June 18, 2014

What to Do When the FDIC Becomes Your Lender


By Brad Eriksen

Winter 2010

The recent financial crisis has caused a record number of banks to fail, with state and federal banking authorities riding to the rescue. When regulators shut down a failed financial institution, one of two things is likely to happen. The regulators arrange a sale of the bank to a healthier financial institution. In that case, the new financial institution buys both the assets (loans) and liabilities (deposits) of the failed bank. If a sale of the failed financial institution is not possible, the FDIC takes over the failed bank in its receivership capacity. When this happens, the FDIC effectively becomes your lender. The FDIC's responsibility as the receiver is to liquidate the assets (loans) of the failed bank. The FDIC's options in liquidating the loans are necessarily limited. The loans can be collected or the loans can be sold.

When collecting the loans of a failed financial institution, the FDIC has limited authority to negotiate discounted payoffs of the loans. By law, the FDIC must discount the loan payoff by the amount of any costs of cover incurred by the borrower, which includes all costs and expenses incurred by the borrower (excluding higher interest charges) in obtaining new financing to replace the FDIC-controlled loans. Depending on the financial condition of the borrower and the value of any collateral securing the loan, the FDIC may be willing to negotiate further discounts, if the FDIC determines it will realize a greater overall recovery.

The FDIC rarely initiates collection actions on loans in its portfolio. Rather, loans that are not paid are typically bundled and sold off to investors. Depending on a number of factors, investors may pay 20 cents to 80 cents on the dollar for the bundled loans. Notwithstanding the steep discount paid by the investors, the investors are still legally entitled to collect 100 cents on the dollar from the borrower. But, given the discount, there is often an opportunity to negotiate a discounted payoff with the investor if the borrower can promptly come up with the funds to pay off the loan. Ironically, the worse financial condition the borrower and/or collateral are in, the better negotiating leverage the borrower has. Responsible, solid businesses can expect to pay up to 100 cents on the dollar to settle the obligations.

As with all debtor/creditor relationships, prompt communication and full and candid disclosure are always assets in resolving the matter. When dealing with the FDIC, this may seem like a one-way street since the FDIC can be bureaucratic and slow to respond. But that does not give the borrower license to respond in kind. Although dealing with the FDIC as your lender can be an exercise in frustration, the proactive borrower can profit from the situation.

As published in the Portland Business Journal.

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