Preferring Foreign Depositors

The Federal Deposit Insurance Corporation has issued a proposed regulation intended to address an emerging issue in international banking: how to grant non-US branch deposits equal treatment with US deposits in the event of the bank's insolvency. Below are both big-picture and technical issues that need to be addressed in order to make the proposal effective.

The proposed regulation would effectively grant deposit status at non-US branches of US insured banks to deposits booked there for purposes of the depositor preference provisions of Federal law.1 Its purpose is to provide the benefits of depositor preference status to deposits in branches in other countries. Depositor preference simply means that, in the liquidation of the bank, deposits will be paid ahead of non-deposit unsecured creditors, thereby increasing significantly the likelihood of full or almost-full repayment. This issue has been spotlighted by the United Kingdom, which has proposed to require that UK branches of foreign banks be entitled to depositor preference under their home country insolvency rules or provide clear disclosure of its absence to their depositors. This requirement, if implemented, might create an incentive for US banks to take such steps as making their US offices liable for repayment of such deposits; these would be so-called "dual-office" deposits, in which both a US and a non-US office would be liable for repayment.

However, the FDIC does not want to be liable as the insurer of deposits for deposits payable only outside the United States. Its proposed solution to avoid such a result is to grant deposit status for depositor preference provisions of US law, but not insured-deposit status, to a "dual-office" deposit. If adopted, a new FDIC regulation would state that a dual-office deposit would be a "deposit" for other purposes, such as depositor preference, but would not be an "insured deposit," and therefore not benefit from FDIC insurance.

The comment period ends April 22. Following are several issues that should be addressed by the FDIC in any final adoption of the proposed regulation:

May the "dual-office" aspect be obtained if a US branch guarantees payment of the non-US branch deposit? Such a guarantee has caused offshore deposits to be considered US deposits by the Federal Reserve for purposes of its reserve requirements, implemented by its Regulation D.2 A guarantee of payment by a US office would seem to give the non-US branch depositor the benefit of US coverage for FDIA purposes. Issuing a guarantee would likely simplify the operation of such deposits by the banks since there would be no need to give access to the deposit...