oversight

Community Banks and Credit Unions: Impact of the Dodd-Frank Act Depends Largely on Future Rule Makings

Published by the Government Accountability Office on 2012-09-13.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                 United States Government Accountability Office

GAO              Report to Congressional Requesters




September 2012
                 COMMUNITY BANKS
                 AND CREDIT
                 UNIONS
                 Impact of the Dodd-
                 Frank Act Depends
                 Largely on Future
                 Rule Makings




GAO-12-881
                                              September 2012

                                              COMMUNITY BANKS AND CREDIT UNIONS
                                              Impact of the Dodd-Frank Act Depends Largely on
                                              Future Rule Makings
Highlights of GAO-12-881, a report to
congressional requesters




Why GAO Did This Study                        What GAO Found
The Dodd-Frank Act includes                   While the number of community banks and credit unions has declined in recent
numerous reforms to strengthen                years, they have remained important lenders to small businesses and other local
oversight of financial services firms         customers. From 1985 through 2010, the number of banks under $10 billion in
and consolidate certain consumer              assets and credit unions declined by over 50 percent to 7,551 and 7,339,
protection responsibilities within CFPB.      respectively. The decline resulted largely from consolidations, which were
To help minimize its regulatory burden        facilitated by changes in federal law that made it easier for banks and credit
on small institutions, including              unions to expand geographically. Another factor that may have contributed to
community banks and credit unions,            consolidations is economies of scale, which refer to how an institution’s size is
the act exempts such institutions from
                                              related to its costs. Although the existence of economies of scale in banking has
several of its provisions. However, the
                                              been subject to debate, some recent research suggests that banks can save
act also contains provisions that
impose additional requirements on
                                              costs by expanding. Despite the decline in their number, community banks and
small institutions. Although no               credit unions have maintained their relationship-banking model, relying on their
commonly accepted definition of a             relationships with customers and local knowledge to make loans. Such
community bank exists, the term often         institutions can use their relationship-based information to make loans to small
is associated with smaller banks.             businesses and other borrowers that larger banks may not make because of their
Historically, community banks and             general reliance on more automated processes. About 20 percent of lending by
credit unions have played an important        community banks can be categorized as small business lending (based on a
role in providing credit to small             commonly used proxy), compared to about 5 percent by larger banks.
businesses and other local customers.         Community banks and credit unions also play an important role in rural areas,
                                              using relationship-based lending to serve customers with limited credit histories.
This report examines (1) the significant
changes community banks and credit            Although the Dodd-Frank Wall Street Reform and Consumer Protection Act’s
unions have undergone in the past             (Dodd-Frank Act) reforms are directed primarily at large, complex U.S. financial
decade and the factors that have              institutions, regulators, industry officials, and others collectively identified
contributed to such changes, and (2)          provisions within 7 of the act’s 16 titles that they expect to have positive and
Dodd-Frank Act provisions that                negative impacts on community banks and credit unions. Industry officials told us
regulators, industry associations, and        that it is difficult to know for sure which provisions will impact community banks
others expect to impact community             and credit unions, because the outcome largely depends on how agencies
banks and credit unions, including their
                                              implement certain provisions through their rules, and many of the rules
small business lending. GAO analyzed
                                              implementing the act have not been finalized. Thus, regulators and industry
regulatory and other data on
community banks and credit unions;            officials also have noted that the full impact of the Dodd-Frank Act on these
reviewed academic and other relevant          institutions is uncertain. Nonetheless, some regulators and industry officials
studies; and interviewed federal              expect some of the act’s provisions to benefit community banks and credit unions
regulators, community banks, credit           and other provisions to impose additional requirements on community banks and
unions, state regulatory and industry         credit unions that could affect them disproportionately relative to larger banks.
associations, academics, and others.          GAO analyzed a number of the Dodd-Frank Act provisions that regulators,
                                              industry officials, and others expect to impact community banks and credit
CFPB, federal banking regulators, and         unions. Several of the act’s provisions, including its deposit insurance reforms,
the Securities and Exchange
                                              exemption from Section 404(b) of the Sarbanes-Oxley Act, and the Bureau of
Commission provided technical
                                              Consumer Financial Protection’s (CFPB) supervision of certain nonbanks, could
comments on this report, which GAO
incorporated as appropriate. CFPB and
                                              reduce costs and/or help level the playing field for community banks and credit
the National Credit Union                     unions. Other provisions, such as the act’s mortgage reforms, may impose
Administration generally agreed with          additional requirements and, thus, costs on generally all banks and credit unions,
the report.                                   but their impact will depend on, among other things, how the provisions are
                                              implemented. Finally, industry officials generally told us that it is too soon to
View GAO-12-881. For more information,        determine the Dodd-Frank Act’s overall impact on small business lending and
contact Lawrance Evans at (202) 512-8678 or   identified only one provision that contains a data collection and reporting
evansl@gao.gov.
                                              requirement as potentially having a direct impact on such lending.
                                                                                      United States Government Accountability Office
Contents


Letter                                                                                          1
               Background                                                                       4
               Community Banks and Credit Unions Have Declined in Number
                 but Remain Important for Small Businesses and Agriculture                      7
               Many Dodd-Frank Act Provisions May Affect Community Banks
                 and Credit Unions, but the Full Extent of Their Impact Is
                 Uncertain                                                                    19
               Agency Comments and Our Evaluation                                             67

Appendix I     Scope and Methodology                                                          69



Appendix II    Provisions of the Dodd-Frank Act Expected by Federal Regulators,
               State Regulatory Associations, and Industry Associations to Impact
               Community Banks and Credit Unions                                              72



Appendix III   Comments from the Bureau of Consumer Financial Protection                      78



Appendix IV    Comments from the National Credit Union Administration                         81



Appendix V     GAO Contacts and Staff Acknowledgments                                         82



Tables
               Table 1: Prudential Regulators and Their Basic Functions                         5
               Table 2: Numbers of Banks by Asset Class, 2011                                   5
               Table 3: Numbers of Credit Unions by Asset Class, 2011                           6
               Table 4: Change in Quarterly Insurance Assessments Primarily Due
                        to the Change in the Assessment Base                                  24
               Table 5: Number of Banks with $10 Billion or Less in Total Assets
                        and Number of These Banks Holding Derivatives from
                        2007 through 2011                                                     55




               Page i     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
          Table 6: Dodd-Frank Act Provisions Expected by Federal
                   Regulators, State Regulatory Associations, and Industry
                   Associations to Impact Community Banks and Credit
                   Unions                                                                73


Figures
          Figure 1: Return on Assets at Large Banks, Community Banks, and
                   Credit Unions from 2002 through 2011                                  11
          Figure 2: Efficiency at Large Banks, Community Banks, and Credit
                   Unions from 2002 through 2011                                         13
          Figure 3: Small Business Lending at Large Banks and Community
                   Banks from 2002 through 2011                                          15
          Figure 4: Credit Union Small Business Loans as a Percentage of All
                   Loans from 2002 through 2011                                          17
          Figure 5: Loans as a Percentage of Total Assets at Banks and Credit
                   Unions from 2002 through 2011                                         18




          Page ii    GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Abbreviations

CFPB                       Bureau of Consumer Financial Protection
CFTC                       Commodity Futures Trading Commission
DIF                        Deposit Insurance Fund
Dodd-Frank Act             Dodd-Frank Wall Street Reform and Consumer
                           Protection Act
FDIC                       Federal Deposit Insurance Corporation
Federal Reserve            Board of Governors of the Federal Reserve System
FHFA                       Federal Housing Finance Agency
HMDA                       Home Mortgage Disclosure Act
JOBS Act                   Jumpstart Our Business Startups Act
NCUA                       National Credit Union Administration
OCC                        Office of the Comptroller of the Currency
OTC                        over-the-counter
OTS                        Office of Thrift Supervision
QM                         qualified mortgage
QRM                        qualified residential mortgage
RMBS                       residential mortgage-backed securities
SBA                        Small Business Administration
SEC                        Securities and Exchange Commission
TILA                       Truth in Lending Act




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Page iii      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
United States Government Accountability Office
Washington, DC 20548




                                   September 13, 2012

                                   The Honorable Olympia Snowe
                                   Ranking Member
                                   Committee on Small Business and Entrepreneurship
                                   United States Senate

                                   The Honorable Mark Kirk
                                   United States Senate

                                   In 2008, the U.S. financial system and broader economy faced the most
                                   severe financial crisis since the Great Depression. The crisis threatened
                                   the stability of the financial system and contributed to the failure of
                                   numerous financial institutions, including some large, complex financial
                                   institutions. For example, 414 banks and 90 credit unions failed between
                                   2008 and 2011, with such failures peaking in 2010. In response to the
                                   crisis, Congress passed the Dodd-Frank Wall Street Reform and
                                   Consumer Protection Act (Dodd-Frank Act), which became law on July
                                   21, 2010. 1 The act includes numerous reforms to strengthen oversight of
                                   financial services firms and consolidate certain consumer protection
                                   responsibilities within the Bureau of Consumer Financial Protection,
                                   commonly known as the Consumer Financial Protection Bureau (CFPB). 2
                                   Although the Dodd-Frank Act exempts small institutions, such as
                                   community banks and credit unions, from several of its provisions, and
                                   authorizes federal regulators to provide small institutions with relief from
                                   certain regulations, it also contains provisions that will impose additional
                                   restrictions and compliance costs on these institutions. 3 Historically,


                                   1
                                    Pub. L. No. 111-203, 124 Stat. 1376 (2010).
                                   2
                                    Title X of the Dodd-Frank Act, also called the Consumer Financial Protection Act of 2010,
                                   creates CFPB as a new executive agency to enforce certain existing federal consumer
                                   protection laws and promulgate new rules regarding federal consumer financial laws.
                                   3
                                    Although no commonly accepted definition of a community bank exists, the term often is
                                   associated with smaller banks (e.g., under $1 billion in assets) that provide relationship
                                   banking services to the local community and have management and board members who
                                   reside in the local community. In this report, we generally define community banks as
                                   banks (insured depository institutions that are not credit unions) with under $10 billion in
                                   total assets. We also include in our analysis federally insured credit unions with under $10
                                   billion in total assets. We use under $10 billion in total assets as our criterion because the
                                   Dodd-Frank Act exempts small institutions from a number of its provisions based on that
                                   threshold.




                                   Page 1        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
community banks and credit unions have played an important role in
serving their local customers, including providing credit to small
businesses.

This report examines

•   the significant changes community banks and credit unions have
    undergone in the past decade, and the factors that have contributed
    to such changes; and

•   Dodd-Frank Act provisions that regulators, industry associations, and
    others expect to impact community banks and credit unions, including
    their small business lending.

To examine changes in community banks and credit unions, we analyzed
data from SNL Financial, a private financial database that contains
publicly filed and financial reports, including Consolidated Reports on
Condition and Income (Call Reports) submitted to the Federal Deposit
Insurance Corporation (FDIC), Thrift Financial Reports submitted to the
Office of Thrift Supervision (OTS), and 5300 Call Reports (Call Reports)
submitted to the National Credit Union Administration (NCUA). 4 We used
SNL Financial data to identify changes in the total number, profitability,
lending activities, expenses, and other metrics of community banks and
credit unions from 2002 through 2011. 5 We reviewed the SNL Financial
data and found the data to be sufficiently reliable for our purposes. We


4
 The Dodd-Frank Act eliminated OTS, which chartered and supervised federally chartered
savings institutions and savings and loan companies. Rule-making authority previously
vested in OTS was transferred to the Office of the Comptroller of the Currency (OCC) for
savings associations and to the Board of Governors of the Federal Reserve System
(Federal Reserve) for savings and loan holding companies. Supervisory authority was
transferred to OCC for federal savings associations, to FDIC for state savings
associations, and to the Federal Reserve for savings and loan holding companies and
their subsidiaries, other than depository institutions. The transfer of these powers was
completed on July 21, 2011, and OTS was officially dissolved 90 days later (Oct. 19,
2011).
5
  Call Reports are a primary source of financial data used for the supervision and
regulation of banks and credit unions. They consist of a balance sheet, an income
statement, and supporting schedules. Every national bank, state member bank, insured
state nonmember bank, and federally insured credit union is required to file a consolidated
Call Report, normally as of the close of business on the last calendar day of each calendar
quarter. The specific reporting requirements depend on the size of the institution and
whether it has any foreign offices. As of March 31, 2012, savings associations no longer
filed Thrift Financial Reports and instead were required to file Call Reports.




Page 2        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
also reviewed and analyzed relevant academic, regulatory, and industry
studies. We interviewed officials from FDIC, the Board of Governors of
the Federal Reserve System (Federal Reserve), the Office of the
Comptroller of the Currency (OCC), and NCUA, and the Small Business
Administration (SBA); officials from two state regulatory associations
(Conference of State Bank Supervisors and National Association of State
Credit Union Supervisors); representatives of industry associations,
including the American Bankers Association, Credit Union National
Association, Independent Community Bankers of America, and National
Association of Federal Credit Unions; and academics to obtain their
perspectives on industry changes.

To assess the Dodd-Frank Act’s impact on community banks and credit
unions, we reviewed the act and related materials, including relevant
congressional hearings; comment letters on proposed rules; and studies
and analyses prepared by federal and state regulators, industry
associations, law firms, and academics. We used Call Report and other
data compiled by SNL Financial to assess the extent to which community
banks and credit unions may be subject to or otherwise impacted by
various Dodd-Frank Act provisions. We reviewed the SNL Financial data
and found the data to be sufficiently reliable for our purposes. To help
identify Dodd-Frank Act provisions applicable to community banks and
credit unions and assess their impact on those institutions, we
interviewed the federal agencies, state regulatory and industry
associations, and others identified above, and CFPB. We discussed
public comments that some regulators received about proposed rules, but
regulators generally do not disclose how they will respond to such
comments until after the rules are finalized. In addition, based on
demographic factors, we interviewed four state banking and credit union
associations, and we randomly selected and interviewed 12 community
banks and credit unions to obtain information on the Dodd-Frank Act’s
provisions. Our interviews with this small sample of institutions provided
further insights on the expected impact of the Dodd-Frank Act, but the
responses are not generalizable to the population of community banks
and credit unions. Although we analyzed the impact of a number of
specific Dodd-Frank Act provisions on community banks and credit
unions, assessing the extent to which these provisions or their related
regulations should apply to such institutions was beyond the scope of our
work. Appendix I contains additional information on our scope and
methodology.

We conducted this performance audit between February and September
2012, in accordance with generally accepted government auditing


Page 3     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
             standards. Those standards require that we plan and perform the audit to
             obtain sufficient, appropriate evidence to provide a reasonable basis for
             our findings and conclusions based on our audit objectives. We believe
             that the evidence obtained provides a reasonable basis for our findings
             and conclusions based on our audit objectives.


             In the banking industry, the specific regulatory configuration for a banking
Background   institution depends on the type of charter the institution chooses.
             Depository institution charter types include:

             •   commercial banks, which originally focused on the banking needs of
                 businesses but over time have broadened their services;

             •   thrifts, which include savings banks, savings associations, and
                 savings and loans, and were originally created to serve the needs—
                 particularly the mortgage needs—of those not typically served by
                 commercial banks; and

             •   credit unions, which are member-owned cooperatives run by member-
                 elected boards with an historical emphasis on serving people of
                 modest means.

             These charters may be obtained at the state or federal level. State
             regulators charter institutions and participate in their oversight, but all
             institutions that offer federal deposit insurance have a prudential
             regulator. The prudential regulators—which generally may issue
             regulations for and take enforcement actions against industry participants
             within their jurisdiction—are identified in table 1.




             Page 4      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Table 1: Prudential Regulators and Their Basic Functions

Agency                                      Basic function
Office of the Comptroller of the Currency   Charters and supervises national banks and federal thrifts
Board of Governors of the Federal           Supervises state-chartered banks that opt to be members of the Federal Reserve System,
Reserve System                              bank holding companies, thrift holding companies, and the nondepository institution
                                            subsidiaries of those institutions
Federal Deposit Insurance Corporation       Supervises FDIC-insured state-chartered banks that are not members of the Federal
                                            Reserve System, as well as federally insured state savings banks and thrifts; insures the
                                            deposits of all banks and thrifts that are approved for federal deposit insurance; and
                                            resolves all failed insured banks and thrifts and certain nonbank financial companies
National Credit Union Administration        Charters and supervises federally chartered credit unions and insures savings in federal
                                            and most state-chartered credit unions
                                            Source: GAO.


                                            As shown in table 2, almost 7,400 (about 99 percent) of all banks had
                                            less than $10 billion in assets in 2011 and thus fell within our definition of
                                            a community bank. The majority of community banks have $250 million or
                                            less in total assets. Although community banks comprise the vast majority
                                            of all banks, they held in aggregate about 20 percent of the industry’s
                                            total assets (about $2.8 trillion) in 2011.

                                            Table 2: Numbers of Banks by Asset Class, 2011

                                                                                             Number of                             Percentage of
                                             Asset size                                         banks                                total banks
                                             Community Banks
                                                   < $100 million                                  2,504                                       33%
                                                   $100 - $250 million                             2,418                                           32
                                                   $250 million - $1 billion                       1,907                                           25
                                                   $1- $10 billion                                    556                                          7
                                             Large Banks
                                                   > $10 billion                                      109                                          1
                                             Total                                                 7,494                                     100%
                                            Source: GAO analysis of SNL Financial data.


                                            Note: Community banks can be defined based on a number of criteria, but for the purpose of this
                                            report, we use size (less than $10 billion in assets) as the sole criterion to distinguish community
                                            banks from their larger counterparts.


                                            Similarly, table 3 shows that the vast majority of credit unions (over 99
                                            percent) had $10 billion or less in total assets in 2011. Furthermore,
                                            around 80 percent of the credit unions had $100 million or less in total
                                            assets.



