Regulators are Striving to Ease Capital Rules for Small Banks

“Regulation is killing community banks.” Treasury Secretary Stephen Mnuchin

In March, regulators announced that they would launch an effort to ease capital rules for smaller institutions. In June, a Treasury report recognized, “community financial institutions’ business models have come under pressure from added compliance costs from new regulations.” It urged regulators to “explore exempting community banks from the risk-based capital regime implementing the Basel III standards.” In the most recent step, which happened on August 22, U.S. bank regulatory agencies put forth a proposal to delay the implementation period for stricter capital rules for smaller banks while they review ways to simplify requirements.

The joint proposal from the Federal Reserve, the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corp (FDIC) would allow banks with less than $250 million in assets and less than $10 billion in foreign exposure to operate under more lenient capital rules beyond the beginning of 2018.  Explicitly, the efforts prioritize:

• Simplifying capital regulations to better reflect the risk profile of community banks with less than $10 billion in assets to alleviate the burden of Basel III capital requirements
• Freeing small banks from complex rules used to calculate common equity
• Eliminating the requirement to hold higher capital on specific asset classes due to the introduction of higher risk-weights
• Addressing problematic treatment of mortgage servicing assets and commercial real estate loans
• Exempting banks with less than $10 billion in assets from the Volcker Rule

Most likely, the move will have a marginal cumulative impact on capital levels. It is not expected to change recordkeeping and reporting requirements for small banks. Even though the impact likely will be relatively small, the Independent Community Bankers of America is pleased about the efforts. Perhaps the most important benefit is that the move may prompt additional relief efforts such as:

1. Deducting less investment in the capital of unconsolidated financial institutions, mortgage servicing assets (MSAs), and temporary difference deferred tax assets (DTAs) from common equity tier 1 capital
2. Using a 100% risk weight for non-deducted MSAs, temporary difference DTAs and significant investments in the capital of unconsolidated financial institutions, rather than the 250% risk weight scheduled to take effect by 2018

FDIC vice chairman Thomas Hoenig has urged regulators to see this as a starting point and to work even harder to ease the rules for less complicated banks, stating “Community banks engaging in traditional activities deserve meaningful relief from risk-based capital rules.”  

The proposals are coming about because the one-size-fits-all approach to elements of bank regulation under the Dodd-Frank Act hit small banks disproportionately hard, particularly in areas like capital. As many as 75% of community banks surveyed by the American Banker Association have reported having to hire staff to cope with compliance, form-completion and additional record keeping from new regulations.

For now, the moves seem to be intended to streamline bank regulation and promote economic growth. They are in accordance with the deregulation agenda of President Donald Trump’s administration. Perhaps more importantly, however, they are signs that regulators and bank advocates are working diligently and in tandem to lighten the regulatory load and simplify capital rules for smaller banks.

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