The FDIC will share in the losses and potential recoveries on the loans covered by the loss–share agreement with JP Morgan.
Under an SLA, the FDIC absorbs a portion of the loss on a specified pool of assets sold through the resolution of a failing bank - in effect sharing the loss with the purchaser of the failing bank.
Does shared loss put the taxpayer on the hook for additional losses down the road?:
No. When the FDIC calculates the estimated cost of a failure, it takes into account all expected losses on the assets covered in shared-loss agreements (SLAs). These current market assumptions are built into the cost of failure at the time of resolution. Thus, the cost of all expected future payments are recognized at the time of bank failure and no losses are deferred. Any sharing loss payments are made from receivership funds from the specific failed bank or thrift or, if those are insufficient, from the FDIC's Deposit Insurance Fund (DIF). The DIF is funded by assessments paid by insured banks and thrifts and it is not taxpayer funded.
How does sharing loss work?
The FDIC uses two forms of shared loss. The first form is for commercial assets and the second for residential mortgages.
For commercial assets, the SLAs cover an eight-year period with the first five years for losses and recoveries and the final three years for recoveries only. The FDIC typically offers a range of coverage terms depending upon the market conditions and the location of the assets on covered assets up to a stated threshold amount (generally the FDIC's dollar estimate of the total projected losses on shared loss assets).
Loss coverage may also be provided for loan or note sales, but such sales require prior approval by the FDIC. Recoveries on loans which experience loss events are split, in most instances, with 20% of the recovery going to the assuming bank and 80% to the FDIC.
For single-family mortgages, the SLAs are for ten years and have the same 80/20 split as the commercial assets. The FDIC provides coverage on three basic single-family first lien mortgage loss events: modification, short sale, and when the property is sold after foreclosure. Second liens are permitted to be charged off according to regulatory criteria when the first lien is not held by the assuming bank.
Since the inception of SLAs, the basis for sharing losses with an assuming bank has undergone some change. Until March 26, 2010, the FDIC shared losses with assuming banks on an 80/20 basis until the losses exceeded an established threshold defined in the SLA, after which the basis for sharing losses shifted to a 95/5 basis. Sharing losses on a 95/5 basis was eliminated for all SLAs executed after March 26, 2010.
Does the FDIC receive any benefits if the assuming bank makes money on the covered assets?
Yes. If there are recoveries on assets that have been charged off by the failed bank or the assuming bank, then the FDIC receives 80 percent of the recoveries.
What types of losses on the assets are covered and when does the FDIC reimburse the buyer for those losses?
The FDIC covers credit losses. The FDIC does not cover losses associated with changes in interest rates.
For single-family loans, the assuming bank is paid when the loan is modified or the property is sold. For commercial loans, the assuming bank is paid when the assets are written down according to established regulatory guidelines or when the assets are sold.
How does the FDIC know it is getting the best deal with shared loss?
When the FDIC is preparing the sale of a failing bank or thrift, the FDIC reaches out to numerous potential bidders to bid for the customer deposits and the failing bank's assets. The sale relies on a confidential, competitive bidding process. In addition, the FDIC uses financial advisors to estimate asset values.
After the bids are received, the FDIC selects the least costly option. To facilitate that analysis, the FDIC may dictate the terms and conditions of a sharing loss arrangement and the assets to be covered when potential assuming banks bid on a failing bank. This allows the FDIC to more quickly analyze and compare each of the bids to determine which is the least costly to the Deposit Insurance Fund. The terms and conditions also enable the FDIC to monitor the SLAs effectively.
When market conditions are at their worst, shared loss can save the Deposit Insurance Fund money. As a result, shared loss agreements enabled the FDIC to sell the assets, but without requiring that the FDIC accept the low prices prevalent at the time. Instead, the FDIC sold the assets to assuming banks at a discount and they were incented under the SLAs to service and manage the assets, resolving them at a higher recovery amount once market conditions improved, splitting the higher recovery with the FDIC.
How big is the shared loss program? How much money has the FDIC saved?
During the recent Financial Crisis the FDIC entered into 590 shared loss agreements with Acquiring Institutions from 304 Failed Bank receiverships covering $216.4 billion in assets. The estimated savings exceed $41 billion, compared to an outright cash sale of those assets.
List of shared loss Agreements since July 10, 2008
Why doesn't the FDIC use shared loss for all failures?
The FDIC has developed a variety of resolution methods designed to enhance the marketability of a failing bank. SLAs are just one of the resolution methods the FDIC has available to utilize. Market conditions dictate the resolution types the FDIC offers for each failing bank and by law the FDIC must select the least costly resolution transaction for the failing bank.
What type of oversight does the FDIC have over the SLAs?
The FDIC conducts annual on-site reviews and regular off-site monitoring of records of covered losses and overall compliance with the SLAs. It also requires assuming banks to provide quarterly reports to ensure compliance with the program and to monitor the performance of the assets. Lastly, if the assuming bank is not in compliance with the SLA, the FDIC has the right to stop shared loss payments until the problem findings are resolved, and, in extreme cases, to sell the assets through a competitive bid process.
For SLAs that cover single-family loans, must the assuming bank honor the FDIC's loan modification program?
The terms of the SFSLA require the Acquirer to modify loans using an approved modification program for single-family, owner-occupied loans. One of the approved programs is the FDIC loan modification program which adjusts the current loan terms to achieve an affordable payment by first reducing the loan interest rate, then extending the loan term, and, where necessary, offering forbearance of principal. The goal of the loan modification programs is to provide an affordable monthly payment.
The Acquirer can propose an alternative loan modification program that will achieve the goals of providing affordable payments consistent with cost effectiveness. If the FDIC concurs, then the Acquirer can use the alternative program.
Are assuming banks permitted to conduct portfolio sales of shared-loss assets?
Yes, if the FDIC consents and the assuming bank satisfies the applicable provisions of the agreement.
Shared Loss Publications
- Managing the Crisis: The FDIC and RTC Experience 1980-1994, Chapter 7
- Crisis and Response: An FDIC History, 2008-2013, Chapter 6
- Supervisory Insights Article: FDIC Loss-Sharing Agreements: A Primer - PDF
- First Republic Bank, recently acquired by JPMorgan Chase, has laid off roughly 1,000 employees. These layoffs were expected following the acquisition and came after an email announcement that some employees would lose their jobs, while others would be offered transitional roles or permanent positions.
- Despite this, a spokesperson for JPMorgan stated that almost 85% of First Republic employees were offered either transitional or full-time roles, which is less than the 20%-25% job cuts announced by First Republic in an April earnings release.
Laid-off employees will receive regular pay until June 9, and payments equivalent to 45 days of pay. Additional payments will be offered based on years of service.
- First Republic Bank has laid off employees in what one anonymous employee described as a "cutthroat" process.
- Laid-off staff received the news through brief, scripted calls that didn't provide specific reasons for the layoffs.
- Even high-level employees were reportedly not involved in the discussions about layoffs and were kept in the dark about the specifics.
Reminder, At the beginning of the month, the FDIC and JP Morgan Chase entered into a loss-share transaction on single family, residential and commercial loans it purchased of the former First Republic Bank.
- The FDIC will share in the losses and potential recoveries on the loans covered by the loss–share agreement with JP Morgan.
- Even so, those 1000 folks had to go!