                                            Page 5              GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Table 3: Numbers of Credit Unions by Asset Class, 2011

                                              Number of credit                 Percentage of total
 Asset size                                           unions                        credit unions
 Small Credit Unions
       < $5 million                                          1,676                               24%
       $5 - $20 million                                      1,936                                 27
       $20 - $100 million                                    2,080                                 29
       $100 million - $1 billion                             1,219                                 17
       $1- 10 billion                                          180                                     3
 Large Credit Unions
       > $10 billion                                              3                                    0
 Total                                                       7,094                             100%
Source: GAO analysis of SNL Financial data.


Note: We use under $10 billion in total assets as our criteria for a small credit union, because the
Dodd-Frank Act exempts small institutions from a number of its provisions based on that threshold.


The Dodd-Frank Act made important and fundamental changes to the
structure of the U.S. financial system to strengthen safeguards for
consumers and investors and to provide regulators with better tools for
limiting risk in the major financial institutions and the financial markets.
According to the Financial Stability Oversight Council, the core elements
of the act are designed to build a stronger, more resilient financial
system—less vulnerable to crisis, more efficient in allocating financial
resources, and less vulnerable to fraud and abuse. 6 Under the Dodd-
Frank Act, federal financial regulatory agencies are directed or have the
authority to issue hundreds of regulations to implement the act’s reforms.
The Dodd-Frank Act directs agencies to adopt regulations to implement
the act’s provisions and, in some cases, gives the agencies little or no
discretion in deciding how to implement the provisions. However, other
rule-making provisions in the act are discretionary in nature, stating that
(1) certain agencies may issue rules to implement particular provisions or
that the agencies may issue regulations that they decide are “necessary
and appropriate,” or (2) agencies must issue regulations to implement
particular provisions but have some level of discretion as to the substance
of the regulations. As a result, the agencies may decide to promulgate


6
 Financial Stability Oversight Council, Financial Stability Oversight Council 2011 Annual
Report (Washington, D.C.: July 26, 2011).




Page 6              GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                            rules for all, some, or none of the provisions, and often have broad
                            discretion to decide what these rules will contain. Many of the provisions
                            in the Dodd-Frank Act target the largest and most complex financial
                            institutions, and regulators have noted that much of the act is not meant
                            to apply to community banks. As such, the act directs regulators in a
                            number of areas to consider whether to exempt small banks and credit
                            unions. However, the act is comprehensive and far-reaching and will
                            impact smaller institutions, specifically those that undertake activities
                            thought to be precipitating factors in the 2007 through 2009 financial
                            crisis.


                            The number of community banks and credit unions has declined in recent
Community Banks             decades, as smaller institutions have expanded, merged with, or been
and Credit Unions           purchased by larger institutions. The trend of consolidation in banks and
                            credit unions has been facilitated by statutory and regulatory changes and
Have Declined in            may have resulted, in part, from advantages in efficiency at larger
Number but Remain           institutions. However, community banks and credit unions still play an
Important for Small         important role in the economy. Community banks and credit unions
                            allocate more of their lending to small businesses and rural areas than
Businesses and              large banks, which research suggests is due to their focus on
Agriculture                 relationship-based lending.


Changes in Regulation and   The number of community banks and credit unions has continued to
Other Factors Have Led to   decline significantly since at least the mid-1980s. According to FDIC
the Consolidation of Many   research presented in 2012, the number of banks with less than $10
                            billion in assets declined from 17,997 to 7,551, or by about 58 percent,
Community Banks and         between 1985 and 2010. 7 Similarly, according to NCUA annual reports,
Credit Unions               the number of federally insured credit unions declined from 15,045 to
                            7,339, or by about 51 percent, between 1985 and 2010. Despite the
                            decline in the number of credit unions, our analysis of Census data found
                            that membership in credit unions doubled over the same period. Our
                            analysis of SNL Financial data shows that the number of community




                            7
                             Richard Brown, Chief Economist, FDIC, “Community Banking by the Numbers” (paper
                            presented at FDIC’s Future of Community Banking Conference, Feb. 16, 2012). FDIC
                            plans to issue additional research on the community banking sector by the end of 2012.




                            Page 7       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                        banks and credit unions declined further in 2011, to 7,385 and 7,094,
                        respectively. 8

                        The decline in the number of community banks and credit unions has
                        resulted largely from consolidations, in which two or more institutions
                        generally merge into one larger institution. In their 2012 research, FDIC
                        staff found that of the banks that exited the market between 1985 and
                        2010, 16 percent failed but 80 percent merged with another financial
                        institution or consolidated within a single holding company. FDIC staff
                        also found that the smallest banks (those with less than $100 million in
                        assets) experienced the largest decline in number, decreasing by 81
                        percent. Consistent with a pattern of consolidation and expansion, the
                        number of midsize banks (those with $250 million to $1 billion in assets)
                        and large banks (those with over $10 billion in assets) increased by 47
                        percent and 197 percent, respectively.

Changes in Regulation   Two key statutory and regulatory changes have facilitated consolidation
                        by removing regulatory barriers to geographic and membership
                        expansion by banks and credit unions, respectively. First, the Riegle-Neal
                        Interstate Banking and Branching Efficiency Act of 1994 authorized
                        interstate mergers between banks starting in June 1997, regardless of
                        whether the transaction would be prohibited by state law. 9 Previously,
                        most banks that wanted to operate across state lines had to establish a
                        bank holding company and, with certain restrictions, acquire or charter a
                        bank in each state in which they wanted to operate. With the advent of
                        interstate branching, banks that previously were not permitted to expand
                        across state lines could do so by acquiring existing banks, and some
                        multistate bank holding companies could consolidate their operations into
                        a single bank with multistate branches. 10 Second, after the passage of the
                        Credit Union Membership Access Act in 1998, NCUA revised its
                        regulations to make it easier for federal credit unions to qualify for



                        8
                         For this objective, our analysis of SNL Financial data includes commercial banks, savings
                        banks, savings institutions, and credit unions.
                        9
                        Pub. L. No. 103-328, 108 Stat. 2338 (1994).
                        10
                          Section 613 of the Dodd-Frank Act further reduced restrictions on interstate branching.
                        Before the passage of the Dodd-Frank Act, states could opt not to allow national banks
                        and out-of-state banks to open new branches. The Dodd-Frank Act allows national and
                        out-of-state banks to open branches in any state, only restricted by the laws that apply to
                        in-state banks.




                        Page 8        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                     community charters that allowed people to qualify for membership in a
                     credit union based on their geographic location (e.g., such as a county)
                     rather than based on their employer or affiliation in an organization. 11 As a
                     result, community-chartered credit unions were able to expand, according
                     to one expert we interviewed, by consolidating with other local credit
                     unions, whose members resided in their geographic area. As we
                     previously reported, the total number of federally chartered credit unions
                     declined from 2000 through 2005, but the number of federal community-
                     chartered credit unions more than doubled. 12

Economies of Scale   Another factor that may have contributed to consolidation is economies of
                     scale, which refer to how a bank’s or credit union’s scale of operations, or
                     size, is related to its costs. Increasing returns to scale are created when
                     an increase in size leads to a less than proportionate increase in cost
                     and, therefore, a decline in average cost. Banks and credit unions that
                     can take advantage of economies of scale can generate revenues at
                     lower costs by increasing their size through expansion and consolidation.
                     For example, a bank could reduce the average cost in its technology
                     investment by increasing the volume of its goods and services, and
                     thereby increase its profitability. Importantly, the existence of economies
                     of scale in banking has been subject to debate. Studies using data from
                     the 1980s failed to find scale economies beyond very small banks, but
                     later studies have found scale economies in various sized banks. 13 For
                     example, a 2009 study covering all commercial banks from 1984 to 2006
                     found that banks had increasing returns to scale throughout the
                     distribution of banks, and the authors concluded that industry
                     consolidation had been driven, at least in part, by scale economies. 14
                     Similarly, in a 2008 study of credit union consolidation presented at
                     FDIC’s Mergers and Acquisitions of Financial Institutions Conference,



                     11
                      Pub. L. No. 105-219, 112 Stat. 913 (1998). By federal statute, credit unions may not
                     serve the general public.
                     12
                       GAO, Credit Unions: Greater Transparency Needed on Who Credit Unions Serve and
                     on Senior Executive Compensation Arrangements, GAO-07-29 (Washington, D.C.: Nov.
                     30, 2006).
                     13
                       See, for example, Loretta J. Mester, “Optimal Industrial Structure in Banking,” Handbook
                     of Financial Intermediation, Arnoud Boot and Anjan Thakor, eds. (2008).
                     14
                      David C. Wheelock and Paul W. Wilson, “Do Large Banks have Lower Costs? New
                     Estimates of Returns to Scale for U.S. Banks,” Working Paper 2009-054E, Federal
                     Reserve Bank of St. Louis, Revised (May 2011).




                     Page 9        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
researchers found that smaller and less profitable credit unions were
more likely to merge with other credit unions, and that the assets of a
small credit union might be used more efficiently if the credit union were
acquired and its assets were absorbed into a larger institution. 15

The results of our analysis are consistent with research finding that larger
banks generally are more profitable and efficient than smaller banks,
which may reflect increasing returns to scale. 16 For example, in a 2004
study that compared performance between smaller and larger banks,
FDIC staff found that smaller banks earned more on their assets than
larger banks but that the earnings did not translate into a higher return on
assets because smaller institutions also had higher costs. 17 Our analysis
of SNL Financial data also found that community banks and credit unions
generally have lower rates of return on their assets. 18 As shown in figure
1, banks with more than $10 billion in assets had higher rates of return on
their assets than community banks and credit unions from 2002 through
2006. 19 However, returns on assets at large banks declined sharply in
2007 and turned negative in 2008 and 2009, coinciding with the financial
crisis. During this period, returns on assets at community banks were
higher than at large banks—declining but remaining positive. From 2010
through 2011, returns on assets increased more quickly at large banks
than at community banks and credit unions. Returns on equity at
community banks, credit unions, and large banks have followed a trend



15
 John Goddard, Donal McKillop, and John Wilson, Consolidation in the US Credit Union
Sector: Determinants of the Hazard of Acquisition (2008), accessed June 15, 2012,
www.fdic.gov/bank/analytical/cfr/Goddard_McKillop_Wilson.pdf.
16
  NCUA officials noted that while banks and credit unions often collect the same data,
comparisons between the two are limited because of differences in organizational
structure and regulation. Specifically, credit unions operate as not-for-profit institutions and
have limited fields of membership.
17
 Tim Critchfield, Tyler Davis, Lee Davison, Heather Gratton, George Hanc, and Katherine
Samolyk, “The Future of Banking in America, Community Banks: Their Recent Past,
Current Performance, and Future Prospects,” FDIC Banking Review, vol. 16, no. 3 (2004).
18
  Return on assets and return on equity are both measures of bank profitability. Return on
assets represents the income banks earned per dollar of loan or investment, while return
on equity represents the income earned per dollar of capital. Differences between a
bank’s return on equity and return on assets depend on the bank’s use of leverage, which
can be measured by its capital ratio.
19
  We adjusted each bank’s and credit union’s total assets in each year for inflation to 2011
dollars using the U.S. gross domestic product deflator.




Page 10        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
similar to that of returns on assets, with large bank earning higher returns
on equity than small financial institutions from 2002 through 2006.
Moreover, the gap in returns on equity between large and small financial
institutions was greater than the gap in returns on assets before the
financial crisis. In their 2004 study, FDIC staff also found that smaller
institutions tend to have higher capital ratios than large banks, which also
leads to lower returns on equity at a given level of earnings. 20

Figure 1: Return on Assets at Large Banks, Community Banks, and Credit Unions
from 2002 through 2011




Our analysis also indicates that community banks and credit unions have
generated revenues at higher average costs than large banks since




20
  For a given return on assets, lower capital ratios imply higher returns on equity because
leverage magnifies returns on equity.




Page 11       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
2002. 21 As of the end of 2011, large banks earned $1.71 per dollar of
operating costs, while community banks earned $1.27 and credit unions
earned $1.09. We also found that larger community banks and credit
unions were more efficient than smaller institutions by this measure,
suggesting that those institutions may have benefited from some
economies of scale. As shown in figure 2, the difference in efficiency
between community banks and credit unions and large banks generally
remained consistent between 2002 and 2010. However, recent declines
in revenue per dollar of overhead cost at large banks, along with gains in
efficiency at community banks, decreased the difference in 2011.
Although community banks with less than $100 million in assets were the
least efficient in each year between 2002 and 2011, they (unlike the other
banks) experienced an overall increase in their efficiency over the period.
These measures of efficiency and profitability also can be influenced by
other factors outside of economies of scale, such as increased
competition. In April 2011, an OCC official testified that declines in net
interest margins have played a major role in decreasing community bank
profits. 22




21
  Operating expenses as a percentage of operating revenues is a standard measure of
bank efficiency in the literature. For clarity, we have provided the inverse of this measure,
operating revenues per dollar of operating costs, so that a higher number indicates greater
efficiency.
22
  The State of Community Banking: Opportunities and Challenges, Before the Senate
                                                        th
Committee on Banking, Housing, and Urban Affairs, 112 Cong. (2011) (statement of
Jennifer Kelly, Senior Deputy Comptroller for Midsize and Community Bank Supervision,
OCC).




Page 12       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Figure 2: Efficiency at Large Banks, Community Banks, and Credit Unions from
2002 through 2011




Some research suggests that one area in which large banks are able to
take advantage of economies of scale is regulatory compliance, which
contributes to their advantage in terms of operational efficiency. Federal
regulators and state regulatory association and industry officials that we
interviewed stated that regulatory compliance costs are not regularly
tracked in Call Reports, and these costs have not been studied recently in
the research literature. Thus, information on economies of scale in this
area is limited. However, in a 1998 study, Federal Reserve staff reviewed
statistical studies that empirically examined possible economies of scale
in regulatory compliance at banks, noting that “if regulatory costs exhibit
economies of scale, smaller banks would face higher average costs in
complying with regulations than larger banks.” 23 The studies found



23
 Gregory Elliehausen, “The Cost of Banking Regulation: A Review of the Evidence,” Staff
Study 171, Federal Reserve (Washington, D.C.: April 1998).




Page 13      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                             statistical evidence that indicated economies of scale in compliance costs
                             for several regulations, which suggested that smaller banks, relative to
                             larger banks, have a cost disadvantage that may discourage the entry of
                             new firms into banking, may stimulate consolidation of the industry into
                             larger banks, and may inhibit competition among institutions in markets
                             for specific financial products. Additionally, several experts that we spoke
                             with said that smaller institutions are disproportionately affected by
                             increased regulation, because they are less able to absorb additional
                             costs.


Compared with Larger         Our analysis suggests that community banks have done more small
Banks, Community Banks       business and agricultural lending as a percentage of their total lending
and Credit Unions Allocate   than large banks over the past decade. To examine small business
                             lending, we used business loans of $1 million or less as a proxy for small
More of Their Lending to     business loans at banks, though these loans were not necessarily made
Small Businesses and         to small businesses. As shown in figure 3, our analysis of SNL Financial
Agriculture                  data found that about 18 percent of total lending at community banks was
                             small business loans, compared to about 5 percent at larger banks in
                             2011. Figure 3 also shows that while the difference between small
                             business lending at community banks and large banks has remained
                             fairly consistent over the past decade, small business lending as a
                             percentage of total lending declined at both community banks and large
                             banks by about 2 percent from 2002 through 2011. Despite allocating less
                             of their lending to small business loans, banks with more than $10 billion
                             in assets still made about 45 percent of all small business loans in 2011,
                             while accounting for about 1 percent of the total number of banks.




                             Page 14    GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Figure 3: Small Business Lending at Large Banks and Community Banks from 2002
through 2011




Community banks also have done significantly more agricultural lending
as a percentage of total lending than large banks, with the smallest
community banks allocating the highest percentage of lending to
agricultural loans. Our analysis found that banks with less than $100
million in assets had allocated about 14 percent of their lending to
agricultural loans on average from 2002 through 2011, while banks with
over $10 billion in assets had allocated less than 1 percent of their loans
to agriculture on average. In a 2003 study, Federal Reserve staff also
found that community banks played an important role in rural areas
generally, where they represented a much higher percent of branches
and deposits than in urban areas. 24 The study found that community
banks represented nearly 58 percent of bank branches and 49 percent of




24
  The Role of Community Banks in the U.S. Economy,” Federal Reserve Bank of Kansas
City, Economic Review, Second Quarter (2003).




Page 15      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
total deposits in rural areas, compared to 24 percent of branches and
around 14 percent of deposits in urban areas.

Some credit unions also make small business and agricultural loans, but
differences in regulation and structure make comparisons to banks
difficult. We found that small business lending at credit unions with less
than $10 billion in assets increased from about 2 percent to about 7
percent of their total lending from 2002 through 2011. 25 A recent study
conducted on behalf of SBA found that credit union lending may have
offset some of the decrease in small business lending at banks. 26 We
recently reported that such loans can be risky for credit unions and have
contributed to the failure of a number of credit unions. 27 Specifically, we
reported that our analysis of NCUA and its Office of Inspector General’s
data indicated that member business loans contributed to 13 of the 85
credit union failures from January 2008 to June 2011. The Credit Union
Membership and Access Act of 1998 contains a provision that limits
business lending by credit unions to the lesser of 12.25 percent of total
assets or 175 percent of net worth. 28 Experts and credit union officials told
us that smaller credit unions may not be able to engage profitably in small
business lending due in part to the lending cap. To engage in such
lending, these officials told us a credit union has to develop business
lending expertise and resources and may need to hire additional staff, but
the cap may not allow them to make the volume of loans needed to cover
these costs. Larger credit unions are able to make more loans under the
cap and thus are better able to develop the necessary resources. Our
analysis found that small business lending increased much more



25
  We used business lending data compiled by SNL Financial as a proxy for small
business lending for credit unions. Business lending at credit unions is referred to as
member business lending because credit unions are owned by their depositors, or
members, and credit unions may extend credit only to their members. One expert noted
that nearly all member business lending is done to small businesses.
26
  James Wilcox, The Increasing Importance of Credit Unions in Small Business Lending,
prepared for the SBA, Office of Advocacy, 2011.
27
  GAO, National Credit Union Administration: Earlier Actions Are Needed to Better
Address Troubled Credit Unions, GAO-12-247 (Washington, D.C.: Jan. 4, 2012).
28
  Credit unions designated as low income are exempt from the 12.25 percent statutory
cap on member business loans. A low-income credit union is one that serves
predominantly low-income members as defined in NCUA regulations. A recent NCUA
initiative streamlined the process for federal credit unions to receive a low-income
designation.




