BILL ANALYSIS Ó
SENATE BANKING & FINANCIAL INSTITUTIONS COMMITTEE
Senator Lou Correa, Chair
2013-2014 Regular Session
AB 279 (Dickinson) Hearing Date: June 19, 2013
As Amended: June 11, 2013
Fiscal: No
Urgency: No
SUMMARY Would, until January 1, 2017, authorize local
governments to invest up to 30 percent of their surplus funds
through a private sector deposit placement service, as
specified.
DESCRIPTION
1. Would expand the ways in which local governments may invest
their surplus funds, by authorizing local agencies to invest
up to 30 percent of their surplus funds in deposits at
depository institutions that use a private sector entity to
assist in the placement of those deposits.
Existing law (see number 4 below) authorizes local governments
to invest up to 30 percent of their surplus funds in
certificates of deposit (CDs) at depository institutions
that use a private sector entity to help place those
deposits. This bill expands that authority beyond CDs to
any type of deposit. The new authority (i.e., non-CD
deposit authority) would only be effective until January 1,
2017, and would be limited; no local agency could invest
more than 10 percent of its surplus funds in any single
non-CD placement service.
EXISTING LAW
2. Defines a local agency as a county, city, city and county,
school district, community college district, public district,
county board of education, county superintendent of schools, or
any public or municipal corporation (Government Code Section
53600).
3. Authorizes local agencies that do not pool their money in
deposits or investments with other local agencies with separate
AB 279 (Dickinson), Page 2
governing bodies, and that have money in their treasuries that
is not required for their immediate needs, to invest any portion
of the money they deem wise or expedient in selected investments
specified in law, and places limitations on the percentage of a
local agency's surplus that may be invested in some of those
investments (Government Code Section 53601).
4. Includes negotiable certificates of deposit (CDs) among
allowable investments, provided they are issued by a state- or
nationally-chartered depository institution, and the local
agency's investment in the CDs does not exceed 30% of the
agency's surplus (Government Code Section 53601).
5. Authorizes local agencies to invest up to 30% of their surplus
funds in CDs at depository institutions that use a private
sector entity, which assists in the placement of CDs, as long as
the full amount of the principal and interest that may be
accrued during the maximum term of each CD is insured at all
times by either the Federal Deposit Insurance Corporation (FDIC)
or the National Credit Union Administration (NCUA) (Government
Code Sections 53601.8 and 53635.8). Additional requirements are
as follows:
a. The depository institution that receives the funds from
the local agency is called the "selected" depository
institution.
b. The selected depository institution is required to serve
as a custodian for each CD that is issued with the placement
service.
c. At the same time the local agency's funds are deposited,
and CDs are issued, the selected depository institution must
receive deposits from other depository institutions in an
amount that is equal to or greater than the amount of
principal that the local agency initially deposited through
the selected depository institution for investment.
COMMENTS
1. Purpose: This bill is co-sponsored by the California
Independent Bankers (CIB) and the California Bankers
Association (CBA) to allow local agencies to access the
Insured Cash Sweep service offered by Promontory
Interfinancial, LLC and other, similar cash sweep services
offered by Institutional Deposits Corporation (IDC), Anova
AB 279 (Dickinson), Page 3
Financial, and Demand Deposit Marketplace.
2. Background: This bill builds upon authority first granted
to local agencies in California in 2006 (AB 2011 (Vargas),
Chapter 459, Statutes of 2006). In 2006, CIB sponsored
legislation intended to help community banks attract
deposits from local government agencies. Prior to the 2006
legislation, community banks struggled to attract local
agency deposits, because of the requirement that local
agency deposits above the FDIC deposit insurance limit be
fully collateralized. Unlike their larger counterparts,
small banks lack the necessary collateral to accept the
large deposits.
Recognizing that smaller banks would benefit from the ability to
accept multiple deposits in increments up to, but not
exceeding the FDIC deposit insurance limit, a private sector
entity (Promontory Interfinancial LLC) created a CD
placement service. Promontory's CD placement service is
based upon the premise that FDIC insurance is
institution-based, and not depositor-based. Thus, if a
local agency with $2 million to deposit places that money in
a single depository institution, only $250,000 of that
deposit is insured by the FDIC. However, if that local
agency splits up its $2 million into eight slices of
$250,000 each, and deposits each of those eight $250,000
slices into a different depository institution, the whole $2
million will be insured. Promontory devised a way to save
local agencies the need to manually split their deposits
into slices up to, but not exceeding the FDIC insurance
limit, while simultaneously giving relatively small banks an
opportunity to receive public funds in insured increments of
$250,000 or less.
