four consecutive quartets. If an institution classified as large reports assets of less than $10 billion in

its quarterly reports of condition for four consecutive quarters, the FDIC will reclassify the institution as small

beginning the following quarter. In general, a "highly complex institution" is: (1) an insured depository institution

(excluding a credit card bank) that has had $50 billion or more in total assets for at least four consecutive quarters

that is controlled by a U.S. parent holding company that has had $500 billion or more in total assets for four

consecutive quarters, or controlled by one or more intermediate U.S. parent holding companies that are controlled by

a U.S. holding company that has had $500 billion or more in assets for four consecutive quarters; or (2) a processing

bank or trust company. If an institution classified as highly complex fails to meet the definition of a highly complex

institution for four consecutive quarters (or reports assets of less than $10 billion in its quarterly reports of condition

for foie consecutive quarters), the FDIC will reclassify the institution beginning the following quarter.

16 For purposes of the final rule, an insured branch of a foreign bank whose assets for the most recent quarter

equaled or exceeded $10 billion will also be considered a large bank and will be subject to the surcharge. A large

bank also includes a small institution if, while surcharges were in effect, the small institution was the surviving

institution or resulting institution in a merger or consolidation with a large bank or if the small institution acquired

all or substantially all of the assets or assumed all or substantially all of the deposits of a large bank.

7
The FDIC is cognizant of the concerns of large banks near the $10 billion tlueshold. As a

practical matter, the $10 billion deduction from large banks' assessment bases for the surcharge

has the effect of shifting the burden of the surcharges towards larger banks. While, as discussed

later, the purpose of the $10 billion deduction is to avoid a "cliff effect" for banks near the $10

billion asset tlueshold, it has the concomitant effect of benefitting large banks closer in size to

the $10 billion asset threshold relatively more than larger banks, since the relative effect of the

$10 billion deduction decreases as asset size increases. Based on data as of December 31, 2015,

the simple average effective surcharge rate (the surcharge rate if applied to a bank's regular

quarterly deposit insurance assessment base) for banks with assets between $10 billion and $50

billion will be approximately half the simple average effective rate for banks with assets greater

than $100 billion. In fact, with lower regular assessment rates scheduled to take effect when the

reserve ratio reaches 1.15, percent, more than half (36 out of 67) of large banks with total assets

between $10 billion and $50 billion and roughly one-third of all large banks are expected to pay

an effective assessment rate, even with the surcharge, that is lower than their current assessment

rate.

Banks' Assessment Bases fog the Surcharge

Under the final rule, each large bank's surcharge base for any given quarter will equal its

regular quarterly deposit insurance assessment base (regular assessment base) for that quarter

with certain adjustments.

The first adjustment under the final rule differs from the NPR, but is similar to an

alternative method of detei~rnining the surcharge base on which the NPR requested comment.

The NPR would have added the entire regular assessment bases of affiliated small banks to the

surcharge bases of large bank affiliates, but sought comment on an alternative that would add

only the amount of any increase in the regular assessment bases of affiliated small banks. In

response to a joint comment letter from three trade groups and after balancing all the

considerations expressed in the NPR, the final rule adds to a large bank's surcharge base each

quarter only the cumulative net increase in the aggregate regular assessment bases of affiliated

small banks above the aggregate regular assessment bases as of December 31, 2015 of affiliated

small banks that is in excess of an effective annual rate of 10 percent.l~

Adding cumulative growth in excess of an effective annual rate of 10 percent in the

regular assessment bases of affiliated small banks to the assessment bases of their large bank

affiliates limits the ability of large banks to reduce their surcharges (and potentially shift costs to

other large banks) either by transferring assets and liabilities to existing or new affiliated sma11

banks or by growing the businesses of affiliated small banks instead of the large bank without

unduly constraining the normal growth of the affiliated small banks.18

Including only the amount of any cumulative net increase that is in excess of an effective

annual rate of 10 percent in the aggregate regular assessment bases of affiliated small banks,

17 As of December 31, 2015, 19 banking organizations had both large and small banks.

18 As noted in the NPR, however, some large banks maybe able to shift the burden of the surcharge by transferring

assets and liabilities to a nonbank affiliate, or by shrinking or limiting growth.
rather than their entire assessment bases as proposed in the NPR, will have only a very small

effect on total surcharge revenue and is unlikely to increase the number of quarters that

surcharges ase in effect.