Page 16       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
dramatically at credit unions with at least $100 million in assets from 2002
through 2011. Figure 4 shows that small business lending at these large
credit unions increased from about 2 percent of total loans in 2002 to
nearly 8 percent in 2011. While most credit unions do little or no
agricultural lending, some credit unions have been chartered specifically
to provide agricultural credit, and industry officials told us that these
institutions play key roles in their communities.

Figure 4: Credit Union Small Business Loans as a Percentage of All Loans from
2002 through 2011




Research has indicated that community banks and credit unions have
advantages over larger banks in providing small business loans and loans
in rural areas because of their direct relationships with and knowledge of
individual customers. The 2003 study by Federal Reserve staff found that
community banks have focused on “relationship banking,” basing lending
decisions on personal knowledge of their customers and an
understanding of their local economies. The study contrasted this
approach to that of large banks, which often rely on data, credit scoring,



Page 17     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
and centralized decision making. FDIC staff noted that relationship
lending gives community banks the ability to lend to borrowers without
long credit histories, because it allows them to use nonstandard
information to make profitable loans to customers who are seen as high
risk by large banks. Experts we spoke with noted that small businesses
often do not have audited financial statements and other data that may be
used by large banks in credit scoring models. One expert stated that
loans to small business and rural residents tend to have nonstandard
terms and require knowledge of the personal or professional history of the
business or person seeking the loan. As shown in figure 5, we found that
loans make up a slightly greater proportion of their total assets, which
suggests that community banks and credit unions may be more focused
on traditional lending services than large banks.

Figure 5: Loans as a Percentage of Total Assets at Banks and Credit Unions from
2002 through 2011




Page 18     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                         The Dodd-Frank Act’s reforms are directed primarily at large, complex
Many Dodd-Frank Act      U.S. financial institutions, and the act exempts small institutions, including
Provisions May Affect    community banks and credit unions, from several of its provisions.
                         However, federal regulators, state regulatory associations, and industry
Community Banks          associations collectively identified provisions within 7 of the act’s 16 titles
and Credit Unions,       that they expect to impact community banks and credit unions. (See app.
but the Full Extent of   II for the Dodd-Frank Act provisions identified by the above entities.) We
                         analyzed the impact of a number of these Dodd-Frank Act provisions and,
Their Impact Is          in brief, found that:
Uncertain                •    some provisions, including the depository insurance reforms and
                              CFPB supervision of nonbank providers of financial services and
                              products, have benefited or may benefit community banks and credit
                              unions;

                         •    certain of the act’s mortgage reforms are expected to impose
                              additional costs on community banks and credit unions, but their
                              impact depends on future rule makings;

                         •    the act’s risk retention provision for securitizations is expected to
                              initially have a limited impact on community banks and credit unions;
                              and

                         •    other provisions, including those covering proprietary trading,
                              remittance transfers, and executive compensation, are expected to
                              impose additional requirements on community banks and credit
                              unions, but their impact depends partly on future rule makings.

                         Industry officials told us that determining which provisions will affect small
                         institutions is difficult, because the impact may depend on how agencies
                         implement certain provisions through their rules, and many of the rules
                         needed to implement the act have not been finalized. 29 For the same
                         reason, regulators and industry officials have noted that the full impact of
                         the Dodd-Frank Act on community banks and credit unions is uncertain.
                         Nonetheless, regulators and industry officials have noted that they expect
                         that some of the act’s regulations will increase regulatory requirements on
                         community banks and credit unions and disproportionately affect them



                         29
                           According to Davis Polk & Wardwell (a law firm that has been tracking the
                         implementation of the Dodd-Frank Act), 119 of the 398 rulemakings required under the
                         Dodd-Frank Act, about 30 percent, had been finalized as of July 2, 2012.




                         Page 19      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
relative to larger banks because of their size. Moreover, some industry
officials have expressed concern that the reforms targeting only large
banks eventually will be applied to small institutions in varying degrees,
for example, through industry best practices. In our interviews with
officials from community banks and credit unions, several told us that they
may reduce certain business activity or exit certain lines of business as a
result of the new regulations. However, some also have cited benefits of
particular provisions for smaller institutions.

As recognized by federal regulators, industry officials, and others, the
Dodd-Frank Act contains several provisions to help minimize certain
regulatory requirements on small institutions. For example, the act
includes provisions that generally exempt (1) small bank holding
companies from certain leverage and risk-based capital requirements, (2)
small banks and credit unions from supervision by CFPB, (3) small debit
card issuers from the debit interchange fee standards, and (4) small
financial institutions from disclosure and reporting requirements for
incentive-based compensation arrangements. 30 The Dodd-Frank Act also
provides federal agencies with the authority to provide small institutions
with relief from certain regulations. For example, the act and certain of the
federal consumer financial laws provide CFPB with the authority to
exempt covered persons or transactions from certain CFPB rules, and it
directs the Commodity Futures Trading Commission (CFTC) and the
Securities and Exchange Commission (SEC) to consider exempting small
banks and credit unions from their swap clearing requirements.

CFPB, FDIC, the Federal Reserve, OCC, and NCUA have undertaken
various efforts to reach out to community banks and credit unions outside
of the examination process, in part to understand challenges being raised
for them by the Dodd-Frank Act. Examples of such outreach efforts
include the following:

•    CFPB has created the Office of Small Business, Community Banks,
     and Credit Unions, to help it incorporate the perspectives of these
     institutions in its policy-making process, communicate relevant policy



30
  These exemptions are based on specific asset thresholds, and the exemptions do not
use the same asset threshold. For example, the exemption from CFPB supervision
applies to banks and credit unions with $10 billion or less in assets, and the exemption
from disclosure and reporting requirements for incentive-based compensation
arrangements applies to financial institutions with less than $1 billion in assets.




Page 20       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
     initiatives to them, and work with them to identify areas for regulatory
     streamlining. According to CFPB officials, CFPB has convened three
     small business panels in conjunction with SBA’s Chief Counsel for
     Advocacy and the Office of Management and Budget’s Office of
     Information and Regulatory Affairs. 31

•    FDIC has held roundtable discussions with community banks in each
     of its regions and a community bank conference. It is researching a
     variety of issues involving community banks and expects to issue its
     study by the end of 2012. In 2009, FDIC established the FDIC
     Advisory Committee on Community Banking to provide it with advice
     and guidance on policy issues affecting community banks, and the
     committee’s meetings have included discussions of the Dodd-Frank
     Act.

•    In October 2010, the Federal Reserve formed the Community
     Depository Institutions Advisory Council to provide the agency with
     direct insight and information from community bankers about
     supervisory matters and other issues of interest to community banks.
     In a recent testimony, a Federal Reserve official noted that the agency
     expects these ongoing discussions to provide a useful and relevant
     forum for improving its understanding of the effect of legislation,
     regulation, and examination activities on small banking
     organizations. 32

•    OCC has conducted a variety of outreach activities, including Meet
     the Comptroller events, chief executive officer roundtables, and
     teleconferences on topical issues. In preparation for the transfer of
     federal savings associations to OCC supervision, OCC presented
     numerous programs for thrift executives around the country to provide
     information and perspective on OCC’s approach to supervision and
     regulation. OCC also has chartered advisory committees for federal




31
  Section 1100G of the Dodd-Frank Act requires CFPB to convene panels to seek direct
input from small businesses before proposing certain rules.
32
 The State of Community Banking: Opportunities and Challenges. Before the
Subcommittee on Financial Institutions and Consumer Protection of the Committee on
Banking, Housing, and Urban Affairs, U.S. Senate (2011) (statement of Maryann F.
Hunter, Deputy Director of Division of Banking Supervision and Regulation, Board of
Governors of the Federal Reserve System).




Page 21      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                                 savings associations with mutual charters and minority-owned
                                 institutions similar to those OTS had chartered.

                            •    NCUA officials told us that to assist credit unions in complying with the
                                 Dodd-Frank Act, they have posted articles on their website, conducted
                                 a webinar with the CFPB director, and issued letters to credit unions
                                 on any rule changes.

                            As presented below, we analyzed a number of the Dodd-Frank Act
                            provisions that regulators, industry officials, and others expect to impact
                            community banks and credit unions. While several of these provisions
                            have been implemented through finalized rules, most have not. The
                            impact of those provisions will depend, in part, on how they are
                            implemented by federal agencies through their regulations. As the act’s
                            impact on individual banks and credit unions will depend on their
                            organizational form, mix of activities, or other factors, our analysis
                            focused on assessing, where data were available, which of these
                            institutions may be subject to the selected provisions. As part of our
                            analysis, we also document industry and other views on the potential
                            impact of the provisions and the status of regulations needed to
                            implement the provisions. As noted above, assessing whether such
                            provisions or their related regulations should apply to community banks
                            and credit unions was beyond the scope of our work.


Some Provisions Have        Some of the Dodd-Frank Act provisions that we analyzed have benefited
Reduced Costs or Provided   or may benefit community banks or credit unions, such as by reducing
Other Benefits              costs.

Depository and Share        The Dodd-Frank Act’s depository and share insurance reforms have
Insurance Reforms           reduced costs for community banks and increased consumer confidence
                            to the benefit of community banks and credit unions. Title III of the Dodd-
                            Frank Act includes several provisions reforming the Deposit Insurance
                            Fund (DIF) and National Credit Union Share Insurance Fund. 33 For
                            example, section 331 revised the method used to calculate DIF
                            assessments. 34 Section 335 permanently increased the standard deposit


                            33
                              DIF insures deposits at banks and the National Credit Union Share Insurance Fund
                            insures deposits, referred to as shares, at credit unions.
                            34
                              DIF assessments are insurance assessments collected from its member depository
                            institutions.




                            Page 22      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
and share insurance coverage amount from $100,000 to $250,000.
Section 343 provided temporary unlimited deposit and share insurance
coverage for non-interest-bearing transaction accounts, such as
consumer checking accounts.

Section 331 required FDIC to redefine the DIF assessment base,
generally basing it on average consolidated total assets rather than
domestic deposits, on which it was previously based. According to FDIC,
the change in the assessment base shifted some of the overall
assessment burden from community banks to the largest institutions,
which rely less on domestic deposits for their funding than smaller
institutions, but without affecting the overall amount of assessment
revenue collected. As shown in table 4, after the rule became effective on
April 1, 2011, DIF assessments for community banks (those with less
than $10 billion in assets) decreased in aggregate by $342 million, (33
percent) from the first to second quarter of 2011. 35 According to FDIC,
this rule has resulted in a sharing of the DIF assessment burden that
better reflects each group’s share of industry assets. Officials from
industry associations told us that they viewed this change as positive for
community banks overall. In addition, officials from the two community
bank state associations told us that assessments likely have decreased
for their member institutions. Also, officials from five community banks
told us that their assessments have either decreased or stayed about the
same, but officials from three community banks told us that that their
assessments had increased (one of these banks has between $1 billion
to $10 billion in assets).




35
 76 Fed. Reg. 10,672 (Feb. 25, 2011). For more information on this rule, see GAO,
Dodd-Frank Act Regulations: Implementation Could Benefit from Additional Analyses and
Coordination, GAO-12-151 (Washington, D.C.: Nov. 10, 2011).




Page 23      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Table 4: Change in Quarterly Insurance Assessments Primarily Due to the Change
in the Assessment Base

 Dollars in millions
                                         First quarter        Second quarter       Percentage
 Asset size group                  2011 assessments        2011 assessments           change
 Less than $100 million                             $51                      $33             -36
 $100 million - $250 million                        147                       96             -35
 $250 million - $500 million                        160                      104             -35
 $500 million - $1 billion                          180                      123             -32
 $1 billion - $10 billion                           499                      340             -32
 Total of less than $10
 billion                                         $1,037                    $695              -33
 Over $10 billion                                 2,423                    2,836              17
 Total of asset size groups                      $3,460                  $3,531                2
Source: FDIC.


Note: According to FDIC officials, at the same time the new assessment base was implemented,
other assessment changes also were implemented that had a minor effect on the quarterly change in
total assessments and the distribution of assets (e.g., a new large bank pricing scorecard and
changes in bank ratings, assets, and capital during the quarter).

Section 335 made permanent the temporary increase of the maximum
deposit and share insurance amounts from $100,000 to $250,000.
Beginning in October 2008, the deposit and share insurance coverage
had been increased temporarily to $250,000 to help consumers maintain
confidence in the banking system and the marketplace. 36 These
increases were made permanent and effective in August and September
2010, respectively. 37 According to FDIC, the higher insurance coverage
level should help community banks attract and retain core deposits.
Industry associations and officials from the community banks and credit
unions we spoke with generally viewed the increase in insurance
coverage as beneficial to community banks and credit unions.




36
  The Emergency Economic Stabilization Act of 2008, Pub. L. No. 110-343, 122 Stat.
3765, temporarily increased the deposit and share insurance amount from $100,000 to
$250,000 from October 3, 2008, through December 31, 2009. The Helping Families Save
Their Homes Act of 2009, Pub. L. No. 111-22, 123 Stat. 1632, extended the temporary
increase through December 31, 2013, and the Dodd-Frank Act made the increase
permanent.
37
  75 Fed. Reg. 53,841 (Sept. 2, 2010); 75 Fed. Reg. 49,363 (Aug. 13, 2010).




Page 24         GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                                Section 343 provided temporary unlimited deposit and share insurance
                                coverage for non-interest-bearing transaction accounts from December
                                31, 2010, through December 31, 2012. 38 According to FDIC, the 10.7
                                percent increase in insured deposits during 2011 was primarily
                                attributable to growth in non-interest-bearing transaction account
                                balances receiving temporary coverage. 39 However, according to an
                                NCUA official, non-interest-bearing transaction accounts typically are held
                                by businesses for payroll and accounts payable and, therefore, are less
                                common at credit unions than at banks. Although this insurance program
                                was designed to be a temporary response to financial instability, several
                                industry associations representing banks are advocating for this provision
                                to be extended. In addition, officials from two state associations
                                representing community banks we spoke with said they expect the
                                termination of the coverage to have a negative or very negative impact on
                                their member institutions. In contrast, officials from the two state
                                associations representing credit unions said they expect the termination
                                would have no impact. But the responses from the individual community
                                banks and credit unions were more mixed. Officials from five of the eight
                                community banks and two of the four credit unions we spoke with said
                                that they expect the termination of the coverage to have a negative or
                                very negative impact on their institution. Officials from the other three
                                community banks and two credit unions said that the termination would
                                have no impact on their institution or it was too soon to determine the
                                impact.

Exemption from Section 404(b)   Section 989G of the Dodd-Frank Act eliminates an audit requirement for a
of the Sarbanes-Oxley Act       number of small community banks and bank holding companies that are




                                38
                                   Temporary unlimited insurance coverage for non-interest-bearing transaction accounts
                                initially was provided for federally insured banks through FDIC’s Transaction Account
                                Guarantee program. The temporary unlimited insurance coverage for non-interest-bearing
                                transaction accounts differs from the Transaction Account Guarantee program in that it
                                applies to all insured depository institutions with non-interest-bearing accounts, it does not
                                cover low interest negotiable order of withdrawal accounts, and FDIC does not charge a
                                separate assessment for the insurance of non-interest-bearing transaction accounts. The
                                Transaction Account Guarantee program expired on December 31, 2010, and section 343
                                for federally insured banks became effective on that same date. Section 343 was effective
                                for federally insured credit unions on July 21, 2010. 75 Fed. Reg. 69,577 (Nov. 15, 2010).
                                39
                                     FDIC, FDIC Quarterly, vol. 6, no. 1 (2012).




                                Page 25          GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
public companies. 40 In response to numerous corporate failures arising
from corporate mismanagement and fraud, Congress passed the
Sarbanes-Oxley Act of 2002 to help protect investors, in part by improving
the accuracy, reliability, and transparency of corporate financial reporting
and disclosures. 41 Specifically, section 404(a) of the Sarbanes-Oxley Act
requires a public company’s management to assess and report on the
effectiveness of its internal controls over financial reporting. In turn,
section 404(b) requires an independent auditor to attest to and report on
management’s assessment. Under SEC rules, non-accelerated filers
(generally defined as public companies with a public float under $75
million) have been required to comply with section 404(a) for fiscal years
ending on or after December 15, 2007. 42 However, before the passage of
the Dodd-Frank Act, these filers were not required to comply with section
404(b) for fiscal years ending before June 15, 2010. SEC had provided
such issuers with several extensions to the compliance dates in response
to concerns about compliance costs and management’s preparedness.

