In an unusual step, the FDIC, the federal regulator responsible for insuring and supervising depositary institutions, has weighed in on financial institutions’ purchase of D&O insurance. The FDIC’s October 10, 2013 Financial Institutions Letter, which includes an “Advisory Statement on Director and Officer Liability Insurance Policies, Exclusions and Indemnification for Civil Money Penalties” (here), advises bank directors and officers to be wary of the addition of policy exclusions to their D&O insurance policies and also reminds bank officials that the bank’s purchase of insurance indemnifying against civil money penalties is prohibited.
The agency’s brief two-page letter opens with the observation that the FDIC has “noted an increase in exclusionary terms or provisions contained in depositary institutions’ D&O insurance policies.” The agency notes that the addition of these exclusionary provisions “may affect the recruitment and retention of well-qualifies individuals,” and that when the exclusions apply, “directors and officers may not have insurance coverage and may be personally liable for damages arising out of civil suits.”
The FDIC is concerned that bank officials “may not be fully aware of the addition or significance of such exclusionary language.” Accordingly, the agency urges officials to apply “well-informed” consideration to the potential impact of policy exclusions. The agency urges “each board member and executive officer to fully understand the answers to the following questions” especially when considering renewals and amendments to existing policies:
- What protections do I want from my institution’s D&O policy?
- What exclusions exist in my institution’s D&O policy?
- Are any of the exclusions new, and if so, how do they change my coverage?
- What is my potential personal exposure arising from each policy exclusion?
The letter also states that banks’ boards of directors should “also keep in mind” that FDIC regulations “prohibit an insured depositary institution or [holding company] from purchasing insurance that would be used to pay or reimburse an institution-affiliated party (IAP) for the cost of any civil money penalty (CMP) assessed against such person in an administrative proceeding or civil action commenced by any federal banking agency.”
The letter goes on to note that the agency’s regulations prohibiting insurance indemnifying against civil money penalties “do not include an exception for cases in which the IAP reimburses the depositary institution for the designated cost of the CMP coverage.”
Discussion
On the one hand, the FDIC’s warnings about the need for bank officials to be well-informed about their D&O insurance and to be wary about the addition of policy exclusions are simply good advice. Indeed, the warnings represent worthy counsel for officials at any corporate entity, not just at banking institutions. All corporate officials should be attentive to their D&O insurance, and the questions that the FDIC suggests are good questions for the directors and officers of any institution.
However, the FDIC is not just offering disinterested guidance here. The FDIC doesn’t say it, but it has a very specific concern in mind. The FDIC is worried about the inclusion in banks’ D&O insurance policies of a so-called “regulatory exclusion” precluding coverage for claims brought by regulatory agencies such as the FDIC. Although these exclusions are still somewhat unusual, when a policy has one of these exclusions, the FDIC is unlikely to be able to recover under the policy for any claims the agency files against a bank’s directors and officers. (For background about the regulatory exclusion, refer here.)
The likeliest time for a D&O insurer to try to add a regulatory exclusion is when a financially troubled bank seeks to renew its insurance. The insurer, concerned that the bank might fail, wants to protect itself against possible liability for any post-closure claims that the FDIC might bring in its capacity as receiver of the failed bank.
The FDIC is (as discussed further below) in the midst of filing and pursing a host of lawsuits against the former directors and officers of many of the banks that failed between 2007 and the present. In these lawsuits and in other suits that the agency might want to pursue, the FDIC may be stymied in trying to secure a recovery if the failed bank’s D&O insurance policy has a regulatory exclusion. The FDIC has issued its advisory statement because it wants to try to enlist banking officials’ assistance in trying to ward off the inclusion of these kinds of exclusions on D&O insurance policies.
The problem for both bank officials and for the FDIC is that if a bank is sufficiently troubled, no amount of attentiveness will be sufficient to ward off the addition of exclusionary provisions. Banks that are in troubled condition are likely to find that they have few D&O insurance options and that the only coverage they can obtain is an insurance program that includes a regulatory exclusion or other coverage limiting provisions.
Nevertheless, while in some circumstances (especially with regard to troubled banks) there may be little that bank officials can do about the addition of coverage narrowing policy provisions, there is certainly nothing wrong with urging bank officials to be attentive to the changes in their coverage on renewal. The FDIC’s suggestion that bank officials stay informed about changes in their D&O insurance is, as noted above, good advice.
Because the FDIC’s letter went to all banking exclusions and by its terms is meant to apply with respect to all institutions, insurance professionals that work with reporting institutions should expect that their banking clients will be presenting them with these questions and should be prepared to answer their client’s questions.
