15 COVID-19 Steps for Financial Institutions to Take Now

Time 21 Minute Read
March 20, 2020
Legal Update

The economic stress that is building due to the government-enforced shutdown of many parts of the economy will cause real damage to companies even if they borrowed appropriately based on prudent assumptions, but companies are now operating in an economy that is different than what we have ever seen before for parts of industry. Some of those companies will no longer have the cash flow to weather the economic storm even after the economy recovers.

Based on the information we have gathered up to this point, conversations with regulators, public pronouncements and our own experience, we have a number of thoughts for you to consider. They are as follows:

Employee Considerations. It goes without saying that a pandemic of the magnitude of COVID-19 will present challenges for banks and their employees. Many employees may be facing significant hardship.

Employee safety is obviously top of mind at this time. Even though banks are not forced to close like many other non-essential businesses, we are seeing bankers make prudent decisions about opening for business, customer-facing activity, staffing levels, attendance policies and paid time off.

Other issues for bankers to consider are: 

  • Recent Federal coronavirus relief legislation signed on March 19, 2020,
  • Reduction of work hours and/or pay pursuant to the Fair Labor Standards Act,
  • The Family and Medical Leave Act’s applicability to employees who are dealing with their own serious health condition, or that of a child, spouse or parent as a result of COVID-19,
  • Benefit coverage decisions for COBRA-qualifying events resulting from facility closures, even temporary shutdowns, and
  • Compliance with the Occupational Safety and Health Act (OSHA), which requires all private employers to provide a workplace free from recognized health and safety hazards.
  • For additional information and resources, visit the Hunton Andrews Kurth Labor COVID-19 Resource Center or see our recent alerts: Coronavirus Bill Passed by the Senate and Workers Compensation, Insurance and COVID-19.

Customer Accommodations. The Office of the Comptroller of the Currency (OCC) has stated that “[it] supports and generally will not criticize efforts to accommodate customers in a safe and sound manner.”[1] The FDIC has made similar announcements and “recognizes that efforts to work with customers and communities affected by COVID-19 can be consistent with safe and sound banking practices and in the public interest.”[2]

On March 13, 2020, the U.S. Federal Deposit Insurance Corporation (FDIC) and the OCC released new guidance for regulated institutions on working with customers, particularly consumer and small business borrowers, affected by COVID-19. Guidance includes suggestions for actions to support customers, consistent with safe and sound banking practices, and indications of areas in which the FDIC or OCC will provide more flexibility in its respective regulatory oversight. 

As a result, bankers should make decisions regarding:

  • delays in collection efforts and forbearance for affected customers (even for customers that are in some part of the collection process), including allowing borrowers to defer or skip some payments or extending the payment due date or to consider restructuring a borrower’s debt obligations;[3]
  • easing credit card limits especially for business cards;
  • increases in ATM cash limits (we have seen demand for cash spike);
  • waiving early withdrawal periods for time deposits;
  • waiving remote deposit (RDC) fees;
  • waiving the application of late fees;
  • suspending or waiving charges for ATMs;
  • waiving overdraft/NSF fees; and,
  • temporarily ceasing credit reporting.

Various banks have already announced that they have suspended ATM, RDC and late fees. Early disclosure to customers creates the opportunity to show them that you care. We recommend email disclosures, disclosure on websites and social media communications to customers as well. Public companies have generally communicated such matters on their websites, but recently some (like OceanFirst Bank) have filed 8-Ks. Regardless, as discussed below, such communications need to be “on brand.” 

In terms of the amount of time for delaying fees and collection efforts, many banks appear to be opting for 60 or 90 days over 14 days in light of the continuing hardships. The notice to customers should invite them to contact you if they need additional time. Encouraging communication is vital at this juncture.