Section 989G of the Dodd-Frank Act amended the Sarbanes-Oxley Act to
exempt non-accelerated filers from section 404(b). 43 Using SNL Financial
data, we found that around 630 publicly traded financial institutions,
including community banks and bank holding companies, identified


40
  Credit unions are member-owned cooperatives, rather than public companies, and so
are not subject to section 404 of the Sarbanes-Oxley Act of 2002, which was amended by
section 989G of the Dodd-Frank Act.
41
     Pub. L. No. 107-204, 116 Stat. 745 (2002).
42
  Although the term non-accelerated filer is not defined in SEC rules, it refers to a
reporting company that does not meet the definition of either an “accelerated filer” or a
“large accelerated filer” under Exchange Act Rule 12b–2. The public float is the aggregate
market value of the issuer’s outstanding voting and nonvoting common equity held by
nonaffiliates of the issuer. An accelerated filer generally is a public company that, among
other things, had at least $75 million but less than $700 million in public float as of the last
business day of its most recently completed second fiscal quarter, and filed at least one
annual report with SEC. A large accelerated filer generally is a public company that,
among other things, had a public float of $700 million or more as of the last business day
of its most recently completed second fiscal quarter and filed at least one annual report
with SEC.
43
  SEC amended its rules and forms to conform them to section 404(c) of the Sarbanes-
Oxley Act of 2002, as added by section 989G of the Dodd-Frank Act. Section 404(c)
provides that section 404(b) of the Sarbanes-Oxley Act shall not apply with respect to any
audit report prepared for an issuer that is neither an accelerated filer nor a large
accelerated filer as defined in Rule 12b–2 under the Securities Exchange Act of 1934. See
75 Fed. Reg. 57,385 (Sept. 21, 2010).




Page 26          GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                        themselves as non-accelerated filers. 44 These financial institutions may
                        qualify for the exemption and not have to incur the audit-related costs to
                        comply with section 404(b). In a 2009 survey, which included 99 public
                        companies with a public float under $75 million, SEC’s Office of Economic
                        Analysis found that these companies had incurred a median (average)
                        annual cost of $157,500 ($259,004) to comply with section 404(b)
                        following reforms SEC made in 2007. 45 In our prior work, we found that
                        smaller public companies faced disproportionately higher costs (as a
                        percentage of revenues) in complying with section 404. 46

Debit Interchange Fee   Unlike large banks, community banks and credit unions generally have
Provision               not, on average, experienced a significant decline in their debit
                        interchange fees as a result of the Federal Reserve’s implementation of
                        section 1075 of the Dodd-Frank Act. Debit cards can be used to make
                        noncash purchases at merchants. When a consumer uses a debit card to
                        make a purchase, the merchant does not receive the full purchase
                        amount. Part of the amount (called the merchant discount fee) is
                        deducted and distributed among the merchant’s bank, debit card issuer,
                        and payment card network processing the transaction. Historically, the
                        majority of the merchant discount fee was paid from the merchant’s bank
                        to the debit card issuer in the form of an interchange fee. Debit card
                        interchange fees are established by card networks and ultimately paid by
                        merchants to debit card issuers for each electronic debit transaction.




                        44
                          We also found other banks and bank holding companies that identified themselves as
                        non-accelerated filers but were traded on the Over-the-Counter Pink market. We excluded
                        these companies, because the data did not allow us to determine whether they were
                        subject to reporting requirements under the federal securities laws.
                        45
                          SEC, Office of Economic Analysis, Study of the Sarbanes-Oxley Act of 2002 Section 404
                        Internal Control over Financial Reporting Requirements (Washington, D.C.: September
                        2009). The study noted that these companies voluntarily complied or were required to
                        comply in the past as accelerated filers and must continue to do so because their float had
                        not since dropped below $50 million. The study noted that to the extent that these factors
                        affect companies’ experience with section 404(b) compliance, care should be taken when
                        extrapolating the results to non-accelerated filers that had yet to comply.
                        46
                          See GAO, Sarbanes-Oxley Act: Consideration of Key Principles Needed in Addressing
                        Implementation for Smaller Public Companies, GAO-06-361 (Washington, D.C.: Apr. 13,
                        2006). In addition, pursuant to section 989I of the Dodd-Frank Act, GAO is required to
                        conduct a study on the impact of the section 404(b) amendments under the Dodd-Frank
                        Act on smaller issuers and to submit a report not later than 3 years after the date of
                        enactment of the act.




                        Page 27       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
In July 2011, the Federal Reserve adopted Regulation II (Debit Card
Interchange Fees and Routing) to implement section 1075 of the Dodd-
Frank Act. 47 Regulation II establishes standards for assessing whether
debit card interchange fees received by issuers are reasonable and
proportional to the costs incurred by issuers for electronic debit
transactions. The rule sets a cap on the maximum permissible
interchange fee that an issuer may receive for an electronic debit
transaction at $0.21 per transaction, plus 5 basis points multiplied by the
transaction’s value. 48 The fee cap became effective on October 1, 2011.
However, the rule exempts from the fee cap issuers that have, together
with their affiliates, less than $10 billion in assets, and transactions made
using debit cards issued pursuant to government-administered payment
programs or certain reloadable prepaid cards. In addition, Regulation II
prohibits issuers and card networks from restricting the number of
networks over which electronic debit transactions may be processed to
less than two unaffiliated networks. 49 The rule further prohibits issuers
and networks from inhibiting a merchant from directing the routing of an
electronic debit transaction over any network allowed by the issuer.

Initial data collected by the Federal Reserve indicate that card networks
largely have adopted a two-tiered interchange fee structure after the
implementation of Regulation II, to the benefit of exempt issuers.
According to the Federal Reserve, over 14,300 banks, credit unions,
savings and loans, and savings banks qualified for an exemption from the
debit card interchange fee cap during 2011. 50 Data collected by the
Federal Reserve from 16 card networks show that all but 1 network
provided a higher interchange fee, on average, to exempt issuers than
nonexempt issuers after the rule took effect. The data also show that the
average interchange fee received by exempt issuers declined by $0.02,
or around 5 percent, after the rule took effect—declining from $0.45 over


47
  76 Fed. Reg. 43,394 (July 20, 2011).
48
  An issuer also is allowed to receive an upward adjustment of 1 cent to its interchange
transaction fee, if the issuer, among other things, develops, implements, and updates
policies and procedures reasonably designed to identify and prevent fraudulent electronic
debit transactions. See 76 Fed. Reg. 43,478 (July 20, 2011).
49
  The prohibition on network exclusivity, which applies to all issuers regardless of size,
took effect on April 1, 2012, with respect to most types of debit cards.
50
  Institutions that qualified for the exemption during 2011 were those institutions that had,
together with affiliates, assets of less than $10 billion as of December 31, 2010.




Page 28       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
the first three quarters of 2011 to $0.43 in the fourth quarter of 2011. 51
During the same period, the interchange fee as a percentage of the
average transaction value for exempt issuers declined from 1.16 percent
to 1.10 percent. 52 In comparison, the average interchange fee received by
issuers subject to the fee cap (nonexempt issuers) declined from $0.50 to
$0.24, or by 52 percent, between the two periods. Our analysis of SNL
Financial data shows that interchange fee income received by around
6,450 exempt banks increased, in aggregate, on a quarterly basis after
the rule became effective, but the data do not allow us to determine why
fee income increased, such as because of an increase in transaction
volume. The aggregate interchange fee income reported quarterly by
these banks from the second quarter of 2011 through the first quarter of
2012 was about $532 million, $547 million, $575 million, and $585 million,
respectively. 53

Although Regulation II has had a limited impact on exempt issuers to
date, concerns remain about the potential for their interchange fees or fee
income to decline over the long term. For example, industry officials and
others have noted that (1) some merchants may steer customers to
lower-cost payment options, even if networks maintain a two-tiered fee
structure, (2) the prohibition on network exclusivity and routing restrictions
may lead networks to lower their interchange fees, in part to encourage
merchants to route debit card transactions through their networks, or (3)
economic forces may cause networks not to maintain a two-tiered fee
structure that provides a meaningful differential between fees for exempt


51
  The Federal Reserve collected data from 16 payment card networks. Eight networks
reported a decline in their average interchange fee per transaction for exempt issuers—
ranging from $0.01 to $0.04—after the rule took effect. Three networks reported no
change in their average interchange fee for exempt issuers. Five networks reported an
increase in their fee for exempt issuers—ranging from $0.01 to $0.03—after the rule took
effect.
52
  The interchange fee as a percentage of the average transaction value is calculated by
dividing the total interchange fees by the value of settled purchase transactions.
53
  The totals include both debit and credit card interchange fee income reported by banks
that were exempt from the debit interchange fee cap. Credit card interchange fees are not
subject to the Regulation II limitations. The reporting of bank card and credit card
interchange fees in Call Reports is required only if that amount exceeds $25,000 or 3
percent of other noninterest income. As a result, not all banks report a value for this
variable. In addition, savings institutions historically did not report interchange fee income
in their Thrift Financial Reports. Finally, the totals exclude interchange fee income
reported by credit unions. Although credit unions report their interchange fee income, they
aggregate that income with other sources of operating income.




Page 29       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                             and other issuers. Some merchants and others have noted that major
                             card networks have adopted a two-tiered fee structure and have an
                             incentive to maintain that structure to attract exempt issuers. 54 According
                             to Federal Reserve officials, the agency plans to collect data annually that
                             analyze the rule’s impact on exempt issuer fees. It also plans to survey
                             exempt issuers in 2012 to determine how much it cost them to comply
                             with the network exclusivity prohibition and whether any merchants are
                             refusing to accept their debit cards.


CFPB Provisions May Help     According to some regulators and industry officials, subjecting certain
Level the Regulatory         nonbank providers of financial services or products (nonbanks) to federal
Playing Field but also May   consumer protection laws and CFPB supervision may benefit community
                             banks and credit unions by helping to level the regulatory playing field.
Result in Additional         Although community banks and small credit unions are not supervised by
Compliance Requirements      CFPB, they generally are subject to its regulations. CFPB’s
                             implementation of the Dodd-Frank Act’s mortgage-related and other
                             provisions are expected to impose additional requirements on community
                             banks and credit unions. However, the impact of these regulations will
                             depend on how CFPB implements such provisions and exercises its
                             exemption authority. The Dodd-Frank Act established CFPB and
                             authorized it to supervise certain nonbank financial companies and large
                             banks and credit unions with over $10 billion in assets and their affiliates
                             for consumer protection purposes. Before the Dodd-Frank Act,
                             responsibility for administering and enforcing consumer financial laws for
                             these entities was spread across several federal agencies. The act
                             transferred supervisory and enforcement authority over a number of
                             consumer financial institutions and services, as well as rule-making and




                             54
                               A number of merchant associations have brought a lawsuit against the Federal Reserve,
                             alleging that it failed to follow the intent of Congress regarding the amount of an
                             interchange fee that an issuer could charge or receive.




                             Page 30      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                               enforcement authority (for those institutions it supervises) over many
                               previously enacted consumer protection laws, to CFPB. 55

CFPB Supervision of Nonbanks   To promote consistent enforcement of consumer protection laws, sections
                               1024, 1053, and 1054 of the Dodd-Frank Act provided CFPB with
                               authority to supervise, examine, and take enforcement action against
                               nonbanks, such as payday lenders and mortgage lenders and servicers. 56
                               Before the passage of the Dodd-Frank Act, there was no federal program
                               to supervise nonbanks for compliance with consumer financial protection
                               laws. The Federal Trade Commission had enforcement authority, but did
                               not have the supervisory authority to regularly examine these entities or
                               impose reporting requirements on them with respect to consumer
                               financial protection law. 57 Nonbanks were primarily supervised by state
                               regulators, whose authority and level of supervision varied. Under the
                               Dodd-Frank Act, CFPB is authorized to supervise, based on statutory



                               55
                                 Section 1021 of the Dodd-Frank Act established the following goals for CFPB: (1) ensure
                               that consumers have timely and understandable information to make responsible
                               decisions about financial transactions, (2) protect consumers from unfair, deceptive, or
                               abusive acts or practices, and from discrimination, (3) reduce unwarranted regulatory
                               burdens due to outdated, unnecessary, or unduly burdensome regulations, (4) promote
                               fair competition by enforcing the federal consumer financial laws consistently, and (5)
                               ensure that markets for consumer financial products and services operate transparently
                               and efficiently to facilitate access and innovation.
                               56
                                 Section 1024 of the Dodd-Frank Act authorizes CFPB to supervise certain entities and
                               individuals that engage in offering or providing a consumer financial product or service
                               and their service providers that are not covered by sections 1025 or 1026 of the act.
                               Specifically, section 1024 applies to those entities and individuals who offer or provide
                               mortgage-related products or services and payday and private student loans as well as
                               larger participants of other consumer financial service or product markets as defined by a
                               CFPB rule, among others, plus their service providers. Section 1025 authorizes CFPB to
                               supervise, with respect to consumer finance laws, large insured depository institutions and
                               credit unions with more than $10 billion in total assets and all their affiliates (including
                               subsidiaries), as well as service providers for such entities. Under section 1026, CFPB
                               has the authority to require reports, as necessary, from banks and credit unions under $10
                               billion, and CFPB, at its discretion, may include its examiners on a sampling basis in
                               examinations conducted by their prudential regulator for these entities. Under sections
                               1026 and 1061(c), CFPB has supervisory authority over a service provider to a substantial
                               number of smaller depository institutions.
                               57
                                 The Federal Trade Commission has enforcement authority over most nonbank entities
                               for numerous consumer protection statutes, including, for example, the Truth in Lending
                               Act, 15 U.S.C. §§ 1601-1666j and the privacy provisions of the Gramm-Leach Bliley Act,
                               15 U.S.C. §§ 6801-6809. The Commission generally retains its enforcement authority
                               under the Dodd-Frank Act, although in some instances its authority may be concurrent
                               with CFPB’s enforcement authority.




                               Page 31       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
factors that focus on risk to consumers, nonbanks engaged in the
residential mortgage industry, private education lending, and payday
lending. For other financial services or product markets, CFPB’s authority
applies only to a “larger participant.” 58 CFPB’s supervisory authority also
covers nonbanks that it has reasonable cause to determine are engaging,
or have engaged, in conduct that poses risks to consumers with regard to
the offering or provision of consumer financial products or services. 59 In
January 2012, CFPB launched its nonbank supervision program, under
which it examines such entities for, among other things, compliance with
federal consumer financial laws. 60 According to CFPB, nonbanks will be
identified for examination based on risks to consumers, including
consideration of the company’s asset size, volume of consumer financial
transactions, extent of state oversight, and other relevant factors. 61

Regulators and industry representatives expect CFPB supervision of
nonbanks to benefit community banks and credit unions by leveling the
regulatory playing field. For example, in 2011, an FDIC official testified
that CFPB will likely reduce the unfair competitive advantage that
nonbanks have long enjoyed as under-regulated—and often unregulated
and unsupervised—financial services providers. 62 Industry officials have


58
  In February 2012, CFPB issued a proposed rule defining a larger participant in certain
consumer product and finance markets. 77 Fed. Reg. 9,592 (Feb. 17, 2012). In its
proposal, CFPB proposed to define larger participants in the markets for consumer debt
collection and consumer reporting. CFPB intended that this proposal and subsequent
initial rule would be followed by a series of rule makings covering additional markets for
consumer financial products and services. In July 2012, CFPB issued a final rule to define
larger participants in a consumer reporting market as a nonbank-covered person with
more than $7 million in annual receipts resulting from consumer reporting activities. 77
Fed. Reg. 42,874 (July 20, 2012).
59
  In May 2012, CFPB proposed a rule establishing the procedures by which it may subject
a nonbank to this authority. 77 Fed. Reg. 31,226 (May 25, 2012).
60
  CFPB’s supervision program has two parts that operate under common procedures and
shared staff. The large bank supervision program began operations in July 2011 and
focuses on compliance at banks, thrifts, and credit unions with assets over $10 billion,
their affiliates, and certain service providers.
61
  Implementing Wall Street Reform: Enhancing Bank Supervision and Reducing Systemic
                                              th
Risk. Before the Senate Banking Committee, 112 Cong. (2012) (statement of Richard
Cordray, Director, CFPB).
62
 The State of Community Banking: Opportunities and Challenges. Before the
Subcommittee on Financial Institutions and Consumer Protection of the Committee on
Banking, Housing, and Urban Affairs, U.S. Senate (2011) (statement of Sandra L.
Thompson, Director of Risk Management Supervision, FDIC).




Page 32       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                   testified that community banks and credit unions did not engage in
                   abusive lending practices and were not the cause of the financial crisis,
                   and urged CFPB to focus its efforts on regulating nonbanks as many of
                   the problems that led to the financial crisis began outside the regulated
                   banking industry. 63 Officials from half of the 16 state associations,
                   community banks, and credit unions we interviewed told us that they
                   expect CFPB supervision of nonbanks to have a positive impact. Officials
                   from three of these entities expect CFPB supervision to have no impact,
                   three thought it was too soon to tell, and two thought it could have a
                   negative impact.

CFPB Rule Making   The Dodd-Frank Act grants broad rule-making authority to CFPB, but
                   requires it to coordinate with other federal agencies to ensure consistency
                   in its regulation of consumer products and services. Although CFPB does
                   not directly supervise community banks and small credit unions, its
                   regulations generally apply to all banks and credit unions (and most
                   nonbanks). According to CFPB, its rule-making activities have focused on
                   two main areas: implementing protections required by the Dodd-Frank Act
                   and streamlining inherited regulations. Pursuant to the Dodd-Frank Act,
                   CFPB has proposed or finalized various regulations involving the
                   mortgage market and international money transfers (discussed below). In
                   December 2011, CFPB issued a notice requesting public comment on
                   how to streamline existing regulations implementing federal consumer
                   financial laws. 64

                   Section 1022 of the Dodd-Frank Act permits CFPB to exempt any class of
                   product or institution, including small institutions, from its regulations
                   issued under Title X of the act. In issuing any such exemption, CFPB
                   must take into account several factors, including the existing provisions of
                   law applicable to the consumer financial product or service and the extent
                   to which such provisions provide consumers with adequate protections.
                   Furthermore, other federal consumer financial laws provided CFPB with



                   63
                     The Effect of Dodd-Frank on Small Financial Institutions and Small Businesses, Before
                                                                     th
                   the House Committee on Financial Services, 112 Cong. (2011) (statements of Albert
                   Kelly, Chairman and Chief Executive Officer, Spiritbank on Behalf of the American
                   Bankers Association; James D. MacPhee, Chief Executive Officer, Kalamazoo County
                   State Bank, on Behalf of the Independent Community Bankers of America; and John P.
                   Buckley, Jr. President and Chief Executive Officer, Gerber Federal Credit Union, on behalf
                   of the National Association of Federal Credit Unions).
                   64
                        76 Fed. Reg. 75,825 (Dec. 5, 2011).