The second adjustment is as proposed in the NPR. It deducts $10 billion fiom a large

bank's regular assessment base (as increased by the first adjustment) to produce the surcharge

base. Deducting $10 billion from each large bank's assessment base for the surcharge avoids a

"cliff effect" for banks near the $10 billion asset threshold, thereby ensuring equitable treatment.

Otherwise, a bank with just over $10 billion in assets would pay significant surcharges, while a

bank with $9.9 billion in assets would pay none. The $10 billion reduction reduces incentives

for banks to limit their growth to stay below $10 billion in assets, or to reduce their size to below

$10 billion in assets, solely to avoid surcharges.

In a banking organization that includes more than one large bank, both (1) the $10 billion

deduction, and (2) the cumulative net increase in affiliated small banks' regular assessment bases

exceeding a 10 percent effective annual rate will be apportioned among all large banks in the

banking organization in proportion to each large bank's regular assessment base for that

quarter.19

Comments Received

The FDIC received one joint comment letter from three trade groups related to the first

adjustment. As proposed in the NPR, the first adjustment would have added the entire regular

assessment bases of affiliated small banks to the surcharge bases of large bank affiliates. The

joint comment letter opposed adding any portion of the assessment bases of small bank affiliates

to large banks, but argued that, if any addition were to occur, it should be limited to no more than

any increase in the assessment bases of small bank affiliates above "normal growth" after

surcharges begin.20 As described above, the final rule uses the net increase in excess of a 10

percent effective annual rate in the aggregate regular assessment bases of affiliated small banks

above their aggregate regular assessment bases as of December 31, 2015.

19 As of December 31, 2015, 9 banking organizations had multiple affiliated large banks.

20 The joint comment letter argued that the proposed addition of the entu•e regular assessment bases of affiliated

small banks to the surcharge bases of large bank affiliates "would abrogate the intent of [Sec.] 334 [of the DoddFrank Act] by imposing de facto assessment surcharges on small banks affiliated with large banks, albeit indirectly

by assessing their larger affiliates," and, therefore, these small banks would not receive a full offset for their

contribution towards raising the reserve ratio from 1.15 percent to 1.35 percent. In fact, however, small bank

affiliates of large banks will not pay any surcharge assessment and will be entitled to credits on the same basis as all

other small banks.

The joint comment letter also argued that Sec. 334 of the Dodd-Frank Act does not authorize the FDIC to augment

large banks' assessment bases with those of their small bank affiliates. In fact, however, the Dodd-Frank Act and

the FDI Act give the FDIC broad authority to determine the amount of any special assessments, including the

surcharges, and thus an appropriate assessment base for the stucharge. See Public Law 111-203, 334(e), 124 Stat.

1376, 1539 (12 U.S.C. 1817(note)); 12 U.S.C. 1817(b)(5). The FDI Act contains no provisions mandating any

particular assessment base for a special assessment.
The FDIC received three comments related to the second adjustment, the deduction of

$10 billion from a large bank's assessment base and apportioning the deduction among all large

banks in the banking organization. Two commenters proposed a larger deduction (discussed

above). A joint comment letter submitted by tluee trade groups proposed that bank holding

companies with multiple large banks be allowed to deduct $10 billion for each large bank,

arguing that limiting large banks in a bank holding company to a single $10 billion deduction

"discriminates against banl~ing organizations with multiple affiliated large banks."

The provisions in the final rule regarding the second deduction are unchanged from those

proposed in the NPR. Allocation of the $10 billion deduction among affiliated large banks

ensures that banking organizations of a similar size (in terms of large bank assessment bases) pay

a similar surcharge. Thus, a banking organization with multiple large banks will not have an

advantage over other similarly sized banking organizations that have only one large bank

because, instead of deducting $10 billion from each large bank in the organization, the deduction

will be apportioned among the multiple affiliated large banks.

Moreover, allowing each large bank in a banking organization to take a $10 billion

deduction could, in effect, penalize the large majority of banking organizations that do not have

more than one large bank by increasing the risk that surcharges would last longer than

envisioned under the proposal.

