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The long arm of Dodd-Frank

posted on 2010-10-12 by Jim Jordan

 In my last blog, I explored the ramifications to a bank’s borrowers and depositors when the FDIC takes over the bank. I now want to bring to your attention a recent and further expansion of the powers of the FDIC contained in the “Dodd-Frank Wall Street Reform and Consumer Protection Act,” commonly referred to as “Dodd-Frank.”

Title II of Dodd-Frank has expanded the power and reach of the FDIC by granting the FDIC the right to take over certain non-bank financial institutions whose failure would jeopardize the U.S. financial system. The intent underlying this provision of the new law is to address the risk to our entire financial system by the failure of companies, such as Bear Stearns, which are not banks and thus not subject to the jurisdiction of the FDIC during the financial crisis that began in 2008.

Section 201 of Dodd-Frank defines such a non-bank financial institution as a company “predominately engaged in activities . . . that are financial in nature” (which requires that 85% or more of the company’s revenue be derived from such activities). Under section 203 of Dodd-Frank, before the FDIC can take over the company, the entity in question must be “in default or in danger of default” and the federal government must determine that collapse of such entity would have serious adverse effects on the U.S. economy. Federal regulators, including the Secretary of the Treasury, make these determinations, subject to an expedited limited right of appeal to the federal courts.

Unlike bankruptcy, which generally has the goal of successfully reorganizing and continuing the business of the debtor entity, the intent of the FDIC’s new power is to liquidate the assets of the seized institution to avoid a government bailout. Accordingly, many practitioners are concerned by the minimal judicial oversight and the absence of creditors’ rights protections of the type that are applicable in the bankruptcy context. Indeed, the conference committee report on Dodd-Frank states that the costs of liquidation “are borne first by shareholders and unsecured creditors, and, if necessary, by risk-based assessments on [other] large financial companies.”

Like much of Dodd-Frank, these provisions delegate substantial rulemaking authority to the regulators, and until the regulations are published, parties dealing with these large non-bank financial institutions will be faced with considerable uncertainty as to this issue.

Jim Jordan, a partner at Sutherland Asbill & Brennan LLP and chair of the firm's real estate practice group, would like to thank his colleague Justin Lischak Earley for his editorial assistance. The views above are those of the author and not of his law firm or any of its clients.

Read more: The long arm of Dodd-Frank - Atlanta Business Chronicle