                   Page 33          GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
varying degrees of exemption authority, generally with respect to classes
of transactions where certain conditions are met. In a recent testimony,
the CFPB Director said that when it is appropriate to treat smaller
institutions differently from larger institutions, CFPB will consider doing
so. 65 Similarly, CFPB staff told us that they will need to determine how
much regulatory relief the agency will provide small institutions on a rule-
by-rule basis. 66 For example, in early July 2012, pursuant to sections
1032(f), 1100A, and 1098 of the Dodd-Frank Act, CFPB proposed a rule
to integrate mortgage disclosures required by two different mortgage-
lending-related statutes into one form. 67 In the proposed rule, CFPB is
considering exempting small entities (including some banks and credit
unions with $10 billion or less in assets) from electronic data retention
requirements to reduce their burden. In addition, CFPB is seeking
comment on how much time industry needs to make any changes
required in implementing the rule and whether small entities should have
more time. 68

While many consumer protection and mortgage reforms are not yet
finalized, CFPB staff told us that they are in the process of proposing
several additional regulations to provide guidance to the mortgage
industry in implementing new reforms under the Dodd-Frank Act. As
mandated by the statute, most of these rules are due in final form by
January 21, 2013. However, industry representatives and others have
expressed concern about the potential impact of CFPB regulations on
community banks and credit unions. In congressional testimony and our
interviews, industry representatives have said that they are hopeful that



65
  Implementing Wall Street Reform: Enhancing Bank Supervision and Reducing Systemic
                                              th
Risk, Before the Senate Banking Committee, 112 Cong. (2012) (statement of Richard
Cordray, Director, CFPB).
66
  The Dodd-Frank Act also requires CFPB to comply with the Small Business Regulatory
Enforcement Fairness Act panel process. This act requires CFPB to convene a Small
Business Review Panel before proposing a rule that may have a significant economic
impact on a substantial number of small entities. See Pub. L. No. 104-121, tit. II, 110 Stat.
847, 857 (1996) (as amended by Pub. L. No. 110-28, § 8302 (2007)).
67
     77 Fed. Reg. 51,116 (Aug. 23, 2012).
68
  Pursuant to the Small Business Regulatory Enforcement Fairness Act, CFPB must
convene a panel to obtain feedback from small business representatives before proposing
rules that may affect them. Throughout the proposed rule to integrate mortgage
disclosures, CFPB discussed how it is addressing issues considered by this panel,
including the timing of implementation.




Page 34         GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                              CFPB will be able to consolidate and simplify rules for all financial
                              institutions. They also have noted that CFPB has conducted outreach
                              efforts to obtain input on CFPB’s activities. However, industry
                              representatives expressed concern that the numerous new regulations
                              from CFPB will impose additional regulatory burden and compliance costs
                              on small institutions, potentially causing them to exit certain lines of
                              business. Specifically, they cited concerns about the additional time,
                              resources, and effort it would take their institutions to address new
                              regulatory requirements. In particular, they were concerned about having
                              to comply with numerous regulations issued around the same time by
                              CFPB. Industry representatives also were concerned that the
                              standardization of processes through CFPB regulations could reduce the
                              ability of community banks and credit unions to offer differentiated
                              products to better serve their communities. In congressional testimony
                              and our interviews, community bank and credit union associations and
                              representatives have emphasized that they believe these entities have a
                              long history of serving customers fairly. Some commented that it is their
                              opinion that CFPB regulations should not apply to them as they did not
                              engage in the types of abuses that prompted the passage of the Dodd-
                              Frank Act. Credit union representatives added that credit unions are
                              owned by their members and, thus, have a strong incentive to treat their
                              consumers well.


Mortgage Reforms Are          The Dodd-Frank Act’s mortgage reform provisions are expected to
Expected to Impose            impose additional costs on a large percentage of community banks and
Additional Costs, but Their   credit unions. However, the full cost to these entities will depend on the
                              extent to which CFPB (and other agencies where appropriate) exercises
Impact Depends on Future      its authority, where available, to exempt small institutions from any of its
Rule Makings                  regulations and how it implements specific provisions that provide more
                              limited relief to small institutions, particularly those operating in rural or
                              underserved communities. The act’s mortgage reforms include (1)
                              additional origination and servicing requirements; (2) minimum standards
                              for mortgage loans (including determining a borrower’s ability to repay the
                              loan); (3) limits on charges for mortgage prepayments; (4) expanding the
                              definition of “high-cost mortgages” and protections that apply to such
                              loans; (5) new disclosure requirements; (6) establishing various appraisal
                              standards; and (7) requiring additional data elements to be reported
                              under the Home Mortgage Disclosure Act (HMDA) reporting




                              Page 35     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
requirements. 69 The Dodd-Frank Act’s mortgage reforms generally seek
to address substandard residential mortgage lending practices that
contributed to spikes in foreclosures and the 2007 through 2009 financial
crisis. A key challenge in implementing these reforms is balancing the
goals of protecting consumers from abuse and maintaining broad access
to credit. Authority for implementing these reforms generally was
transferred from the Federal Reserve to CFPB in July 2011. 70 CFPB has
the rule-making authority for most of these regulations, and in other cases
agencies are jointly responsible for rule making. While federal agencies
have proposed a number of rules to implement the act’s mortgage
reforms, most of the required rules have not been finalized.

The Dodd-Frank Act’s mortgage reforms could apply to and impact the
vast majority of community banks and credit unions, given their
involvement in mortgage lending. On the basis of our analysis of SNL
Financial data, over 97 percent of community banks and over 70 percent
of credit unions held residential mortgage loans in 2011. Over the past 5
years, community banks within different asset-sized categories generally
dedicated about 30 percent of their lending portfolios to mortgage lending.
However, mortgage lending by credit unions was more varied by asset
size. As a percentage of a credit union’s total lending portfolio in 2011,
mortgage lending comprised, on average, over 50 percent for credit
unions holding more than $100 million in assets, about 44 percent for
those with $20 million to $100 million in assets, about 26 percent for



69
  The Home Mortgage Disclosure Act of 1975 (HMDA), Pub. L. No. 94-200, 89 Stat. 1124,
requires certain creditors to collect, disclose, and report data on the personal
characteristics of mortgage borrowers and loan applicants (for example, their ethnicity,
race, and gender), the type of loan or application (for example, if the loan is insured or
guaranteed by a federal agency), and financial data such as the loan amount and
borrowers’ incomes. Institutions that provide mortgage lending, have over $41 million in
assets, and have a home office or branch office in a metropolitan statistical area must
report HMDA data. The purposes in collecting these data are to aid in determining
whether financial institutions are serving the housing needs of their communities,
identifying areas where additional investment is needed, and identifying possible
discriminatory lending patterns.
70
  In July 2011, pursuant to the Dodd-Frank Act, rulemaking, supervision, and enforcement
authority for consumer protection laws were generally transferred to CFPB. This includes
responsibility for implementing the Truth in Lending Act (TILA) and the Home Ownership
Equity Protection Act, which are among the primary federal laws governing consumer
credit, including mortgage lending. TILA was intended to provide consumers with more
information about the costs of credit, and the Home Ownership Equity Protection Act
amended TILA to regulate and restrict certain “high cost” mortgage loans.




Page 36       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                              those with $5 million to $20 million in assets, and about 7 percent for
                              those with less than $5 million in assets.

                              Although the Dodd-Frank Act’s mortgage reforms may affect the majority
                              of community banks and credit unions, precisely how or to what extent
                              the reforms will affect these institutions is uncertain. Many of the reforms
                              have not yet been implemented; therefore, data do not exist to assess
                              their impact. However, some regulators and industry representatives
                              expect the potential cumulative effect of the mortgage reforms to increase
                              the regulatory burden for smaller institutions, potentially leading them to
                              decrease certain mortgage lending activities or, at the extreme, exit the
                              mortgage business. In our interviews with state associations, community
                              banks, and credit unions, officials from 9 of the 16 entities told us that
                              they expected the act’s mortgage reforms to decrease their or their
                              member institutions’ lending, but officials from seven of the entities told us
                              it was too soon to determine the reforms’ potential impact. Some officials
                              also told us that the mortgage reforms may reduce community banks’ and
                              credit unions’ advantage not only in serving niche markets (e.g., rural
                              communities) by standardizing mortgage terms but also in making loans
                              based on “soft information” by increasing the cost of providing these
                              loans. Evaluating these concerns is difficult, especially given the CFPB’s
                              regulatory flexibility. As discussed in the previous section, the Dodd-Frank
                              Act and federal consumer financial protection laws provide CFPB with
                              varying amounts of exemptive authority with regard to particular
                              transactions and circumstances. In addition, the Dodd-Frank Act’s
                              provisions that establish minimum standards for mortgage underwriting
                              (“ability-to-repay” provision), additional escrow requirements, and
                              appraisal standards provide some exceptions and regulatory relief for
                              small institutions. These particular provisions were identified by regulators
                              and industry representatives as potentially having a significant impact on
                              community banks and credit unions.

Ability-to-Repay and Escrow   Sections 1411 and 1412 of Title XIV of the Dodd-Frank Act amended the
Provisions                    Truth in Lending Act (TILA) by prohibiting creditors from making mortgage
                              loans without regard to consumers’ ability to repay them and establishing
                              standards for making a reasonable and good faith determination based
                              on verified and documented information. This reform was enacted to
                              address the loosening of underwriting standards, which was partly
                              responsible for the dramatic increase in mortgage delinquencies and
                              foreclosures beginning in 2006. A creditor can meet the ability-to-repay
                              requirement by satisfying certain underwriting factors, or the creditor may
                              also be presumed to have satisfied the ability-to-repay requirement and
                              receive some protection from liability if it originates a “qualified mortgage”


                              Page 37     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
(QM) as defined by criteria in the Dodd-Frank Act and implemented by
CFPB. In other sections of subtitle B of Title XIV, the act sets steeper
penalties for noncompliance with the requirements and allows consumers
to cite ability-to-repay violations as a set off in foreclosures.

In a 2011 report, we examined five of the nine QM criteria specified in the
Dodd-Frank Act for which sufficient data were available and generally
found that most mortgages likely would have met the individual criteria for
each year from 2001 through 2010. 71 However, we noted that the impact
of the full set of QM criteria was uncertain, partly because data limitations
made analysis of the other four criteria difficult and partly because CFPB
could establish different criteria in developing final regulations. Consumer
and industry groups indicated that the criteria specified in the act would
likely encourage sound underwriting, but could also restrict the availability
of and raise the cost of mortgage credit for some homebuyers. Provisions
in the act and proposed regulations attempt to address some of these
issues, in part by providing exemptions for certain loan products in certain
locales, such as rural areas.

Within subtitle E of Title XIV, sections 1461 and 1462 of the Dodd-Frank
Act amended TILA to expand escrow requirements for certain types of
mortgage loans to enhance consumer protection. 72 Before the Dodd-
Frank Act, regulations issued under TILA required that creditors establish
escrow accounts for taxes and insurance for higher-priced residential
mortgage loans. 73 The Dodd-Frank Act substantially codified these


71
 GAO, Mortgage Reform: Potential Impacts of Provisions in the Dodd-Frank Act on
Homebuyers and the Mortgage Market, GAO-11-656 (Washington, D.C.: July 19, 2011).
72
  The act generally requires that mandatory escrow accounts be established for
mortgages secured by a first lien on a customer’s primary residence if (1) the escrow
account is required by federal or state law; (2) the mortgage is made, guaranteed, or
insured by a state or federal government lending or insurance agency (e.g., the Federal
Housing Administration or the Department of Veterans Affairs); or (3) the mortgage is a
close-ended “higher priced” mortgage loan.
73
  On July 30, 2008, the Federal Reserve published a final rule amending Regulation Z
(TILA) to establish new regulatory protections for consumers in the residential mortgage
market. 73 Fed. Reg. 44,522 (July 30, 2008). Among other things, the final rule defined a
class of higher-priced mortgage loans that are subject to additional protections, including
mandatory escrow accounts for certain loans. Different aspects of the rule were to be
effective as of October 2009 and April 2010; however, in August 2009 the Federal
Reserve published a proposed rule to amend this Regulation Z requirement due to
concerns about the rate used in determining whether a loan is higher-priced. No final
action had been taken on this rule prior to the Dodd-Frank Act.




Page 38       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
requirements and lengthened the time during which a mandatory escrow
account established for a higher-priced mortgage loan must be
maintained from 1 to 5 years. In addition, the act established additional
disclosure requirements for escrow accounts.

Both the ability-to-repay and escrow provisions may provide some relief
to creditors operating in predominantly rural or underserved communities.
As discussed previously, smaller banks generally have higher levels of
agricultural loans as a percentage of their total lending portfolios. In
addition, some credit unions are chartered specifically to serve
agricultural communities. Community banks and credit unions may make
balloon loans to help ensure access to credit in rural or underserved
communities where consumers may be able to obtain credit only from
these institutions offering such loans and to hedge against interest rate
risk. Section 1412 of the Dodd-Frank Act defines a balloon payment as a
scheduled payment that is more than twice as large as the average of
earlier scheduled payments. Under this provision, CFPB may by
regulation allow some creditors, including those operating in
predominantly “rural or underserved” areas, to make balloon-payment
QMs that meet certain criteria. In other cases, balloon-payment loans
may not be considered QMs, and creditors making these loans would not
be protected from certain liabilities. The act provides a similar exemption
from mandatory escrow requirements for similar types of creditors. To
qualify for these exemptions, in both cases, creditors must operate in
predominately rural or underserved areas, be under total annual asset
and mortgage loan origination limits to be set by CFPB (initially set by the
Federal Reserve, see following discussion), and retain their mortgage
loans in their portfolios. The intent behind these exemptions is to preserve
access to credit for consumers located in rural or underserved areas,
where creditors may originate balloon loans to hedge against interest rate
risk or higher-priced mortgages, but in volumes too small to justify the
expense of establishing and maintaining escrow accounts for loans held
in portfolio.

Before the transfer of rule-making authority for TILA to CFPB, the Federal
Reserve proposed rules to implement both the ability-to-repay and
escrow requirements. In May 2011, the Federal Reserve proposed
regulations for compliance with the ability-to-repay provisions. 74 Its



74
 76 Fed. Reg. 27,390 (May 11, 2011).




Page 39     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
proposal provided a definition for a QM and, in accordance with the act,
proposed that creditors with under $2 billion in assets operating
predominantly in “rural or underserved” areas may make a balloon-
payment QM that meets certain conditions. Due to the lack of available
data, the agency requested comment on how to set a mortgage loan
origination limit. 75 In March 2011, the Federal Reserve proposed rules for
implementing the act’s escrow requirements. 76 With respect to the
exemption, the agency proposed a threshold of no more than 100 total
mortgage loan originations a year and chose not to propose an asset-size
threshold. In both rules, the Federal Reserve defined “underserved” areas
as counties where not more than two creditors may make five or more
mortgages a year and “rural” areas as counties classified by the U.S.
Department of Agriculture as representing the most remote rural areas—
where access to the resources of more urban communities and mobility is
limited. 77

In their comment letters on these proposed rules, community bank and
credit union associations supported the intent of the reforms but were
concerned about regulatory burden. One community bank association
noted that the additional requirements could lead to an economic
environment where only larger creditors would continue doing business,
as they generally are better equipped to absorb increased regulatory
costs. Industry representatives added that community banks and credit
unions had not engaged in the abusive lending practices or substandard
underwriting practices the mortgage provisions sought to address. For
example, a community bank association noted that community banks
have provided balloon loans in small communities for decades without
problems and that these types of loans may be the only available credit



75
  In its proposed rule, the Federal Reserve requested comment on whether the mortgage
loan origination limit should be set by the aggregate principal amounts of relevant loans
extended by the creditor and its affiliates or by the total number of such loans.
76
   76 Fed Reg. 11,598 (Mar. 2, 2011). On the same date, the Federal Reserve issued a
final rule implementing part of section 1461 that amended Regulation Z to provide a
separate, higher threshold for determining when the escrow requirement applies to higher-
priced mortgage loans that exceed the maximum principal obligation eligible for purchase
by Freddie Mac, or “jumbo” loans. The final rule was effective on April 1, 2011. 76 Fed.
Reg. 11,319 (Mar. 2, 2011).
77
  The Economic Research Service of the U.S. Department of Agriculture maintains “urban
influence codes” that reflect factors such as counties’ relative population sizes, degrees of
urbanization, access to larger communities, and commuting patterns.




Page 40       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
             option for consumers in rural communities. They also noted that many
             balloon loans would fall under the definition of higher-priced loans and,
             therefore, would be covered by the mandatory escrow requirement. In our
             interviews with state associations, community banks, and credit unions,
             officials from 8 of the 16 entities expected the ability-to-repay provisions
             to decrease their or their member institutions’ mortgage lending, four
             thought the provisions would have no impact, and four thought it was too
             soon to tell.