Shortfall Assessment

Staff expects that surcharges combined with regular assessments will raise the reserve

ratio to 1.35 percent before December 31, 2018. It is possible, however, that unforeseen events

could result in higher DIF losses or faster insured deposit growth than expected, or that banks

may take steps to reduce or avoid quarterly surcharges. While not expected, these events or

actions could prevent the reserve ratio from reaching 1.35 percent by the end of 2018. In this

case, provided the reserve ratio is at least 1.15 percent, the final rule provides that the FDIC will

impose a shortfall assessment on large banks.21

The provisions in the final rule regarding the shortfall assessment are as proposed in the

NPR. If the reserve ratio has not reached 1.35 percent by the end of 2018, the final tole provides

that the FDIC will impose a shortfall assessment on large banks on March 31, 2019 and collect it

on June 30, 2019. The aggregate amount of the shortfall assessment will equal 1.35 percent of

estimated insured deposits on December 31, 2018 minus the actual fund balance on that date.

If a shortfall assessment is needed, the final rule provides that it will be imposed on any

bank that was a large bank in any quarter during the period that surcharges are in effect (the

surcharge period). Each large bank's share of any shortfall assessment will be proportional to

the average of its surcharge bases (the average surcharge base) during the surcharge period. If a

21 The final rule also contains provisions identical to those proposed in the NPR describing how a shortfall

assessment would be imposed in the unlikely event that the reserve ratio is below 1.15 percent on December 31,

2018.

10
bank was not a large bank dLuing a quarter of the surcharge period, its surcharge base will be

deemed to equal zero for that quarter.22' 23

A large bank's share of the total shortfall assessment will equal its average surcharge

base divided by the sum of the average surcharge bases of all large banks subject to the shortfall

assessment. Using an average of surcharge bases ensures that anomalous growth or shrinkage in

a large bank's assessment base will not subject it to a disproportionately large or small share of

any shortfall assessment.

Comments Received

In addition to the comments discussed above regarding the duration of the surcharge and

timing of any required corresponding shortfall assessment, the FDIC received two other

comments on the shortfall assessment. One commenter suggested that the shortfall assessment,

in addition to the surcharges, should only be applied to "highly complex" banks. Another

commenter stated that the shortfall assessment and surcharges should be risk-based.

For the reasons discussed previously in connection with the surcharge assessment, the

shortfall assessment in the final rule is as proposed in the NPR. If a shortfall assessment is

necessary, the expected revenue based on the calculation method adopted will be much more

predictable than the expected revenue from arisk-based method. In previous special

assessments, the FDIC used a uniform rate, rather than arisk-based rate, and large banks will

continue to pay risk-based regular assessments. Moreover, as also noted above, neither the

statute nor its legislative history suggests that only highly complex banks should be responsible

for raising the reserve ratio from 1.15 percent to 1.35 percent. The statute requires that the FDIC

offset the effect of the increase in the minimum reserve ratio on banks with less than $10 billion

in consolidated assets.

Credits for Small Banks

While the reserve ratio remains between 1.15 percent and 1.35 percent, some portion of

the regular assessments paid by small banks will contribute to increasing the reserve ratio. To

meet the Dodd-Franlc Act requirement to offset the effect on small banks of raising the reserve

ratio from 1.15 percent to 1.35 percent, the final rule provides that the FDIC will provide

assessment credits to these banks for the portion of their regular assessments that contribute to

the increase from 1.15 percent to 1.35 percent.24 The provisions in the final rule governing how

22 Thus, for example, if a large bank were subject to a shortfall assessment because it had been subject to a surcharge

for only one quarter of the surcharge period, the bank's surcharge base for seven quarters would be deemed to be

zero and its average surcharge base would be its single positive surcharge base divided by eight (assuming that the

sw•charge period had lasted eight quarters).

z3 The final rule also contains provisions regarding the banks that are subject to a potential shortfall in the event of

mergers, consolidations or other acquisitions.

2`~ Small banks will not be entitled to any credits for the quarter in which a shortfall is assessed because large banks

will be responsible for the entire remaining amount needed to raise the reserve ratio to 1.35 percent.

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credits are calculated and awarded are as proposed in the NPR. The final rule provides that the

FDIC will apply credits to reduce future regular deposit insurance assessments.