Lending. Regulators are encouraging banks to meet the needs of affected customers. For example, the FDIC has stated the following:

Prudent efforts to modify the terms on existing loans for affected customers of FDIC-supervised banks will not be subject to examiner criticism. While modification of existing loans should be evaluated to determine whether they represent troubled debt restructurings (TDRs), according to accounting standards, a modification triggers a TDR only if the institution grants a concession to the borrower which it would not otherwise grant because a borrower is experiencing financial difficulties. This could, for example, include extending the term of the loan for a borrower that otherwise meets the institution’s standards, but is experiencing a temporary liquidity shortage due to COVID-19-related economic conditions. Additionally, while a TDR designation means a modified loan is impaired for accounting purposes, it does not automatically result in an adverse classification. Many modified loans that are designated as a TDR for accounting purposes are fully performing and collectible credits. We are directing FDIC examiners to exercise significant flexibility in determining whether to adversely classify credits that are impacted by COVID-19, including those designated as TDRs.

There have been additional comments from the regulators encouraging lending without strict adherence to lending rules.

Banks should be actively tracking what borrowers may be the hardest hit by the sudden downturn in economic activity by focusing on location, e.g., major metropolitan areas; and industry, e.g., hospitality and entertainment; as well as secondary providers to such market segments, e.g., providers/suppliers to hotels. Based on such information, lenders will be able to target borrowers and other customers that may require immediate attention, especially small business customers who may not have the cash reserves or access to credit facilities or lines of credit available to larger customers. As discussed below, management should be informing boards of such risk matters.

Banks have begun reaching out to some or virtually all of their performing commercial customers with offers of accommodations. Some banks are offering no payments for 90 days at which point they will reassess. Our preference is a six-month interest-only period. An interest-only period has a number of different features that are helpful to the bank, including that the bank avoids capitalizing interest and disclosure issues related to interest on interest, tax issues related to imputed income, and the potential for reversing out interest income. This of course assumes that the borrower can make the payments of interest. If not, a period of no principal and interest payments may be needed.

We believe that a short two- or three-page letter agreement with a customer can enhance the bank’s position when the crisis is over and examiners invariably get back to grading credits without the protection of regulatory crisis mentality. As part of such efforts, the bank should obtain agreement that it will be getting quarterly, if not monthly, information from the borrowers and the potential for projections in order to demonstrate to examiners that a borrower will be able to meet a debt service coverage ratio.

Community Reinvestment Act (CRA). The regulators said efforts by financial institutions to modify the terms on new or existing loans for affected customers, small businesses and small farms to ease the financial burden of the outbreak will receive CRA consideration and not be subject to examiner criticism. Financial institutions that conduct community development activities will also be considered for CRA credit. The regulators’ examples of retail banking services and retail lending activities they would consider included waivers of certain fees, offering payment accommodations to avoid negative credit bureau reporting and providing alternative service options to customers with limited access to branches, among other things. Regulators said their statement would be effective for six months past the date when the federal government’s national emergency declaration is lifted, unless extended. We have also seen creative uses of charitable contributions such as banks buying take-out food and contributing it to soup kitchens, hospitals, and first responders. It is critical for banks to retain detailed records of all activities that regulators should consider for CRA credit.

Allowance for Loan Lease Losses. Invariably, some of the business customers will not be able to survive to make it to the other side of the crisis. Bankers should consider their Q-factors for the allowance for loan and lease losses (ALLL). Banks are selling securities to reposition their portfolios. Such one-time income might offset the provisions to the allowance. In the past, regulators have been more tolerant in evaluating the earnings CAMELS component when bankers are being proactive to shore up reserves.

Swaps. Although expensive, swaps can lock in some part of the current interest rate environment. Moreover, swaps can be used to help address demands of the best bank customers who see the current environment as a repricing opportunity.

 New loans and renewals. Consider the impact of COVID-19 on new loans and renewals. For instance, the bank should have a firm inside view of COVID-19 carve-outs to material adverse effect, net income, or EBITDA add-backs and covenant exceptions.

Insurance.

Take inventory of insurance policies.

Banks typically have a variety of insurance coverages that may provide needed protection at this time. To be prepared for potential claims and losses, banks should begin now to inventory and collect all relevant policies, primary and excess, for the following kinds of coverage.   While COVID-19 presents novel insurance issues, it is vital to start gathering and reviewing policies now.