             For both of the proposed rules, a state regulatory association and several
             industry associations emphasized the importance of the exemptions for
             small institutions, but disagreed with how “underserved” and “rural” areas
             were defined and, in turn, proposed that their definitions be expanded.
             They said the proposed definitions were too narrow and complicated, and
             would exclude many community banks and credit unions that should be
             covered. A state regulatory association and industry associations also
             supported expanding these exemptions to cover all creditors holding
             loans in portfolio, maintaining that these institutions have an incentive to
             ensure higher standards of underwriting and retain the risk associated
             with consumers failing to pay taxes and insurance. With respect to the
             escrow requirements, industry representatives suggested increasing the
             proposed threshold of 100 loans.

             As of August 2012, CFPB has not finalized either rule. In early June 2012,
             CFPB reopened the comment period for the proposed ability-to-repay
             rule. In particular, CFPB requested additional data on mortgage lending
             underwriting criteria and loan performance, as well as estimates of
             litigation costs and liability risks associated with claims alleging ability-to-
             repay requirement violations. CFPB expects to issue final rules for the
             ability-to-repay provisions and the escrow requirements by the end of this
             year. According to the Dodd-Frank Act, these provisions become effective
             18 months after rule-making authority was transferred to CFPB (that is,
             January 21, 2013) if implementing regulations have not been issued.
             Where implementing regulations are issued by the deadline, the statutory
             provisions take effect when the rules take effect. In some cases,
             implementing rules must take effect within 12 months of issuance.

Appraisals   Subtitle F of Title XIV established additional appraisal requirements for
             mortgage lending. Among other provisions, section 1471 establishes




             Page 41     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
additional requirements for “higher risk” mortgages. 78 Section 1472 of the
act amends TILA to require that appraisers be independent to reduce any
conflicts of interests. It declared the Home Valuation Code of Conduct,
the previous standard for appraisal independence for loans purchased by
Fannie Mae and Freddie Mac (the enterprises), to no longer be in effect
but codified several of the code’s provisions. 79 The intent of section 1472
is to better ensure that real estate appraisals used to support creditors’
decisions are based on the appraiser’s independent judgment, free of any
influence from parties that may have an interest in the transaction. Among
other requirements, section 1472 (1) prohibits coercion and bribery to
influence the value of an appraisal, (2) prohibits appraisers from having a
financial interest in property they are appraising, (3) prohibits a creditor
from extending credit if it knows that a violation of appraisal
independence has occurred, (4) mandates that the parties involved in the
transaction report appraiser misconduct to state appraiser licensing
authorities, and (5) mandates the payment of reasonable and customary
compensation for appraisals.

CFPB, FDIC, the Federal Reserve, the Federal Housing Finance Agency
(FHFA), OCC, and NCUA are jointly responsible for implementing the
act’s appraisal provisions. Section 1471 of the act provides the rule-
making agencies discretion in exempting certain loans from its
requirements. 80 In their August 2012 proposed rule, the agencies sought



78
  Section 1471 defines a “higher risk” mortgage as one that is not a “qualified mortgage”
(to be defined by CFPB pursuant to section 1412) and whose annual percentage rate
exceeds average rates (specified in the act) for a comparable transaction. This report
section focuses primarily on section 1472. However, Subtitle F of Title XIV of the act
includes other appraisal provisions. For example, section 1473 includes amendments
relating to the Appraiser Subcommittee of the Federal Financial Institutions Examination
Council, appraisal independence monitoring, appraisal management companies,
automated valuation models, and broker price opinions. For additional GAO work relating
to the Dodd-Frank Act appraisal provisions, see GAO, Residential Appraisals:
Opportunities to Enhance Oversight of an Evolving Industry, GAO-11-653 (Washington,
D.C.: July 13, 2011) and Real Estate Appraisals: Appraisal Subcommittee Needs to
Improve Monitoring Procedures, GAO-12-147 (Washington, D.C.: Jan. 18, 2012).
79
  The Dodd-Frank Act stated that the Home Valuation Code of Conduct ceased to be
effective as of the date the Federal Reserve issued interim final rules covering appraiser
independence. Dodd-Frank Act § 1472(a) (codified at 15 U.S.C. § 1639e(j)). The Federal
Reserve issued that rule on October 28, 2010. 75 Fed. Reg. 66,554.
80
  The act allowed rule-making agencies to jointly exempt, by rule, a class of loans from
the requirements of this provision if the agencies determine that the exemption is in the
public interest and promotes the safety and soundness of creditors.




Page 42       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
comment on whether the final rule should provide an exemption for
certain appraisal requirements for higher-risk mortgage loans made in
rural areas. 81 They also sought comment on whether the final rule should
define “rural” areas as proposed in the ability-to-repay rule. 82 In October
2010, the Federal Reserve issued an interim final rule implementing
section 1472. 83 The Federal Reserve included a safe harbor for
compliance with prohibitions on conflicts of interest for employees and
affiliates of creditors holding less than $250 million in assets. According to
our analysis of SNL Financial data, about 65 percent of community banks
and about 90 percent of credit unions held less than $250 million in
assets in 2011. The agency noted that without allowances for staff and
other limitations of smaller creditors, smaller creditors may decrease their
lending, which could reduce credit availability and harm many consumers.
Further, the agency stated that the federal banking agencies have long
recognized that small institutions may be unable to achieve strict
separation between valuation and loan underwriting staff, and the rule
provides special guidance taking this limitation into account. Specifically,
the interim final rule provides that the appraiser can be employed or
affiliated with the creditor as long as (1) their compensation does not
depend on the value of the appraisal and (2) the appraiser does not
participate in the decision as to whether to make a loan or not.

In their comment letters on the interim final rule, several bank and credit
union associations supported the intent and key aspects of the rule. 84
However, both a banking and a credit union association suggested that
the safe harbor be expanded to include institutions with less than $1
billion in assets and that hold their loans in portfolio. Specifically, they


81
     77 Fed. Reg. 54,722 (Sept. 5, 2012).
82
  On August 15, 2012, the rule-making agencies issued a proposed rule for implementing
section 1471. They sought comment as to whether higher-risk mortgage loans made in
rural areas should be exempt from the requirement that creditors obtain two appraisals
prior to extending a higher-risk mortgage loan to finance a consumer’s acquisition of
property. In the proposed rule, the agencies requested any data to be submitted
supporting whether exempting any classes of higher-risk mortgage loans from the
additional appraisal requirement would be in the public interest and promote safety and
soundness of creditors. Comments on the proposed rule are due in October 2012.
83
     75 Fed. Reg. 66,554 (Oct. 28, 2010).
84
  One national credit union association did not support the rule due to its requirement that
credit unions report violations of the rule, suggesting that the requirement would require
credit unions to become experts in rules, laws, and standards regarding appraisers.




Page 43          GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                           noted that many smaller community banks are predominately portfolio
                           creditors and often make lending decisions based on long-term
                           relationships and experience in their communities, which would extend to
                           any valuation activity. CFPB, FDIC, the Federal Reserve, FHFA, OCC,
                           and NCUA share responsibility for jointly issuing any further final rules on
                           appraisal requirements under section 1472, as well as implementing
                           section 1471 and other appraisal provisions.


Risk Retention Provision   The Dodd-Frank Act’s risk retention provision for securitizations, found in
Initially May Have a       section 941 of the act, is expected to have a limited initial impact on
Limited Impact             community banks and credit unions largely because of the limited nature
                           of their current involvement in securitizations. However, as we recently
                           reported, the implications of section 941 with respect to residential
                           mortgage lending will depend on a variety of regulatory decisions and
                           potential changes in the mortgage market that could affect the availability
                           and cost of mortgage credit and the viability of a private mortgage
                           securitization market. 85 In turn, such market changes could affect
                           community banks and credit unions. As discussed in the previous section,
                           our analysis of SNL Financial data found that over 97 percent of
                           community banks and over 70 percent of credit unions held residential
                           mortgage loans in 2011. To securitize residential mortgage loans, lenders
                           may, in some cases, sell their loans to third parties, generating funds that
                           they can use to make more loans. The third parties, or securitizers,
                           bundle mortgages and sell them as investment products, called
                           residential mortgage-backed securities (RMBS). Securitizers include
                           investment banks, commercial banks, mortgage companies, and real
                           estate investment trusts. 86 Types of RMBS sold in the secondary market
                           are (1) Ginnie Mae-RMBS backed by cash flows from federally insured or
                           guaranteed mortgages, (2) enterprise RMBS backed by mortgages that
                           meet the criteria for purchase by the enterprises, and (3) private-label
                           RMBS, which are backed by mortgages that may not meet some aspect




                           85
                                See GAO-11-656.
                           86
                             Real estate investment trusts are companies that own income-producing real estate and
                           in some cases engage in the financing of real estate. To qualify as a real estate
                           investment trust, a company must have most of its assets and income tied to real estate
                           investment and must distribute at least 90 percent of its taxable income to shareholders
                           annually in the form of dividends. For more detailed information on securitization
                           processes, see GAO-11-656.




                           Page 44        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
of enterprise underwriting criteria. 87 Securitization typically is less
expensive for lenders than raising funds directly, and it transfers some or
all of the credit and interest rate risk from the lender to the investors. At
the height of the mortgage boom, as demand for securitization of
mortgage loans grew, lenders and securitizers were increasingly
compensated based on loan volume rather than loan quality, contributing
to a decline in underwriting standards.

Section 941 of the Dodd-Frank Act requires, in part, that mortgage
securitizers retain a financial exposure of no less than 5 percent of the
credit risk of any securitized residential mortgage that is not a “qualified
residential mortgage” (QRM)—that is, one that does not meet certain
underwriting criteria to be defined by the rule-making agencies (FDIC, the
Federal Reserve, OCC, SEC, FHFA, and the Department of Housing and
Urban Development). 88 The requirement mandates that securitizers of
RMBS have an economic stake in the assets included in the
securitizations they sponsor and, thus, an incentive to help ensure that
lenders originate well-underwritten mortgages. In addition to the
securitization of loans that meet the QRM criteria, the act exempts
securitizations of government-insured or government-guaranteed
mortgages (and certain other assets) from the risk retention requirement
(excluding mortgages backed by the enterprises, which are currently in
government conservatorship). 89 Although the purpose and scope of the



87
  Government-insured or government-guaranteed mortgages primarily serve borrowers
who may have difficulty qualifying for mortgages. The Federal Housing Administration and
the Department of Veterans Affairs operate the two main federal programs that insure or
guarantee mortgages. Fannie Mae and Freddie Mac (the enterprises) purchase
mortgages that meet specified underwriting criteria from approved lenders. Most of the
mortgages are made to prime borrowers with strong credit histories. The enterprises
bundle the mortgages into securities and guarantee the timely payment of principal and
interest to investors in the securities. On September 6, 2008, the enterprises were placed
under federal conservatorship because of concern that their deteriorating financial
condition and potential default on $5.4 trillion in outstanding financial obligations
threatened the stability of financial markets.
88
  The Dodd-Frank Act’s risk retention requirement also applies to securities backed by
other asset classes, such as commercial loans, commercial real estate mortgage loans,
credit cards, and automobile loans.
89
  In addition to mortgages backed by the enterprises, this section of the act also does not
apply the exemption for government-insured or government-guaranteed mortgages to
mortgages backed by Federal Home Loan Banks, which form a system of regional
cooperatives that support housing finance through advances and mortgage programs,
among other activities.




Page 45       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
QM and QRM provisions are somewhat different, they could be expected
to work together by increasing lenders’ and securitizers’ exposure to the
risks that are associated with mortgages whose features and terms may
put borrowers at a higher risk of default and foreclosure.

Section 941 requires the rule-making agencies to jointly prescribe
regulations for the risk retention requirement. The Dodd-Frank Act
requires that in crafting the risk retention regulations, the rule-making
agencies must specify, among other things,

•    criteria for QRMs, taking into consideration underwriting and product
     features that historical loan performance data indicate result in a lower
     risk of default; 90

•    permissible forms of risk retention and the minimum duration for
     meeting the requirement;

•    whether credit risk is to be allocated from securitizers to loan
     originators; and

•    the possibility of permitting a lower risk retention requirement (less
     than 5 percent) for any non-QRM that meets underwriting standards
     that the agencies develop in regulations.

Federal banking and other agencies issued a proposed rule for the risk
retention requirement in April 2011 but have not finalized the rule. 91 In the
proposed rule, the agencies established criteria for QRMs, including that
the mortgage, if made in connection with a purchase, must have a loan-




90
  The Dodd-Frank Act specifies that the QRM definition cannot be broader than the QM
definition described previously (i.e., the QRM criteria can be more restrictive than the QM
criteria but not less restrictive).
91
  76 Fed. Reg. 24,090 (Apr. 29, 2011). FDIC, the Federal Reserve, OCC, SEC and, in
cases of residential mortgage assets, the Department of Housing and Urban Development
and FHFA, are responsible for jointly prescribing the risk retention rules. The Chairperson
of the Financial Stability Oversight Council is tasked with coordinating the risk retention
rule-making effort.




Page 46       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
to-value ratio of 80 percent or less. 92 The agencies also proposed that the
full guarantee provided by the enterprises would satisfy the risk retention
requirement for securitizations sponsored by the enterprises while they
are under conservatorship with the capital support of the U.S. Department
of the Treasury. Although the Dodd-Frank Act places the responsibility for
retaining risk on securitizers, it permits the agencies to require lenders to
share the risk retention obligations. The proposed rule permits but does
not require a securitizer to allocate a portion of its risk retention
requirement to any lender that contributed at least 20 percent of the
underlying assets to the asset pool underlying a securitization transaction.

In the proposed rule, the agencies, pursuant to the Regulatory Flexibility
Act, estimated that the proposed requirement would not have a significant
impact on a substantial number of small banking institutions (as defined
by SBA as those with assets less than or equal to $175 million), at least
under current market conditions. 93 Based on their analysis of Call Report
data for the third quarter of 2010, FDIC, the Federal Reserve, and OCC
identified over 6,200 small banking organizations under their supervision,
of which 329 originated loans for securitization. 94 FDIC and OCC noted
that they were aware of only six small banking organizations that
sponsored securitizations. The regulators also noted that the small banks
making securitized loans usually sell their loans to the enterprises, which
retain credit risk through agency guarantees; thus, the banks would not
be allocated credit risk under the proposed rule. In the proposed rule, for
the purposes of their Regulatory Flexibility Act analysis, regulators
estimated that most RMBS are collateralized by a pool of mortgages with



92
  The proposed rule also established other QRM criteria, including: (1) the debt to income
ratio must be 36 percent or less; (2) the loan term must not exceed 30 years; (3) the loan
cannot include negative amortization or payment deferral features; (4) points and fees
cannot exceed 3 percent of the total loan amount; (5) the borrower can neither be 30 or
more days past due on any debt obligation at the time of the loan nor have been 60 or
more days past due on any debt obligation within the preceding 24 months; and (6) the
originator must incorporate into the mortgage documents certain requirements regarding
policies and procedures for servicing the mortgage.
93
  The Regulatory Flexibility Act generally requires that an agency, in connection with a
notice of proposed rulemaking, prepare and make available for public comment an initial
regulatory flexibility analysis that describes the impact of the proposed rule on small
entities or certify that the rule will not have a significant economic impact on a substantial
number of small entities (defined in regulations promulgated by SBA to include banking
organizations with total assets of less than or equal to $175 million).
94
  In its analysis, the Federal Reserve included over 2,400 small bank holding companies.




Page 47        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
aggregated balances of at least $500 million. Accordingly, under the
proposed rule, a securitizer could allocate a portion of the risk retention
requirement to a small banking organization only if the bank originated at
least 20 percent ($100 million based on the above estimate) of the
securitized mortgages. According to the regulators, only one small
banking organization reported an outstanding principal balance of over
$100 million in assets sold and securitized as of September 30, 2010.
Using SNL Financial data, we expanded this analysis to include banks
with less than $10 billion in total assets (our definition of “community
bank”) at year-end 2011. We found that over 890 of these banks
originated loans for securitization, of which 9 reported an outstanding
principal balance of over $100 million in assets sold and securitized,
primarily residential mortgages. 95 NCUA officials said that there is limited
Call Report data on credit unions’ securitization of mortgage loans and
stated that credit unions that do securitize mortgage loans usually sell
their loans to the enterprises. Therefore, under the proposed rule, such
credit unions would not be allocated credit risk because it has been
transferred to the enterprises. Also, under the proposed rule, the
enterprises would be required to retain the risk (and while under
conservatorship, the enterprise guarantee would satisfy the risk retention
requirement).

In our 2011 report, we reported that many industry stakeholders and
consumer groups noted that the implications of the proposed risk
retention rule depend on a variety of regulatory decisions and potential
changes in the mortgage market. 96 These include decisions on the
characteristics of QRMs that would be exempt from the risk retention
requirement, the forms of risk retention that would be allowed, the
percentage that securitizers would be required to hold, and the risk-
sharing arrangements between securitizers and lenders. They noted that
these factors could affect the availability and cost of mortgage credit and



95
  This analysis does not include data for thrift institutions. This finding assumes that no
portion of the assets originated by these banks was sold to the enterprises or
securitizations that qualify for an exemption from the risk retention requirements under the
proposed rule. OCC officials commented that because no private-label RMBS transactions
closed in 2011, none of the 2011 securitization activity would have been in residential
mortgages sold to a securitizer, where the securitizer might have attempted to allocate the
risk retention back to the lender. They noted that the residential mortgages were either
government-insured mortgages or sold to the enterprises.
96
     See GAO-11-656.




Page 48        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                             the future viability of the private-label RMBS market, which could impact
                             all institutions involved in mortgage lending. In addition, several mortgage
                             industry representatives indicated that smaller lenders, such as
                             independent mortgage companies and small community banks, could
                             lack sufficient capital resources to share risk retention obligations or hold
                             non-QRMs that were not securitized on their balance sheets. As we
                             reported, a few mortgage and securitization market participants told us
                             that large lenders had the financial capacity to share risk retention
                             obligations with securitizers or hold non-QRMs on their balance sheets,
                             giving them an advantage over smaller lenders that could ultimately
                             reduce competition in mortgage lending. Finally, a number of market
                             participants noted that even if lenders were not required to share risk in
                             the manner prescribed by the Dodd-Frank Act, securitizers could be
                             expected to take steps to transfer the cost of risk exposure by paying
                             lenders less for the mortgages they sold or requiring additional collateral
                             to ensure the underwriting quality of the mortgages. But others noted that
                             creditors would pass this cost on to borrowers and that the cost would
                             likely be marginal.