Aggregate Amortnt of Credits

As proposed in the NPR, to detei7nine the aggregate amount of credits awarded small

banks, the final rule provides that the FDIC will first calculate 0.2 percent of estimated insured

deposits (the difference between 1.35 percent and 1.15 percent) on the date that the reserve ratio

first reaches or exceeds 1.35 percent.25 The amount that small banks contributed to this increase

in the DIF through regular assessments —and the resulting aggregate amount of credits to be

awarded small banks —will equal the small banks' portion of all large and small bank regular

assessments during the "credit calculation period" times an amount equal to the increase in the

DIF calculated above less surcharges. (The "credit calculation period" covers the period

beginning the quarter after the reserve ratio first reaches or exceeds 1.15 percent through the

quarter that the reserve ratio first reaches or exceeds 1.35 percent (or December 31, 2018, if the

reserve ratio has not reached 1.35 percent by then).) Surcharges will be subtracted from the

increase in the DIF calculated above before determining the amount by which small banks

contributed to that increase because surcharges are intended to increase the reserve ratio above

1.15 percent, not to maintain it at 1.15 percent.

Staff projects that the aggregate amount of credits will total approximately $1 billion, but

the actual amount of credits may differ.

The FDIC received only one comment on the proposed method of determining the

aggregate amount of small bank credits. That comment, from a trade group, suppot~ted the

proposal.

Individual Small Banks' CNedits

As proposed in the NPR, credits will be awarded to any bank, including a small bank

affiliate of a large bank, that was a small bank at some time during the credit calculation period.

An individual small bank's share of the aggregate credit (a small bank's credit share) will be

propot~tional to its credit base, defined as the average of its regular assessment bases during the

credit calculation period.26

By making a small bank's credit share proportional to its credit base rather than, for

example, its actual assessments paid, the final rule reduces the chances that a riskier bank

assessed at higher than average rates will receive credits for these higher rates. The final rule

thus reduces the incentive for banks to take on higher risk.

25 If the reserve ratio does not reach 1.35 percent by December 31, 2018, the amount calculated will be the increase

in the DIF needed to raise the DIF reserve ratio from 1.15 percent to the actual reserve ratio on December 31, 2018;

that amount equals the DIF balance on December 31, 2018 minus 1.15 percent of estimated insured deposits on that

date.

26 The final rule contains provisions related to the calculation of a small bank's credit base in the event of merger or

consolidation.

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The FDIC received no comments on this part of the proposal.

Successors

The final rule provides that, if any bank acquires a bank with credits through merger or

consolidation after the DIF reserve ratio reaches 1.35 percent, the acquiring bank will acquire the

credits of the acquired small bank. Other than through merger or consolidation, credits are not

transferable.27 Also, credits held by a bank that fails or ceases being an insured depository

institution will expire. These provisions are as proposed in the NPR.

Use of Credits

The final rule provides that after the reserve ratio reaches 1.38 percent (and provided that

it remains at or above 1.38 percent), the FDIC will automatically apply a small bank's credits to

reduce its regular deposit insurance assessment up to the full amount of the bank's credits or

assessment, whichever is less.28 In response to comments, this pot~tion of the final rule differs

from the proposal in two ways. First, the final rule allows credit use as long as the reserve ratio

is at or above 1.38 percent, rather than when it is at or above 1.40 percent as proposed in the

NPR. Under the FDI Act, the Board is required to adopt a restoration plan if the reserve ratio

falls below 1.35 percent. Allowing credit use only when the reserve ratio is at or above 1.38

percent should provide sufficient cushion for the DIF to remain above 1.3 5 percent in the event

of rapid growth in insured deposits and ensure that credit use alone will not result in the reserve

ratio falling below 1.35 percent. Allowing credit use before the reserve ratio reaches this level,

however, would create a greater risk of the reserve ratio falling below 1.35 percent, triggering the

need for a restoration plan.29

27 A joint comment letter from three trade groups recommended that the FDIC allow a small bank to sell or transfer

its credits. The final rule does not adopt this recommendation because of the small amount of expected credits, the

short period they are expected to last, and the low number of banks that used transfer provisions in the past. The

credits to be awarded pursuant to this final rule are expected to be relatively small (approximately $1 billion in

credits compared to approximately $4.7 billion in credits awarded pursuant to the Federal Deposit Insurance Reform

Act of 2005 (Reform Act). See 71 FR 61374 (Oct. 18, 2006) implementing one-time assessment credits awarded

pursuant to the Reform Act. Credits awarded under the Reform Act also lasted considerably longer than the credits

to be awarded under the final rule are expected to last. Over 50 percent of banks still had credits remaining under

the Reform Act after five quarters and over 20 percent had credits remaining after eight quarters, while vu-tually all

banks are expected to use up credits awarded under the final rule in five quarters or less. In addition, although the

credits awarded under the Reform Act were transferrable, 71 FR at 61377, only one-half percent of banks (36 banks)

actually transferred them (other than through merger). Similarly, although the FDIC allowed banks to transfer

unused portions of approximately $45.7 billion in assessments that were prepaid at the end of 2009, 74 FR, 59056,

