The FDIC's proposal to update its brokered deposits rules is not quite a love letter to fintech, but it is definitely an invitation to get coffee or maybe dinner. As we've written before, the FDIC's treatment of brokered deposits can cause difficulties for payments and fintech companies when they seek bank partnerships to support their products. The FDIC wants you to know that it understands you've been ignored in the past, but now it will be a better listener.
In March 2019, the FDIC issued an advanced notice of proposed rulemaking (ANPR) that included several open-ended questions to solicit advice on modernizing its approach to brokered deposits. We noted at the time that the FDIC's brokered deposit rules stem from Section 29 of the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (FIRREA). The thirty-year-old framework is, at best, an awkward fit for today's financial services marketplace.
The FDIC has long maintained that "there should be no particular stigma attached to the acceptance of brokered deposits per se and the proper use of such deposits should not be discouraged." But in practice, there is a stigma for brokered deposits, owing to the convoluted way these deposits get categorized and the potentially higher deposit insurance assessment on banks accepting them, among other potential negative effects.
Under the existing rule, it is up to the bank accepting the deposits to determine whether the company placing the deposits is "engaged in the business of facilitating the placement of deposits." If the company is facilitating the placement, then it is a deposit broker under FIRREA. While that designation does not have any substantive effect on the company, it does mean that the bank must treat the deposits as brokered deposits.
A fintech or payments company, therefore, may encounter bank hesitation in accepting its program's deposits. Even if the hesitation isn't justified—most banks would not see any negative effects from accepting brokered deposits—the company is left trying to convince its potential partner that the deposits are not brokered. The company has no way to control the process for alleviating the bank's concerns.
The FDIC is here for it.
The proposed rule would make several changes, including important clarifications to the definition of "facilitate." But for fintech and payments companies, the biggest change is the ability for a nonbank to apply directly to the FDIC for a determination of whether it meets an exception from the definition of deposit broker.
Why would a nonbank want to submit an application to the FDIC? In short, the FDIC wants to get to know you. To really understand it, though, you have to return to the FIRREA definition of deposit broker. Under the statute, an entity that facilitates the placement of deposits is a deposit broker unless it meets one of several exceptions. Of those, the "primary purpose" exception has been subject to the most interpretation and confusion.
FIRREA provides that an agent or nominee that otherwise meets the definition is not a deposit broker if its "primary purpose is not the placement of funds with depository institutions." In other words, if the placement of deposits is an ancillary function to a company's primary business, the company may not be a deposit broker. The challenge with the primary purpose exception has been figuring out how to apply the FDIC's various interpretations—some based on long-obsolete business models—to current fintech and payments business models.
Under the current rule, individual banks can seek a primary purpose exception from the FDIC, authorizing them to treat deposits placed by a particular agent or nominee as core deposits instead of brokered deposits. This means, for example, that a fintech company looking to work with three different banks would need to convince each bank to request an exception.
This brings us back to the now dressed-to-impress FDIC, which is proposing a process for nonbanks themselves to apply for a primary purpose exception. If a payments or fintech company is granted an exception, every bank that accepts deposits from that company will know that the deposits are not brokered deposits, provided the deposits meet the terms in the FDIC's approval of the exception. Note that a company with multiple business lines would need a separate exception for each one.
Banks that work with payments companies should be particularly pleased. The proposed rule explicitly identifies a new category of deposits that the FDIC deems to meet the primary purpose exception: deposit placements that enable transactions. Under the proposal, if a company places 100 percent of its customer funds into transaction accounts at a bank (and the bank does not pay fees, interest, or other remuneration for that deposit), that company would meet the primary purpose exception and, therefore, would not be a deposit broker. This means that banks providing payment settlement accounts likely could stop treating funds in those accounts as brokered deposits without needing FDIC approval—making things easier for a wide range of payments and fintech companies.
There is much in the FDIC's proposal for fintech and payments companies to find attractive. Before swiping right, however, they should take the time to evaluate the details of the proposed application process. The FDIC is taking public comments on its proposal through the end of February. Fintech and payments companies that want to help refine the proposal or have any questions should contact Laura Biddle, Andrew Bigart, or Matthew Bornfreund.