Business-interruption policies. Due to the sheer amount of disruption that COVID-19 has already caused, it is unpredictable how many people will be taking out loans in the coming months despite record low interest rates. Moreover, bankers have been providing employees paid time off. Community banks may be able to file claims for business-income losses under the business-interruption coverages typically included as part of their first-party property insurance programs.  A number of these coverages bear consideration, including business-interruption, service-interruption, contingent business-interruption (for losses due to damage to other companies necessary to the bank’s operations), and extra-expense coverage (for expenses incurred as a result of the interruption or loss).  In addition, with the increasing number of government orders closing businesses and restricting activities as a means of “flattening the curve,” Civil Authority Coverage likely will be an important source of protection for many policyholders.  Policies providing business-interruption coverages may provide additional limits or coverage for the expense of preparing the requisite proof of loss, PR costs and potentially other expenses or losses.  A close review can review these “other buckets” of coverage.

Bankers need to begin thinking about how to capture and account for all covered losses and how to “prove up” business-interruption losses, using historical records or other documents. If a bank can get its insurer to approve of its loss-evaluation method on the front-end, it can help expedite payment and perhaps avoid fight later over valuation of the losses. Otherwise, the bank should maintain careful records regarding any expenses it has to pay. Coverages to keep in mind include: service interruption, civil authority, and Contingent Business Interruption (“CBI”), for damages to other companies necessary to bank’s operations.

Other Insurance. Other types of insurance likely will bear consideration as this situation progresses. Other potentially applicable insurance may include:

Director and Officer (“D&O”) Insurance. D&O insurance is relevant in case some kind of securities or derivative action against the bank arises. Securities class actions have already been filed alleging breaches of duty by directors and officers in failing to protect appropriately against the risks posed by COVID-19. At the least, defense costs should be covered should such actions arise.

Event Cancellation Insurance. Many conferences and other events, out of necessity, have been cancelled. Event-cancellation insurance may be available to cover the lost revenue and expenses that result from such cancellations or, going forward a few months, from events that do not bring in the expected revenue due to decreased attendance. These policies typically cover other expenses as well (e.g., for publicity necessary to inform participants of the cancellation), often in addition to the policy’s main limit of liability.

General Liability Insurance. This type of insurance policy protects against liability for alleged bodily injury or property damage (broadly defined to include “loss of use”). Claims for negligence and related torts have already been filed alleging a failure to protect against the risks of the virus and failures to warn.

Employment Practices Lability and Workers’ Compensation/Employer Liability Insurance. Employment claims often arise during economic slowdowns. These types of insurance policies may provide protection against such claims.

Assignment. Specific policy language may raise other issues. For example, banks should be aware that insurance policies may include provisions that seek to restrict the assignment of insurance policies if they are considering using insurance proceeds as additional collateral. A review of those insurance policy provisions may be called for that reason also.

Determine what policies customers have in place.

Next, bankers should determine what coverages customers or vendors have in place. Most bank customers and vendors should at a minimum have standard business-interruption insurance as part of the first-party property. The bank should be named as an additional insured on such policies, perhaps in exchange for the forbearances discussed above. In short, the bank may be able to use this “other people’s insurance” as a source of additional protection.

Review the notice and timing requirements in all applicable policies.

Whether the bank is putting in a claim on its own behalf or on behalf of its customers, it should make sure to review the policy notice and timing requirements. These requirements often differ from policy to policy and may have differing requirements for notice of circumstances (knowledge of a situation which may lead to a claim), and notice of the claim itself.  The law in some states still also applies a “per se rule” on notice, which allows an insurer to argue that coverage should not apply because notice (whether of circumstances or of claim) was “late.”  Given the current situation, it is wise to consider now whether notice should be given.

The business-interruption coverages also will require the policyholder to provide a proof of loss, which sets outs all element of the policyholder’s loss with appropriate records as back-up.  The policies may impose specific and sometimes short) time periods within which the proof of loss should be submitted.  Because courts often construe these timing requirements as contractual statutes of limitations, policyholders should review their policies now so as to comply with these requirements and thus prevent a potential forfeiture of coverage.   If necessary, policyholders can ask for a written extension of any applicable statute(s) of limitation.