59060 (Nov. 17, 2009), only 20 banks actually transferred any of their prepaid assessment amounts (again, other

than through merger). While credits are not t~~ansfeimable under the final rule, the final rule provides that all banks

may use credits to fully offset thee• assessments, and the final rule provides that credits may be used earlier than

proposed in the NPR —when the reserve ratio reaches 1.3 8 percent, rather than 1.40 percent.

28 Any credits in excess of a bank's assessment will be used to fully offset a bank's entn~e deposit insurance

assessments in future quarters until credits are e~austed, as long as the reserve ratio exceeds 1.38 percent.

z9 Also, allowing credit use before the reserve ratio reaches 1.35 percent, as one bade group suggested, would delay

the reserve ratio's reaching 1.35 percent and would add complexity because credits would have to be estimated and

later adjusted, since the actual amount of credits will not be known until the reserve ratio reaches 135 percent.

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Second, the final rule provides that credits available to an institution maybe used to

offset the institution's entire quarterly regular assessment, rather than limiting credit use to an

annual rate of 2 basis points as proposed in the NPR.

Also, the final rule includes provisions regarding notices of credits and allowing a small

bank that disagrees with the FDIC's computation of, or basis for, its credits to request review or

appeal. These provisions are unchanged fiom those proposed in the NPR. The FDIC received

no comments on this pant of the proposal.

Economic Effects

Staff estimates that the FDIC will collect approximately $10 billion in surcharges and

award approximately $1 billion in credits to small banks, although actual amounts could vary

from these estimates. Staff projects that a shortfall assessment will be unnecessary. For all or

almost all large banks, the effective surcharge annual rate measured against large banks' regular

assessment base will be less than the nominal slucharge rate of 4.5 basis points because of the

$10 billion deduction. Staff projects that the net effect of the lower assessment rates going into

effect when the reserve ratio reaches 1.15 percent and the imposition of the surcharge will result

in lower assessments for approximately one-third of all large banks.

As discussed above, the benefits of the final z~ule will be to quickly strengthen the fund's

ability to withstand an unanticipated spike in losses and reduce the risk of larger assessments for

the entire industry. Under the final rule, the cost of raising the minimum reserve ratio will be

spread over approximately eight quarters and calculated in a simple, predictable manner.

Capital and Earnings Analysis

Consistent with section 7(b)(2)(B) of the FDI Act, staff estimated the effects of a

surcharge on the equity capital and earnings of large banks as of December 31, 2015. As of that

date, there were 1081arge banks.

The analysis revealed no significant capital effects from the surcharge. All large banks

continue to maintain a 4 percent leverage ratio, at a minimum, both before and after the

imposition of the surcharge.

The annual surcharge also represents only a small percentage of bank earnings for most

large banks. On average, the annual surcharge represents about 2.4 percent of large banks' pretax earnings before extraordinary items. The annual surcharge represents more than 5 percent of

annual income for less than 10 percent of large banks and the maximum it represents at any

single bank is about 10 percent of annual earnings.3o

3o Fow• large banks were excluded fi~om the income analysis. One is an insured branch of a foreign bank and does

not report income in its Report of Assets and Liabilities of U.S. Branches and Agencies of Foreign Banks. The other

tlu~ee reported negative income for the 12 months ending December 31, 2015.

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Alternatives Considered

In the NPR, the FDIC solicited comment on a number of alternatives. The FDIC

received several comments on each of the alternatives. Comments are discussed in the relevant

sections above.

Implementation of the Final Rule

Staff recommends that the final rule become effective on July 1, 2016. If the reserve

ratio reaches 1.15 percent before that date, surcharges will begin July 1, 2016. If the reserve

ratio has not reached 1.15 percent by that date, surcharges will begin the first day of the calendar

quarter after the reserve ratio reaches 1.15 percent.

Staff contacts:

DIR

Munsell St. Clair, Chief, Banking and Regulatory Policy Section, (202) 898-8967

Legal Division

Nefretete Smith, Senior Attorney, (202) 898-6851

James Watts; Senior Attorney, (202) 898-6678

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