The FDIC has established a number of controls to manage the SLA program and to monitor AIs to ensure that they comply with SLA terms and conditions, which include the following:
Loss-Sharing Percentage. An important feature of SLAs that is intended to control AI behavior is the loss-sharing percentage—typically an 80- to 20-percent split for most
agreements. The FDIC and proponents of SLAs maintain that the AI loss percentage aligns the AI’s interests with the FDIC’s requiring the AI to have “skin in the game,” which incentivizes the AI to minimize losses and manage the covered SLA assets consistent with how AIs manage their own non-covered, legacy assets. Critics of SLAs maintain that the AI loss percentage is not enough to curb behavior and that the FDIC loss guarantee incentivizes the AIs to foreclose on an asset or not work to keep an asset performing in order to collect the loss-share guarantee. FDIC officials told us they were not aware of any AIs that were aggressively foreclosing on loans and noted that the CMCs have been put on alert to flag such activity. Moreover, nothing has come to our attention during our SLA audits to suggest that AIs are aggressively pursuing foreclosure without first considering other loss mitigation efforts.
SLA Requirement to Pursue the Least Loss Strategy. AIs are required to administer and undertake loss mitigation efforts prior to taking any foreclosure action and pursue the least loss strategy when deciding whether to foreclose or modify troubled loans. AIs are expected to manage, administer, and collect amounts on the shared-loss loans and assets using usual, prudent business and banking practices as required under customary servicing procedures, as defined in the SLA.
SLA Requirement to Manage Covered Assets Consistently with Legacy Assets. The AI is required to manage and administer each SLA loan in accordance with prudent business and banking practices and the AI’s written internal credit policies and usual practices. This includes striving to maximize collections on loss assets and managing and administering shared-loss assets without favorable treatment of any assets owned by the AI or its affiliates that are not shared-loss assets (known as legacy assets).
As part of our study, we reviewed the CMC and RMS examiner efforts for a sample of 12 AIs to verify that the CMCs and examiners were including procedures in their on-site compliance reviews and examinations to confirm that AIs were treating SLA and legacy assets consistently.
We found that both the CMCs and examiners tested samples of SLA and legacy assets to confirm that AIs applied consistent procedures to both types of assets when servicing, evaluating, and performing charge-offs of the loans. Neither the CMCs nor the examiners identified any significant problems in this area.
SLA Requirement to Implement a Loan Modification Program. The FDIC requires that an AI modify qualified single-family loans using the HAMP or an FDIC-approved modification program. Both programs adjust the current loan terms to achieve an affordable payment. The objectives of loan modification programs are to minimize losses to the AI and the FDIC and maximize the opportunity for qualified homeowners to remain in their homes with affordable mortgage payments.
SLA Program Controls
Compliance Monitoring Contractors. The FDIC monitors SLA compliance through monthly or quarterly reporting by the AI and by performing periodic, on-site reviews of the AI’s
adherence to the SLA terms. The FDIC has engaged eight CMC firms to oversee the AIs. The CMCs review and analyze AI loss claim certificates and perform annual on-site visitations of the AIs.103 The FDIC requires the CMCs to develop individual monitoring and visitation plans for each AI. DRR staff monitor the CMC efforts.
The CMCs’ on-site compliance monitoring visitation activities include reviewing AI loss claim certificates and supporting documentation, reviewing and analyzing loan files to support claims for covered losses, following up with AI management on corrective actions taken to remediate prior findings, and reviewing AI policies and procedures and shared-loss loan files to ensure that SLA assets are treated in the same manner as the AI’s legacy loans. CMCs are required to submit a written visitation report, which includes findings and recommendations for appropriate corrective actions, and to oversee the AI’s progress towards making those corrective actions.
The CMCs work with the AIs and DRR to resolve any issues discovered during the monitoring process. DRR and the CMCs completed 441 SLA compliance reviews in 2011. According to DRR, the compliance reviews conducted in 2011 identified 1,890 findings and questioned claims totaling $465.5 million. DRR further reported that all of the 2011 findings have been resolved and AIs paid the FDIC $363.1 million of the questioned claims and subsequently provided documentation to substantiate the remaining $102.4 million in questioned claims.
DRR established a Compliance Review Committee to provide oversight and authority to mitigate risks to its SLA oversight program when the AI fails to comply fully with SLA provisions.
Some of the committee’s activities include reviewing all final compliance reports, including the AI management responses, and taking corrective action to resolve and mitigate non-compliant business processes.