For their part, banking officials should consider whether their advisors are adequately answering their questions. Although it is true in most corporate contexts, it is particularly true in the context of banking institutions that the firms and their directors and officers should be sure that their insurance advisor is knowledgeable and experienced. In looking for answers to the FDIC’s suggested questions, bank officials will want to assess whether their advisors’ answers show that their advisor is sufficiently knowledgeable and experienced to counsel them with regard to these important insurance issues.
The agency’s separate statements about insurance for civil money penalties are interesting and represent something of a public clarification of a long-standing issue. By way of background, under FIRREA and related regulations, civil money penalties may be assessed for the violation of any law, regulation, as well as for a violation of any condition imposed in writing by the appropriate Federal banking agency in connection with any written agreement between a depository institution and the agency.
As discussed in a prior guest blog post on this site (refer here), the FDIC had informally been taking the position that bank’s D&O insurance policies should not provide for the indemnification of civil money penalties. However, this type of coverage has long been available in the insurance marketplace and many D&O insurance policies currently in place expressly provide for the insurance of these penalties. One of the ways that banks and their insurers have sought to address possible agency concerns about the insurance is by having the individuals protected by the civil money penalty provisions reimburse the bank for the cost of the civil money insurance protection. As noted in the guest blog post, “This was based on the assumption that if the bank could prove that the directors and officers paid for the coverage personally, that the FDIC wouldn’t object to the coverage.”
These insurance industry practices continued because certain assumptions were being made about the agency’s approach to these issues. With the FDIC’s issuance of the Advisory Statement, the agency’s views are now clear – banks are “prohibited” from purchasing insurance that would pay or reimburse for civil money penalties, and there is no exception from the regulations that allows the insured individuals to reimburse the bank for the civil money penalties protection.
The agency’s issuance of the Advisory Statement and the clarification of the agency’s position with respect to insurance for civil money penalties does raise the practical question about what banks and their insurers should do with respect to the many insurance policies that are currently in force providing insurance for civil money penalties. One immediate question that comes to mind is whether or not the policies should now be specially endorsed to remove the endorsements providing for civil money penalty coverage. Alternatively, some may feel that it is sufficient simply to allow the current policies to run through their natural expiration and at renewal a new policy can be put in place without the civil money penalties provisions.
It seems likely that banking officials will also now want to know if there is anything else that they can do to protect themselves from their exposure to possible civil money penalties against them. Among the topics that are likely to be discussed in the months ahead is the question whether the FDIC’s Advisory Statement prohibiting banks from purchasing insurance the includes indemnification against civil money penalties does not prohibit individuals from buying insurance on their own to protect themselves from civil money penalty exposures.
The discussion of these latter possibilities would have to include consideration of (1) whether the operative regulations and the Advisory Statement preclude purchase of insurance protection against civil money penalties by individuals as well as by depositary institutions; and (2) whether the agency’s clarification that there is no exemption in the regulation allowing individuals to reimburse banks for the purchase of insurance for civil money penalties protection in and of itself precludes the individuals’ purchase of this type of insurance, or at a minimum effectively communicates what the agency’s view would be on the issue.
Finally, there is the practical question of whether insurers would even be interested in trying to offer separate policies for individuals providing insurance for civil money penalties, given the likely low premiums involved and the prospects — for both the insured persons and for the insurers — of running afoul of the FDIC. In the past, the insurers have shown little interest in offering this type of product.
FDIC Updates Failed Bank Lawsuit Information: On October 11, 2013, the FDIC updated the page on its website on which the agency tracks the lawsuits it has filed in its capacity as receiver for failed banks against the banks’ former directors and officers. As of the latest update, the agency has now filed a total of 81 lawsuits against the former directors and officers of failed banks, including a total of 37 so far this year. (By way of comparison, the agency filed only 25 during all of 2012.)
The updated page also notes that as of October 8, 2013, the agency has authorized suits in connection with 127 failed institutions against 1,029 individuals for D&O liability. These figures are inclusive of the 81 filed D&O lawsuits naming 616 former directors and officers. In other words, based solely on the number of authorized suits, there may be a backlog of as many as 46 lawsuits yet to be filed.
While the number of lawsuits and authorized lawsuits continue to increase, the number of bank failures seems to have slowed. As also reflected on the agency’s website, there have been no bank failures in the last month.
Third Quarter Claims Trends Update: On October 17, 2013, I will be participating in Advisen’s Third Quarter Claims Update, along with AIG’s Rich Dziedziula, Joseph O’Neil of the Peabody & Arnold law firm, and Advisen’s Jim Blinn. The free one-hour webinar, which will begin at 11:00 am EDT, will discuss recent corporate and securities lawsuit filing trends as well as key developments to watch. Further information about the webinar including sign up information can be found here.