Promontory's CD placement service works, in part because of its
large network of member banks, and in part because of the
FDIC's willingness to insure deposits that are parceled out
by Promontory in amounts up to, but not exceeding the FDIC's
deposit insurance limit. The service works as follows: a
local agency with an amount of surplus funds to invest that
exceeds the FDIC insurance limit (now $250,000) goes to a
local California bank (the "selected" bank), which belongs
to the CD placement service. At the request of the selected
bank, the CD placement service splits up the local agency's
deposit into slices, each of which is valued at $250,000 or
less. Each of these slices is then parceled out to banks
AB 279 (Dickinson), Page 4
throughout the country, which are also members of the
placement service, and which issue CDs. In that way, the
full amount of the local agency's deposit is FDIC-insured.
At the same time the local agency's funds are deposited with the
selected bank, and then parceled out to banks across the
country that are members of the CD placement network in
amounts of $250,000 or less, the selected bank receives
deposits from other members of the placement service
network, which are equal to, or greater than, the full
amount of the principal the local agency initially deposited
with the selected bank. Thus, the selected bank ends up
with at least the same amount of money on deposit that it
received from the local agency; however, the full value of
that money is insured, because it is held in increments of
$250,000 or less for depositors that originally deposited
their money with other selected banks.
This bill would allow local governments to deposit up to 30% of
their surplus funds in California banks that have entered
into agreements with private sector entities that offer
placement services for deposits other than CDs (e.g., demand
deposit accounts and money market accounts). The logic is
the same (an amount of money above the FDIC's deposit
insurance limit is deposited with a California bank, a
private sector entity facilitates the distribution of
amounts in excess of the deposit insurance limit to other
banks in its network, the same private sector entity
facilitates the distribution of money deposited into those
other banks into the California bank in increments up to,
but not exceeding the FDIC's deposit limit); the difference
is that the money is held in demand deposit accounts or
money market accounts, and not in CDs.
Unlike the CD placement service, which is only offered by
Promontory, cash sweep services utilizing demand deposit and
money market accounts are offered by multiple private sector
entities (including Promontory, IDC, Anova Financial, and
Demand Deposit Marketplace).
3. What About Credit Unions? To date, none of the private
sector entities that offer placement services to banks have
offered their services to credit unions. Credit unions have
actively expressed interest in the establishment of a
similar private sector entity that could serve their needs,
but, to date, none has been established.
AB 279 (Dickinson), Page 5
4. Are We Sure That Cash Sweep Deposits Will Be FDIC-Insured?
In July 2003, the FDIC wrote to a representative of
Promontory Interfinancial Network, stating that, on the
basis of the information provided by Promontory about its CD
placement service (CDARS), "deposits placed through the
CDARS system would be insured on a pass-through basis under
the FDIC's rules on the insurance coverage of agency or
custodial accounts." The FDIC has so far declined to issue
similar correspondence to Promontory in connection with its
Insured Cash Sweep service.
The FDIC did, however, issue a letter to Institutional Deposits
Corporation (IDC), opining that IDC's cash sweep program
would qualify for pass-through insurance. Key to the FDIC's
ruling are the contents of federal regulations (12 CFR Part
330) regarding deposit insurance coverage and the Financial
Institutions letter (FIL 29-2010) that restates key elements
of these regulations for FDIC members.
In March 2013, Promontory Interfinancial sought a legal opinion
regarding the insurability of funds disbursed through its
Insured Cash Sweep program. That legal opinion concluded
that funds allocated through Promontory's cash sweep program
do qualify for pass-through insurance coverage, because
Promontory's program complies with FDIC regulations and FIL
29-2010.
On the basis of the FDIC letter and the subsequent legal
opinion, It appears that cash sweep programs are eligible
for FDIC pass-through insurance, as long as they comply with
FDIC's regulations and FIL 29-2010. Staff notes, however
that this bill fails to require private sector placement
services to comply with those federal rules. Thus, if a
private sector entity develops a deposit placement service
that does not adhere to federal rules governing FDIC
pass-through insurance, its use would be authorized by
California law, despite its lack of safeguards intended to
ensure that deposits would be eligible for FDIC pass-through
insurance. Amendments are being offered to address this
concern.
Amendments are also being offered to address a secondary issue
arising from FIL 29-2010. That FIL is clear that depository
institutions must meet certain capitalization requirements,
in order to accept brokered deposits. A brokered deposit is
AB 279 (Dickinson), Page 6
one that is arranged by an agent or custodian on behalf of
another depository institution - exactly what is done by the
private sector entities whose services are the subject of
this bill. In FIL 29-2010, the FDIC states, "A
well-capitalized, insured depository institution may accept
brokered deposits without restriction. However, an
adequately capitalized institution cannot accept brokered
deposits unless the institution obtains a waiver from the
FDIC. An undercapitalized institution cannot accept
brokered deposits under any circumstances." This bill is
currently silent on the capitalization requirements that
apply to depository institutions, which accept local agency
deposits pursuant to the authority granted by the bill.