For additional COVID-19 insurance guidance, we strongly recommend the upcoming ICBA webinar presented by our colleague Walter Andrews: COVID-19: The Insurance Implications for Banks and Their Customers. Bankers may also want to consider, and direct clients to, the following webinar co-hosted by our colleague Lorie Masters: Insurance Issues Arising from Coronavirus: Business Interruption and Other Possible Claims.

Marketing. Reach out to current and prospective clients to ensure they know what the bank is doing to address their needs and concerns. Stay on message regarding the bank’s brand. In this environment, communicating nimbleness, safety and concern are all helpful themes. Do not focus on “sanitation.” Customers are looking for much more substantial direction and assistance from their banks. This is also an opportunity to market to the bank’s dream list of potential clients. Offering business credit cards, a reliable source of funding, cash courier, concierge services, and most of all, access and attention may hit the right nerve. Customers for life are developed at the time of stress.

Liquidity. Bank regulators have reintroduced measures not seen since the financial crisis to ensure banks can continue providing the liquidity needed by clients. A non-exhaustive list of measures includes cutting interest rates, announcing largescale asset purchases, establishing a commercial paper funding facility, encouraging money-center banks to use capital and liquidity buffers to lend to households and businesses in need, eliminating reserve requirements, and easing restrictions on distributions. Based on the measures already taken, the persisting uncertainty in global markets and public comments by regulators, it is expected that more measures will be introduced in the coming days/weeks/months. We have urged a return of the TLGP or at least increasing deposit insurance to $500,000 to calm depositors’ nerves (the cash withdrawals are but one indication of customers increased anxiety levels).

Banks are encouraged to access the Fed discount window. The Federal Reserve is making it easy to borrow. Banks have stated that the process involves a five minute phone call and results in receiving funds the same day. Banks can borrow up to 75% of pledged collateral value for up to 90 days. Banks should also consider dropping deposit rates to 2016-2017 levels to shore up NIMs that are being battered. Even for banks with high loan-to-deposit levels, funding challenges should ease in light of the high withdrawal levels from money market mutual funds.

Capital. In two weeks we have gone from wide open capital market for holding company subordinated debt and senior unsecured debt to an investor community that is throttling back. Nonetheless, there is still room for raising debt capital either on an institutional or retail basis.

Bankers should consider whether an issuance of capital is worth the cost. A subordinated debt issuance of $5 million at 5% costs the institution $250,000 before tax, but, depending on state tax laws, may only cost $175,000 on an after-tax basis. The board needs to ask itself whether a $175,000 annual premium associated with an “insurance policy” called $5 million of capital is worthwhile? If the downturn is extended, then such funding may wind up being cheap capital. Regardless of institutional debt, bankers have been drawing on their own lines to add some “sleep better at night capital cushion.”

Governance. Banks have also begun to cut or eliminate their dividends and stock repurchase programs. Relatedly, the larger economic stimulus package as currently proposed by the U.S. Senate contains restrictions on executive compensation for those companies who seek to obtain a stimulus loan, including that between March 1, 2020 and March 1, 2022, no employee (who is not covered by collective bargaining) or officer who makes in excess of $425,000 can: (1) receive any additional compensation, defined as salary, bonuses, stock or options, above their 2019 compensation; and (2) be eligible for a severance package that is twice the level of their 2019 compensation.  With regard to this stimulus package being worked on by Congress, bankers should keep an eye out for whether COVID-19 relief legislation includes any temporary ban on corporate stock repurchase activities and paying dividends.  We believe there will continue to be opportunities for buybacks once bankers have clarity on their asset quality associated with those hit hard by COVID-19.

Consider what is required to switch from in-person to virtual meetings (see Coronavirus/COVID-19: SEC Staff Issues Guidance for Virtual Meetings). Please note state open records laws. New Jersey has proposed waiving such requirements in its coronavirus response legislation. We have had conversations with other states on such matters. We have developed precedent board resolutions for use when state law requires board approval. Note that SEC filers and OTC quoted clients changing to virtual meetings (and notices sent to shareholders informing of such change) will trigger filing obligations with the SEC and OTC, as applicable. Nonetheless, such notices can often still be provided even if the meeting has been scheduled and notices have been sent.