                             In our interviews with state associations, community banks, and credit
                             unions, officials from 8 of the 16 entities said that the QRM proposed rule
                             would have a negative impact on community banks and credit unions and
                             may cause them to decrease their mortgage lending. Five said that it was
                             too soon to discern the impact of the proposed QRM rule, and three said
                             the rule would have no impact. One bank noted that the risk retention
                             requirement would likely curtail the availability of securitizers because of
                             tighter guidelines for them and limit the bank’s potential market. Officials
                             from several banks and credit unions said that the risk retention
                             requirement would not have any impact on their institution because they
                             did not securitize any of their mortgage loans. One bank official said that
                             his bank sells its loans in the private market and that its portion of the
                             securitization is less than 20 percent; thus, the bank would not be
                             affected by the provision as proposed.


Other Provisions May         A number of provisions are expected to impose additional costs or other
Impose Additional Costs or   requirements on certain community banks or credit unions. However, the
Other Compliance             extent to which these small institutions will be affected is largely
                             uncertain, in part because the rules implementing the provisions have not
Requirements, but Their      been finalized.
Impact Depends Partly on
Future Rule Makings



                             Page 49     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Prohibitions against         Few community banks may be directly affected by the Dodd-Frank Act’s
Proprietary Trading and      proprietary trading prohibitions, but the federal regulators’ proposed rules
Ownership of Certain Funds   implementing this provision would create additional compliance
                             responsibilities for community banks. Section 619 of the Dodd-Frank Act,
                             also known as the Volcker Rule, amends the Bank Holding Company Act
                             to prohibit banking entities from engaging in proprietary trading and
                             having ownership interests in hedge funds and private equity funds
                             (covered funds). 97 The provision’s prohibitions are designed to restrain
                             risk-taking and reduce the potential for federal support of entities covered
                             by the provision. To implement the provision, four agencies proposed a
                             joint rule that was published in the Federal Register in November 2011. 98
                             The restrictions and prohibitions in section 619 were to be effective the
                             earlier of either a year after the issuance of final rules or July 21, 2012. As
                             final rules have not yet been issued, the prohibitions became effective on
                             July 21, 2012. Banking and nonbank entities covered by the provision
                             generally will have 2 years to bring existing activities into conformance. 99
                             The act defines proprietary trading as the purchase or sale of securities,
                             derivatives, commodities futures, or options on these instruments
                             (covered positions) for the trading account of a banking entity or nonbank
                             financial entity, as opposed to on behalf of a customer. The act further
                             defines a trading account as any account used principally with the intent
                             to profit from short-term price movements. The proposed rule implements
                             statutory exemptions from the prohibition on proprietary trading for certain
                             government securities, and for hedging, market-making, and underwriting
                             activities. The proposed rule also provides guidance on the types of


                             97
                               This section’s prohibitions apply to banking entities and do not apply to credit unions.
                             The section does not prohibit nonbank financial companies supervised by the Federal
                             Reserve from engaging in proprietary trading or having ownership interests in a covered
                             fund. However, the provision allows the Federal Reserve or other agencies to impose
                             additional capital charges and quantitative limits on nonbank financial companies
                             supervised by the Federal Reserve that are engaged in those activities. OCC officials
                             noted that no such nonbank entities have been designated as of August 13, 2012.
                             98
                               76 Fed. Reg. 68,846 (Nov. 7, 2011). The responsible rule-making agencies are OCC,
                             the Federal Reserve, FDIC, and SEC. CFTC also has rule-making authority under section
                             619 of the Dodd-Frank Act and proposed a substantively similar rule in February 2012.
                             The rules proposed by SEC and CFTC will not apply to community banks, as these
                             agencies are not the primary financial regulatory agency for banks.
                             99
                               The Federal Reserve, Statement of Policy Regarding the Conformance Period for
                             Entities Engaged in Prohibited Proprietary Trading or Private Equity Fund or Hedge Fund
                             Activities, 77 Fed. Reg. 33,949 (June 8, 2012). See also the Federal Reserve’s
                             conformance period final rule, which was issued in February 14, 2011, 76 Fed. Reg.
                             8,265.




                             Page 50       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
interests that are considered to be ownership interests in hedge funds,
which commonly are understood to be investment vehicles that engage in
active trading of securities and other financial contracts, and private
equity funds, which commonly are understood to be funds that use
leverage or other methods to invest in companies or other less-liquid
investments.

Our analysis found that few community banks may be affected by the
proposed rule’s prohibitions, but data on proprietary trading and
involvement with covered funds at community banks are limited. Thus,
the exact number of institutions that may be affected by the proposed rule
is unknown. Using SNL Financial data, we found that about 1 percent of
banks with more than $100 million and less than $10 billion in assets
reported having financial instruments that may fall under the definition of
a covered position in their trading accounts at the end of 2011. In
previous analysis conducted on proprietary trading in July 2011, we found
that most proprietary trading has been conducted by the largest bank
holding companies. 100 However, because banks with less than $100
million in total assets or less than $2 million in trading assets are not
required to report their trading assets in Call Reports by the type of
financial instrument, not all community banks involved in proprietary
trading may be captured in the data. 101 Further, Call Reports do not
require banks to report ownership stakes in covered funds, so we could
not estimate the number of community banks that may be affected by this
prohibition.

Despite the small percentage of community banks that may be affected
by the Dodd-Frank Act’s proprietary trading and covered fund
prohibitions, the proposed rules could have an impact on community
banks due to their compliance requirements. The proposed rules have a
tiered compliance program, which was not expressly part of the act but
could apply to all banks. Under the proposed rules, banks that do not
engage in any covered trading or fund activities must ensure that their
existing investment policies and procedures include measures that are


100
  GAO, Proprietary Trading: Regulators Will need More Comprehensive Information to
Fully Monitor Compliance with New Restrictions When Implemented, GAO-11-529
(Washington, D.C.: July 13, 2011).
101
   Other banks that report total average trading assets of less than $2 million in each of
the four preceding quarters also are not required to provide a breakdown of their trading
assets by type of financial instruments.




Page 51       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
designed to prevent them from becoming engaged in prohibited activities
in the future, for example, by limiting their authorized investments to those
exposures exempt from the prohibition. 102 Banks engaging in covered
activities under the proposed rules must establish a six-part compliance
framework to demonstrate that their activities are allowed by one of the
rules’ exemptions. 103 Specific exemptions also have additional
compliance requirements. For example, to use the exemption for risk-
mitigating hedging, banks must be able to demonstrate that their hedging
positions are reasonably correlated with specific risks. Our analysis of
SNL Financial data on over-the-counter (OTC) derivatives found that
about 15 percent of community banks held derivatives for purposes other
than trading, such as hedging risk. The extent to which the risk mitigating
hedging provision may affect community banks will depend on the
requirements or standards that the regulators establish for demonstrating
that a hedge is reasonably correlated with specific risks and whether such
correlations must be on a transaction or portfolio basis. The proposed rule
did not include any specific exemptions from the compliance
requirements for small institutions, so if the proposed rules were adopted,
these banks may have to expand their compliance frameworks to
accommodate any additional hedging requirements imposed by the rule.

Although the impact of the proposed rules’ compliance requirements on
community banks still is unknown, industry associations have expressed
concern that the rules will impose an undue burden on small banks. As
part of the proposed rules, the regulators considered the impact of the
rules on small entities in accordance with the Regulatory Flexibility Act,
and concluded that the compliance requirements in the proposed rule
would not result in a significant economic impact on a substantial number
of small entities. However, one industry association expressed concerns
in its comment letter that the proposed rule will adversely affect


102
   Banks currently are required to have investment policies that identify acceptable
instruments for purchase. The Supervisory Policy Statement on Investment Securities and
End-User Derivatives Activities (63 Fed. Reg. 20,191 (Apr. 23, 1998)) specifies that banks
should identify, measure, monitor, and control the risks of investment activities as a matter
of sound banking practice. This includes maintaining policies that set limits on the
purchase of securities and other investment vehicles. These policies can be used to
identify instruments that the bank may purchase, such as U.S. Treasuries, municipal
obligations, and Government Sponsored Enterprise debt, that are exempt from the
proposed Volcker Rule.
103
   Banks with more than $1 billion in covered positions or covered fund activities must
also meet minimum standards in the compliance program.




Page 52       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                  community banks. The association noted that it would be costly for banks
                  with no covered activities to amend their compliance policies and
                  procedures, but did not estimate the anticipated increase in compliance
                  costs for these institutions. The industry association also recommended
                  that community banks that occasionally engage in interest rate swaps to
                  hedge their interest rate risk be able to do so without meeting the
                  compliance requirements for that exemption because these requirements
                  are more extensive. However, the level of compliance burden may be
                  relatively small for most community banks, given that the proprietary
                  trading provisions do not apply to types of exposures that comprise the
                  investment portfolio of most of the smaller community banks.

Swap Provisions   The Dodd-Frank Act’s swap provisions under Title VII may impose
                  additional costs on the fraction of community banks currently using
                  swaps, but CFTC and SEC have taken steps to help minimize the burden.
                  A swap is a type of derivative that involves an ongoing exchange of one
                  or more assets, liabilities, or payments for a specified period. 104 Unlike
                  exchange-traded derivatives, swaps traditionally have been traded in the
                  OTC market and generally have not been cleared through
                  clearinghouses. 105 Financial and nonfinancial firms use swaps and other
                  OTC derivatives to hedge risk, speculate, or for other purposes, but the
                  market is dominated by a limited number of dealers. 106 According to the
                  Financial Stability Oversight Council, OTC derivatives, with the exception
                  of credit risk transfer products, generally were not a central cause of the
                  recent financial crisis but were a factor in the propagation of risks, as their
                  complexity and opacity contributed to excessive risk taking and a lack of
                  clarity about the ultimate distribution of risks. 107




                  104
                    A derivative is a financial instrument created from, or whose value depends upon, the
                  value of one or more separate assets or indexes of asset values.
                  105
                     A derivatives clearinghouse or similar organization enables each party to a derivatives
                  transaction to substitute the credit of the clearinghouse for the credit of the parties,
                  provides for the settlement or netting of obligations from the transaction, or otherwise
                  provides services mutualizing or transferring the credit risk from the transaction.
                  106
                     Dealers participate in the derivatives market by quoting prices to, buying derivatives
                  from, and selling derivatives to end users and other dealers.
                  107
                    Financial Stability Oversight Council, Financial Stability Oversight Council 2011 Annual
                  Report (Washington, D.C.: July 26, 2011).




                  Page 53       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Title VII of the Dodd-Frank Act establishes a new regulatory framework
for swaps to reduce risk, increase transparency, and promote market
integrity in the financial system. The act authorizes CFTC to regulate
“swaps,” and SEC to regulate “security-based swaps” (hereafter
collectively referred to as swaps). 108 Among other things, Title VII (1)
provides for the registration and regulation of swap dealers and major
swap participants; (2) imposes clearing and trade execution requirements
on swaps, subject to certain exceptions; and (3) creates record-keeping
and real-time reporting regimes. CFTC and SEC are continuing to
implement Title VII through their rule makings. According to Davis Polk,
CFTC, SEC, and other regulators have finalized 43 of the 90 rules
required under Title VII (as of July 2, 2012).

As shown in table 5, Call Report data aggregated by FDIC show that
1,101 of the 7,250 community banks (15 percent) held derivatives in
2011. According to industry officials, community banks typically use
swaps to manage their exposure to interest rate risk or to help customers
meet their risk management needs. Indeed, banks with $10 billion or less
in total assets held nearly $88.8 million (notional amount) in derivatives at
year-end 2011, of which $82.4, nearly 93 percent, was interest rate
derivatives. Table 5 also shows that a considerably higher percentage of
larger community banks hold derivatives than smaller community banks,
but the use of derivatives within each asset-size class increased over the
past 5 years. In 2011, for instance, over 50 percent of banks with over $1
billion to $10 billion held derivatives, but around 3 percent of banks with
less than $100 million in assets held derivatives. In contrast to community
banks, federally chartered credit unions have been prohibited by NCUA
from engaging in derivatives, except through a pilot program. 109 In view of
the Dodd-Frank Act’s clearing requirements and its pilot program
experience, NCUA is reconsidering whether to permit credit unions to
engage in derivatives to hedge risk. 110




108
  Swaps include interest rate swaps, commodity-based swaps, and broad-based credit
swaps. Security-based swaps include single-name and narrow-based credit swaps and
equity-based swaps.
109
  Although permitted by law, NCUA currently allows only a limited number of credit
unions, on a case-by-case basis, to engage in such transactions under an investment pilot
program.
110
      76 Fed. Reg. 37,030 (June 24, 2011).




Page 54         GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Table 5: Number of Banks with $10 Billion or Less in Total Assets and Number of These Banks Holding Derivatives from 2007
through 2011

                        2007                          2008                                2009                                  2010                                 2011
Reporting
institutions   Number      Percentage        Number Percentage                  Number        Percentage             Number Percentage                 Number Percentage
Less than $100 million in total assets
Reporting
banks             3,440                          3,131                           2,845                                 2,622                              2,416
Reporting
banks with
derivatives           67              2            82                  3             86                    3               95                   4               84           3
$100 million to $1 billion in total assets
Reporting
banks             4,425                          4,499                           4,495                                 4,368                              4,284
Reporting
banks with
derivatives         632             14            663                15            663                   15              702                  16            723             17
Over $1 billion to $10 billion in total assets
Reporting
banks               549                           561                              565                                   560                                550
Reporting
banks with
derivatives         264             48            273                49            295                   52              290                  52            294             53
All banks with $10 billion or less than total assets
Reporting
banks             8,414                          8,191                           7,905                                 7,550                              7,250
Reporting
banks with
derivatives         963             11           1,018               12          1,044                   13            1,087                  14          1,101             15
                                                   Source: GAO analysis of FDIC’s Banking Quarterly Profile, Fourth Quarter 2007 through Fourth Quarter 2011.


                                                   Community bank and other industry officials have raised concerns about
                                                   the potential for Title VII provisions or related regulations to impede the
                                                   ability of community banks to use swaps. One concern is that community
                                                   banks entering into swaps with customers could be required to register as
                                                   swap dealers, unless they qualify for an exemption, and therefore be
                                                   subject to capital, margin, business conduct, and other regulations. CFTC
                                                   and SEC finalized their rule defining, among other things, a swap




                                                   Page 55             GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
dealer. 111 The final rule excludes persons engaged in a de minimis
amount of swap-dealing activity from the definition of a swap dealer. 112
Based on our analysis of SNL Financial data, we identified over 1,000
community banks that held OTC derivatives at year-end 2011. The data
provided a snapshot of the notional amount of a bank’s derivatives
activity, but did not indicate the value of derivatives entered into in the
previous year, which is needed to determine whether any of the banks we
analyzed met the definition of a swaps dealer. However, the bank with the
highest notional amount of OTC derivatives held around $4.1 billion,
which is considerably below the de minimis amounts set by CFTC and
SEC for CFTC-regulated swaps and SEC-regulated credit default swaps.
In addition, as directed by the Dodd-Frank Act, CFTC and SEC’s rule
excludes from the swap dealer definition banks that enter into a swap with
a customer in connection with originating a loan with that customer and
meet other conditions specified under the rule.

Another concern raised by industry officials is that community banks,
unless exempted, could be required to clear their swaps through a
clearinghouse, which would impose additional costs on them. Title VII
requires those swaps that CFTC or SEC determines must be cleared to
be cleared through a clearinghouse, but provides an exception from the
clearing requirement to end-users that are not financial entities and use
these swaps to hedge or mitigate commercial risk. CFTC and SEC are
required to consider whether to except, among others, small banks and
credit unions from the definition of financial entity and thereby provide



111
  See 77 Fed. Reg. 30,596 (May 23, 2012).The Dodd-Frank Act instructed CFTC and
SEC to exempt from designation as a dealer a person that engages in a de minimis
quantity of swap or security-based swap dealing in connection with transactions with or on
behalf of his or her customers.
112
   The rules provide for a phase-in of the de minimis thresholds to facilitate orderly
implementation of swap dealer and security-based swap dealer requirements. The initial
swap dealer and security-based swap dealer de minimis thresholds are, for the preceding
year, no more than $8 billion in aggregate gross notional amount of dealing activity in
CFTC-regulated swaps, $8 billion in notional amount of dealing activity for security-based
swaps that are credit default swaps, and $400 million for other types of security-based
swaps for security-based swap dealers. After the phase-in period ends and if CFTC or
SEC have not otherwise determined to change the respective threshold amounts, the
swap dealer de minimis threshold will be $3 billion in notional amount of dealing activity for
all CFTC-regulated swaps, and the security-based swap dealer de minimis thresholds will
be $3 billion in notional amount of dealing activity for security-based swaps that are credit
default swaps, and $150 million in notional amount of dealing activity for other security-
based swaps.