Suggested amendments will clarify California statute to
address this topic.
5. Should California Act To Further Stress the FDIC's Deposit
Insurance Fund? In 2006, when AB 2011 was enacted,
California's housing market was soaring, our economy was
strong, and bank failures were far from anyone's mind. At
that time, relying on FDIC insurance to help bolster
deposits at local community banks raised very few questions,
because the FDIC's Deposit Insurance Fund (DIF; the source
of money for claims against FDIC insurance) was fully
capitalized. The time since enactment of AB 2011 has not
been kind to banks or the DIF. Since January 2007, a total
of 483 banks have failed across the United States, resulting
in payments of just under $90 billion from the DIF to
depositors. Although the FDIC has gone to great lengths to
assure depositors that it is fully able to protect every
depositor with an FDIC-insured account, the agency has also
significantly increased its assessments on banks, to help
build its back its DIF to fully capitalized levels. By
expanding the use of deposit placement services by local
agencies in California, this bill will increase pressure on
the already highly stressed DIF.
Concern regarding the impact of this bill on the DIF is not just
hypothetical. Two hundred eleven of the nearly 500 banks
that failed during the financial crisis were members of the
Promontory's Network (similar data are unavailable for the
other private sector entities that offer deposit placement
services). The FDIC resolved 205 of those 211 through
purchase and assumption transactions, in which the
purchasing bank agreed to acquire all of the deposits of the
failed bank. However, 6 of the 211 failures of banks within
AB 279 (Dickinson), Page 7
Promontory's Network did result in a payout from the FDIC's
DIF to depositors, which drew down the DIF by an unknown
amount. Although similar information is unavailable about
the other private sector entities that offer deposit
placement services, it is reasonable to assume that their
experiences with bank failures and DIF pressure are similar.
6. Summary of Arguments in Support:
a. This bill is co-sponsored by CIB and CBA. CIB
states that California's current law authorizing local
agencies to deposit up to 30% of their surplus funds with
depository institutions that use private sector CD
placement services has helped California's community
banks attract $4.3 billion from local agencies. These
moneys have been reinvested locally via loans to
households and small businesses. However, because
current law only applies to CDs, community banks may be
limited in their ability to attract a substantial portion
of public funds that are placed in transaction and money
market deposit accounts. AB 279 gives these banks
another opportunity to secure these local agency
deposits.
7. Summary of Arguments in Opposition: None received.
8. Amendments: The author and co-sponsors have agreed to the
following amendments, which are shown below in mock-up form,
and which would be made to both sections of the bill (Page
2, lines 14 through 23 and Page 4, lines 7 through 15).
(b) The selected depository institution may use a private
sector entity to help place local agency deposits submit the
funds to a private sector entity that assists in the
placement of deposits with one or more commercial banks,
savings banks, savings and loan associations, or credit
unions that are located in the United States, and are within
the network used by the private sector entity for this
purpose for the local agency's account.
(c) The full amount of the deposit placed pursuant to
subdivision (b) by the private sector entity and the
interest that may be accrued for each such deposit shall at
all times be insured by the Federal Deposit Insurance
Corporation or the National Credit Union Administration.
(c) Any private sector entity used by a selected depository
AB 279 (Dickinson), Page 8
institution to help place its local agency deposits must
maintain policies and procedures requiring both of the
following:
(1) The full amount of each deposit placed pursuant to
subdivision (b) and the interest that may accrued on each
such deposit shall at all times be insured by the Federal
Deposit Insurance Corporation or the National Credit Union
Administration.
(2) Every depository institution where funds are placed
shall be capitalized at a level that is sufficient, and is
otherwise eligible, to receive such deposits pursuant to
regulations of the Federal Deposit Insurance Corporation or
the National Credit Union Administration, as applicable.
9. Prior and Related Legislation:
a. SB 1344 (Kehoe), Chapter 112, Statutes of 2010:
Deleted the sunset date contained in AB 2011, thus
permanently extending the ability of local agencies to
use private sector, CD placement services.
b. AB 2011 (Vargas), Chapter 459, Statutes of 2006:
Until January 1, 2012, authorized local agencies to
invest surplus funds in a private sector, CD placement
service.
LIST OF REGISTERED SUPPORT/OPPOSITION
Support
California Independent Bankers (co-sponsor)
California Bankers Association (co-sponsor)
Opposition
None received
Consultant: Eileen Newhall (916) 651-4102