Board oversight is critical at this juncture and will continue to be for the foreseeable future. Boards should be meeting weekly or bi-monthly. Minutes should reflect the board’s awareness of risk issues and authorization of management flexibility to respond.

Facilities & Technology. Bankers have been using new technology and novel solutions in order to continue offering banking services. Most banks seem to be moving to “distance banking” strategies, emphasizing drive-through services, ATMs, RDCs and limiting access to their lobbies, in an effort to safeguard the health of both staff and customers. Consider what options are available at your specific facilities to safeguard employees while continuing to operate physical locations and serve customers that need in-person assistance. If the bank is planning on temporarily closing or limiting access to branches, be sure to notify the appropriate regulators.

Vendor Relationships. Contact the bank’s technology vendors to see what they are doing, review vendor contracts and ensure bank systems are receiving the necessary attention. If the bank’s systems are experiencing downtime or other service interruptions, make sure to document these issues carefully. Banks may be entitled to future credits or other reimbursements for service interruptions. Additionally, consider your third party risk management policies and how those should impact your assessment of and heightened attention to third party relationships at a time like this. Your vendors may claim relief from their obligations under “force majeure” clauses and similar legal theories.  You may feel compelled to do the same in some circumstances.   See our alerts COVID-19: Contract Cancellation and the Doctrines of Impossibility and Frustration of Purpose and COVID-19: Excusing Performance of Commercial Contracts due to ‘Force Majeure’.

Payments. Banks should assess all electronic payment options and ensure adequate support staff is available to assist clients that will need to leverage those solutions. Consider what customers do not typically utilize electronic payments and reach out to inform those customers of available options. Businesses that issue checks may be sending those checks to businesses and individuals who are unable to cash those checks without considerable difficulty. Communicate in advance. If a party is not open, delivery services may quarantine packages. Access to funds is critical at this time and customers switching to options like ACH can ensure that those who cannot easily cash a check are able to access the funds they need when they need them. As noted below, be aware of potential fraudsters when customers start or increase usage of electronic payments.

Digital Banking. Certain digital banking services may be put to the test over the coming weeks as more restrictions on movement are put in place. Banks should ensure technical staff are available to assess systems and respond quickly to any outages. Determine what customer outreach and support is necessary to assist customers who may not typically leverage your bank’s digital banking offerings. Note that while regulatory restrictions are eased at this time, it is still necessary to enter into the appropriate agreement and attempt to deliver all required disclosures before enrolling any customer in new services. We are working on a separate client alert covering electronic signatures, electronic notes and remote notarization that will be released in the next couple of days.

Communicate With Regulators. It is important to maintain open lines of communication with your supervisory contacts. In particular, banks are encouraged to notify their supervisory office and their customers of temporary closure of a bank’s facilities and the availability of any alternative service options as soon as practical. Additionally, banks with upcoming examinations will need to coordinate timelines for production of pre-examination materials and any changes to examination protocol.

Fraud. Unfortunately, and predictably, economic turbulence is often an opportune time for fraudsters to deploy novel schemes. Banks need to be hyper vigilant at this time and take extra precautions for dealing with customers remotely. Consider where your bank may be vulnerable and what customers may be most vulnerable while advising all employees to share any interactions that may evidence fraudulent activity.

Bolt-on COVID-19 Plans. On March 6, the FFIEC issued inter-agency guidance reminding financial institutions that their business continuity plans should address pandemics. Review your plans, including the plans of your vendors that support critical operations and take steps to address gaps.  You may need to negotiate a supplement to existing agreements to address new contingencies.  Banks need to move quickly in updating business continuity plans even though this may seem difficult to focus on at the present moment. The FFIEC Business Continuity Planning Booklet specifically addresses pandemic planning in Appendix D. Additionally, we have developed various resources that can be leveraged to create customized “bolt-on” COVID-19 policies for banks’ existing business continuity plans.

 Additional Resources:

 This is a follow-up to the previous alert Coronavirus: What Bankers Should Consider.

 Notes

[1] OCC Bulletin 2020-15.

 [2] FDIC FIL-17-2020.

 [3] Fannie Mae and Freddie Mac have suspended foreclosures on mortgages they guarantee for 60 days effective March 18, 2020.

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