RMS Examination of SLA Compliance. FDIC bank examiners evaluate AI compliance with SLAs and the impact of SLAs on institutions. Among other things, examinations determine if AIs provide equal treatment of covered and legacy commercial assets, appropriately account for SLA assets, and consider the overall risk mitigation provided by loss sharing in assigning the CAMELS rating. FDIC RD Memorandum 2010-018, Examinations of Institutions with Assets Covered by Loss-Sharing Agreements, dated May 6, 2010, notes that the examination asset review scope should include a sufficient sample of commercial assets covered by an SLA. The review scope should provide the EIC with sufficient information to assess whether the AI applies its loan administration processes, credit risk management policies (including its loan review and credit grading policies), and loss recognition and charge-off standards to covered commercial
SLA Program Controls
The FDIC also issued RD Memorandum 2011-023, Amendment to Memorandum 2010-018:
Examinations of Institutions with Assets Covered by Loss-Sharing Agreements, dated
October 14, 2011, to enhance RMS coordination with DRR. The FDIC and FRB developed an ED Module titled, FDIC-Assisted Transactions, that includes suggested examination procedures for reviewing an institution’s SLA-related activities.
RMS officials told us that, overall, they are finding that AIs are treating their SLA and legacy assets in a similar manner. RMS also told us that coordination with DRR, and with other regulators, has improved markedly. The FDIC has also participated in examinations of SLA operations at non-FDIC supervised institutions, at the request of the other regulators.
For a sample of 12 AIs, we reviewed examination reports; interviewed FDIC, OCC, and FRB examination staff; and reviewed examination working papers supporting examiners’ reviews of SLA activities. We confirmed that examiners performed procedures to ensure that AIs treated covered assets consistently with their legacy loans. Examiners for all 12 AIs concluded that AIs treated SLA and legacy assets consistently. However, examiners identified problems related to two AIs’ accounting treatment of their SLA assets and communicated these concerns to DRR and/or FDIC regional staff. Examiners for 6 of the 12 AIs—4 AIs regulated by the FDIC, 1 by the OCC, and 1 by the FRB—coordinated with DRR staff pertaining to examination work related to the SLAs.
Limitations on AIs’ Ability to Sell Covered Assets. The SLAs include several limits on the AIs’ ability to sell covered assets. The AI is free to sell SLA loans, but if it does so without the prior approval of the FDIC, it will lose loss coverage on the loan. The FDIC will not approve requests to sell SLA loans unless the AI can demonstrate that the sale represents the least loss alternative.
True-up Provision. Since October 2009, the SLAs have included true-up payment provisions requiring AIs to reimburse the FDIC at the end of the SLA if losses are lower than expected, based on the results of a calculation performed at the expiration of the SLA. If an AI’s original bid amount included a discount of 5 percent or more of the purchase price of the assets and the true-up calculation result is positive, the AI must pay the FDIC that amount. If an AI pays the FDIC, it indicates that the institution’s SLA bid was discounted too much and did not align with the FDIC’s intrinsic loss estimate of the assets.
OIG Audits and Evaluations of the SLA Program and Agreements
Given the magnitude of the SLA program, we performed a comprehensive evaluation of the FDIC’s program for monitoring SLAs. The primary objective of the evaluation was to evaluate DRR’s overall efforts to monitor and ensure compliance with the terms and conditions of the SLAs. We determined that the FDIC devoted high-level management attention to the quickly expanding SLA program, including establishing corporate-wide performance goals, convening a Project Management Office task group, and providing quarterly updates to the Chairman and Audit Committee on the findings of its AI compliance reviews and planned corrective actions.
SLA Program Controls
The Corporation also substantially increased staff, engaged contractors, and developed procedures and systems to manage the associated workload and risks.
We also found that the SLA program was continuing to mature, as evidenced by the finalization of policies and procedures, initiation of training programs, strengthened AI compliance
monitoring efforts, and implementation of data resources to manage program data. The FDIC was also taking steps to enhance the following:
• information security of its SLA data resources;
• guidance to AIs pertaining to commercial loan modifications and the tracking of such modifications;
• tracking of questioned claims and processes for ensuring corrective action in response to AI reviews; and
• oversight of AIs by implementing a proactive monitoring initiative to more promptly prevent or detect instances of non-compliance.
Notwithstanding, we reported that with any program of this size, there would be emerging issues and risks that require monitoring and attention. In that regard, we made five recommendations, including issuing guidance to better ensure consistent AI monitoring efforts among DRR staff and for evaluating whether AIs are pursuing and reporting recoveries experienced on covered assets. As of October 2012, the FDIC had addressed and closed all five recommendations.
We also conducted audits of seven AIs to evaluate each AI’s compliance with the terms of its SLA. The audits specifically focused on evaluating the AI’s SLA policies and procedures, compliance with the SLA reporting requirements, and the extent to which the AI maximized returns. The audits also addressed the FDIC’s oversight of the SLAs. The audits have resulted in substantial recoveries to the FDIC and further improvement in SLA controls. The extent and significance of findings have decreased as the FDIC program matured and AIs better understood and implemented processes to comply with SLA terms.