Page 56       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
them with an exception from the mandatory requirement. In July 2012,
CFTC adopted a final rule that exempts banks, savings associations, farm
credit system institutions, and credit unions with total assets of $10 billion
or less from the definition of “financial entity,” making such “small financial
institutions” eligible for the end-user exception. 113 As noted above,
community banks’ derivatives activities are limited largely to interest rate
derivatives, which are regulated by CFTC. In December 2010, SEC
proposed rules that would allow small banks and credit unions to use the
end-user exception from mandatory clearing created by the Dodd-Frank
Act. 114

Even if community banks were provided with an exception from the
mandatory swap clearing requirements, community bank officials are
concerned that their noncleared swaps could be subject to margin
requirements set by CFTC, SEC, or prudential regulators. 115 According to
an industry association, margin requirements could make it difficult or
impossible for many community banks to continue using swaps. CFTC
and the prudential regulators have issued proposed regulations for
noncleared swaps. 116 CFTC’s proposal would not impose margin
requirements on nonfinancial entities. 117 The prudential regulators’
proposal would impose margin requirements on nonfinancial entities but
categorize them as lower-risk, requiring the dealer to collect margin from
a nonfinancial entity only when the dealer’s exposure to the entity
exceeded whatever credit limit the dealer has established for that


113
   77 Fed. Reg. 42,560 (July 19, 2012).
114
   75 Fed. Reg. 79,992 (Dec. 30, 2010).
115
   Futures clearinghouses use initial and variation margin as a key part of their risk
management programs. Initial margin serves as a performance bond against potential
future losses. If a party fails to meet its obligation to pay variation margin, resulting in a
default, the other party may use initial margin to cover most or all of any loss based on the
need to replace the open position. Variation margin entails marking open positions to their
current market value each day and transferring funds between the parties to reflect any
change in value since the previous time the positions were marked. This process prevents
losses from accumulating over time and thereby reduces both the chance of default and
the size of any default should one occur.
116
   CFTC has proposed regulations for noncleared swaps (see 76 Fed. Reg. 23,732 (Apr.
28, 2011)). Also, the prudential regulators have jointly proposed corollary noncleared
margin rules (76 Fed. Reg. 27,564 (May 11, 2011)).
117
   CFTC requested public comments on whether counterparties that are small financial
institutions using derivatives to hedge their risks should be treated in the same manner as
nonfinancial entities for purposes of the margin requirements.




Page 57       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                                particular customer, after evaluation of the customer’s particular financial
                                repayment capacity. 118

                                According to FDIC staff, under long-standing banking agency guidance
                                that predates the Dodd-Frank Act, a dealer bank engaging in an interest
                                rate or other derivative with a community bank would not be expected to
                                collect margin as long as the dealer bank’s exposure to the community
                                bank was below the credit exposure limits that the dealer bank had
                                established under its credit assessment processes and procedures. FDIC
                                staff noted that the joint margin rule proposed by the prudential regulators
                                reiterates this long-standing interagency safety and soundness guidance
                                and that the proposed rule would effectively maintain the status quo with
                                respect to commercial banks that are end-users of interest rate or other
                                derivatives. 119

Remittance Transfer Provision   Section 1073 of the Dodd-Frank Act imposes new requirements on
                                remittance transfers (typically money transferred from consumers to their
                                families or friends in other countries) that likely will increase costs for
                                community banks and credit unions, but it also provides some temporary
                                regulatory relief. 120 This provision established new consumer protections
                                for remittance transfers, including most electronic wire transfers sent by
                                consumers in the United States to individuals and businesses in other
                                countries. In February 2012, CFPB issued a final rule to implement
                                section 1073 and provided a 1-year implementation period, making the
                                rule effective in February 2013. 121 The rule generally requires transfer
                                providers to provide disclosures and receipts to consumers who provide
                                the exact price of the remittance transfer, exchange rate, amount of
                                currency to be delivered, and date of the funds’ availability. In addition,
                                the rule generally provides that consumers have 30 minutes to cancel a



                                118
                                  The prudential regulators requested public comments on whether counterparties that
                                are small financial institutions using derivatives to hedge their risks be treated in the same
                                manner as nonfinancial end users for purposes of the margin requirements.
                                119
                                    Under the proposed rule, most community banks would fall under the category of “low-
                                risk financial end users.” Under the proposal, such users would be required to post an
                                initial margin only when the initial margin requirement, as calculated by the dealer,
                                exceeds the lesser of $15 million or 0.1 percent of the dealer’s capital.
                                120
                                  Section 1073 of the act amended the Electronic Fund Transfer Act (15 U.S.C. 1693 et
                                seq.).
                                121
                                      77 Fed. Reg. 6,194, 6,208 (Feb. 7, 2012).




                                Page 58          GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
transaction after payment and the ability to dispute errors related to the
transfer. 122 NCUA analysis of Call Report data estimated that about 10
percent of all credit unions offered remittance services in the fourth
quarter of 2011. Although comparable data on remittance services do not
exist for community banks, a recent Federal Reserve study found that
most U.S. depository institutions process international wire transfers on
behalf of their customers. 123

Industry associations have questioned the ability of institutions that use
open networks to make remittance transfers, such as community banks
and credit unions, to continue to provide such services because of their
difficulty in complying with the rule’s disclosure requirements. 124 These
associations suggested that open network transfer providers be given
regulatory relief. In addition, two industry associations commented that
the final rule does not level the playing field for consumer financial
products, as it favors remittance transfer providers that use closed
networks, such as nonbank institutions. In the February final rule, CFPB
noted that it does not plan to provide an exemption for open network
transfers, because the Dodd-Frank Act clearly covers these types of
transfers. 125 However, insured depository institutions, including
community banks and credit unions, are provided with a temporary


122
   For example, if the remittance amount delivered is less than the amount stated on the
disclosure and this error is successfully disputed, the provider (such as a bank or credit
union), at no additional charge, must either refund the consumer or transfer to the
recipient the portion of the funds that were not received.
123
   Report to the Congress on the Use of the Automated Clearinghouse System for
Remittance Transfers to Foreign Countries, Federal Reserve (July 2011). The United
States is the largest estimated source of international remittances. Historically, consumers
have largely chosen to send remittance transfers through nonbank money transmitters,
such as Western Union. Although less common, individuals may also send remittances
using services provided by depository institutions, such as banks and credit unions. Banks
and credit unions typically transmit funds through an open network, such as international
wire transfers and automated clearing house transactions.
124
   Remittance transfer methods generally are described as closed network and open
network systems. Closed network providers, such as Western Union, transfer remittances
through a network of agents or other partners that help collect funds domestically and
disburse funds abroad. Open network providers, such as banks and credit unions, may
collect funds domestically and use the network to transfer remittances to an unaffiliated
institution to disburse the funds abroad. In addition, national laws, individual contracts, and
rules of various messaging, settlement, or payment systems may constrain certain parts of
transfers sent through an open network system.
125
      77 Fed. Reg. 6,208 (Feb. 7, 2012).




Page 59          GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                         statutory exemption that allows them to provide estimated disclosures for
                         certain information, including exchange rates and foreign fees and taxes,
                         in certain circumstances rather than exact pricing. This exemption expires
                         on July 21, 2015, but CFPB may extend the exemption for an additional 5
                         years. In addition, to reduce the compliance burden for institutions that
                         provide remittance services outside of their normal course of business,
                         CFPB has excluded from disclosure requirements those institutions that
                         provide 100 or fewer remittance transfers per year. 126

                         Officials from 5 of the 12 community banks and credit unions we spoke
                         with said their institutions offer remittance services, and officials from two
                         of the four state associations we spoke to said that they have members
                         that offer remittance services. Of this group, officials from five of the
                         entities expect that the new remittance transfer rule to decrease their (or
                         their member institutions’) remittance transfer business. In particular, one
                         credit union official told us that his institution may exit this line of business
                         due to the increased disclosure requirements.

Executive Compensation   Subtitle E of Title IX of the Dodd-Frank Act will provide investors with
Provisions               more input on executive compensation practices, but may impose
                         additional compliance requirements on certain publicly traded community
                         banks and publicly traded companies that hold community banks.
                         According to the Dodd-Frank Act’s legislative history, Subtitle E of Title IX
                         is intended to address executive compensation practices that promoted
                         excessive risk taking. 127 The title contains a number of provisions
                         intended to provide shareholders with greater influence over, and insight
                         into, the activities of publicly traded companies. For example, section 951
                         requires shareholder advisory votes on executive compensation and
                         “golden parachutes.” Section 953 requires disclosure of pay versus
                         performance and the ratio between the chief executive officer’s total
                         compensation and median total compensation for other employees.
                         Section 954 requires listed companies to develop and implement




                         126
                           77 Fed. Reg. 50,244 (Aug. 20, 2012).
                         127
                            U.S. Senate, Committee on Banking, Housing, and Urban Affairs, “The Restoring
                                                                                     th
                         American Financial Stability Act of 2010,” Rep. 111-176, 111 Congress, 2d Sess. (Apr.
                         30, 2010).




                         Page 60      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
clawback policies for incentive-based compensation. 128 Based on our
analysis of SNL Financial data, we identified approximately 200 publicly
traded community banks and approximately 1,200 community banks held
by public companies, some of which may be affected by these
provisions. 129

Section 951 amends the Securities Exchange Act of 1934 to require
public companies subject to the proxy rules to conduct a separate
shareholder advisory vote on compensation for executives (“say-on-pay”)
at least every 3 years and a vote on the frequency of these votes at least
every 6 years (“say-on-frequency”). 130 The amendment also requires a
shareholder advisory vote on whether to approve certain golden
parachute compensation arrangements in connection with a business
combination. 131 Section 951 provides that SEC may exempt an issuer
from the advisory voting requirements. In determining whether to make an
exemption, SEC is to take into account, among other considerations,
whether the requirements disproportionately burden small issuers.

SEC issued a final rule implementing section 951, which became effective
in April 2011. 132 In commenting on the proposed rule, two industry



128
  Clawbacks are recovery by the company of amounts paid to an employee based on
materially inaccurate financial statements or performance criteria. This is money that the
executive would not have received if the accounting was done properly and to which the
executive was not entitled.
129
   OCC staff commented that these numbers will likely be lower because of the Jumpstart
Our Business Startups Act of 2012 (JOBS Act), Pub. L. No. 112-106, 126 Stat. 306. With
the exception of section 956, all of sections in Title IX, subtitle E of the Dodd-Frank Act,
are amendments to the Securities Exchange Act of 1934. Banks and bank holding
companies must be registered under the Securities Exchange Act for these provisions to
apply. The JOBS Act provides relief from the Securities Exchange Act’s registration
requirements for banks and bank holding companies.
130
   The JOBS Act further amended the Securities Exchange Act of 1934 to provide that
emerging growth companies—issuers with less than $1 billion in total annual gross
revenues—are not required to seek advisory votes related to executive compensation.
131
   Section 951 requires disclosure of any agreements or understandings that the person
making a proxy or consent solicitation has with named executive officers of the acquiring
issuer concerning any type of compensation that is based on or relates to the acquisition,
merger, consolidation, sale, or other disposition of all or substantially all of the assets of
the issuer and the aggregate total of all such compensation that may be paid or become
payable to or on behalf of such executive officer.
132
   76 Fed. Reg. 6,010 (Feb. 2, 2011).




Page 61       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
associations recommended that community banks be exempted from the
rule because they believe it will add significant burdens. While SEC did
not exempt community banks from the rule, it extended the compliance
date for the say-on-pay and say-on-frequency advisory votes for smaller
reporting companies and newly public companies that qualify as smaller
reporting companies, so that they will not be required to comply until the
first annual or other shareholder meeting occurring on or after January
21, 2013. 133 According to SEC, this deferral served, in part, to allow those
companies to better prepare for implementation of the rules.

Section 953(a) requires public companies subject to the proxy rules to
provide disclosure about pay versus performance, and section 953(b)
requires reporting companies to disclose the ratio between the chief
executive officer’s total compensation and the median total compensation
for all other company employees. 134 An industry association commented
that the provision would require complex financial calculations and
potentially expand the universe of persons subject to executive
compensation disclosure requirements. In addition, the association
suggested that SEC should exempt community banks from this provision,
in light of SEC’s recognition that the compensation arrangements at
smaller reporting companies generally are less complex than at other
public companies. SEC has not yet proposed a rule to implement this
provision.

Section 954 prohibits securities exchanges from listing securities of
issuers that have not developed and implemented incentive-based
compensation clawback policies. In addition, it prohibits exchanges from
listing securities of issuers that have not disclosed incentive-based
compensation policies. According to the Dodd-Frank Act’s legislative
history, the purpose of this provision is to prevent executives from
retaining compensation that they were awarded erroneously. 135 An
industry association has commented that this provision could make it
more difficult for community banks to attract and retain qualified officers


133
   SEC generally defines smaller reporting companies as those with a public float of less
than $75 million.
134
   Section 953(a) amends section 14 of the Securities Exchange Act of 1934. In addition,
the JOBS Act further amended the Securities Exchange Act of 1934 to provide that
emerging growth companies are not required to make these disclosures.
135
  See S. REP. NO. 111-176 (2010).




Page 62       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                               and could make privately held community banks reluctant to become
                               publicly traded companies. The industry association suggested that SEC
                               should exempt community banks from this provision. SEC has not yet
                               proposed a rule to implement this provision.

Incentive-Based Compensation   The Dodd-Frank Act’s incentive-based compensation provision, section
Provision                      956, will require a small percentage of community banks and credit
                               unions to report incentive-based compensation. Specifically, section 956
                               requires that financial institutions with $1 billion or more in total assets
                               disclose the structures of all incentive-based compensation arrangements
                               to their federal regulators. 136 The required disclosures will be used to
                               determine whether the compensation structure provides excessive
                               compensation, fees, or benefits, or could lead to a material financial loss
                               to the institution, which section 956 also requires the regulators to
                               prohibit. According to our analysis of SNL Financial data, most community
                               banks and credit unions would not be subject to this provision. Our
                               analysis indicates that, as of year-end 2011, around 7 percent of
                               community banks and around 3 percent of credit unions have between $1
                               billion and $10 billion in assets and, therefore, could be subject to the
                               provision. 137

                               The responsible rule-making agencies jointly issued a proposed rule to
                               implement section 956 in April 2011, but a final rule has yet to be issued
                               as of August 2012. 138 Under the proposed rule, financial institutions with
                               $1 billion or more in assets would be required to report incentive
                               compensation arrangements annually to their appropriate regulators.
                               However, pursuant to section 956, specific compensation to individuals
                               will not be disclosed. Incentive compensation arrangements that
                               encourage inappropriate risks through excessive compensation or pose a
                               risk of material financial loss to an institution would be prohibited.
                               Incentive compensation would be considered excessive when amounts
                               paid are unreasonable or disproportionate to, among other things, the
                               amount, nature, quality, and scope of services performed. In addition,


                               136
                                  Depending on the final rule and its implementation, subsidiaries of certain financial
                               institutions with less than $1 billion in consolidated assets could also be affected.
                               137
                                  Under the proposed rule, total consolidated assets are calculated using the average of
                               the total assets reported in a bank’s or credit union’s four most recent Call Reports.
                               138
                                  FDIC, the Federal Reserve, FHFA, OCC, OTS, NCUA, and SEC issued the proposed
                               rule to implement section 956. 76 Fed. Reg. 21,170 (Apr. 14, 2011).




                               Page 63       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                           larger financial institutions—such as banks with $50 billion or more in
                           assets and credit unions with $10 billion or more in assets—would be
                           subject to additional incentive compensation rules. Incentive
                           compensation would be deemed to lead to material financial loss unless
                           the arrangement fulfills certain requirements, including balancing risk and
                           financial rewards and involving effective risk management and strong
                           corporate governance.

                           In their comment letters, industry associations suggested changes to the
                           proposed rule to benefit community banks and credit unions. One industry
                           association suggested that the final rule be phased in over a longer time
                           period for institutions with assets between $1 billion and $10 billion.
                           Another industry association suggested that institutions with $15 billion or
                           less in assets with few incentive compensation arrangements should be
                           required to disclose incentive-based compensation plans once every 2
                           years, rather than annually, to relieve excessive disclosure requirements
                           for smaller institutions. Also, several industry associations commented
                           that the definition of excessive incentive compensation was overly broad
                           and should be narrowed. Of the 12 banks and credit unions we
                           interviewed, three of these institutions had more than $1 billion in assets
                           and may be subject to this rule, and officials from all three of these
                           institutions told us that they offer incentive compensation. Two officials
                           expect the proposed rule, if adopted, to have no impact on their
                           institutions, and the other official said that it was too soon to judge what
                           the impact would be.

Required Registration of   Section 975 of the Dodd-Frank Act requiring the registration of municipal
Municipal Advisors         advisors may or may not affect the majority of community banks,
                           depending on how SEC interprets “municipal advisor” in its final rule.
                           Section 975 amended section 15B of the Securities Exchange Act to
                           require municipal advisors, who previously were largely unregulated, to
                           register with SEC like investment advisers. Before the Dodd-Frank Act,
                           some municipal advisors were involved in, among other abuses, “pay-to-
                           play” scandals—that is, influencing the award of business through political
                           contributions—and recommended unsuitable investments to small
                           municipalities. Section 975 also authorizes the Municipal Securities
                           Rulemaking Board to develop professional standards, continuing
                           education requirements, and business conduct requirements for
                           municipal advisors. SEC proposed a rule to implement section 975 but




                           Page 64    GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
has not yet finalized the rule. 139 The proposed rule requires institutions
that meet the definition of a “municipal advisor” to submit registration
documents to SEC detailing their organizational structure, business
activities, and other information. Further, the proposed rule would require
employees at institutions that meet the definition of a municipal advisor to
register with SEC.

The definition of “municipal advisor” in the proposed rule could cover
many community banks. SEC noted in the proposed rule that the
statutory definition of a “municipal advisor” in the Dodd-Frank Act is
“broad and includes persons that traditionally have not been considered
to be financial advisors. 140” The rule identifies three general types of
municipal advisors: (1) financial advisors that provide advice to municipal
entities with respect to their issuance of municipal securities and
municipal financial products, (2) investment advisers that advise
municipal pension funds and other municipal entities on the investment of
funds held by or on behalf of municipal entities, and (3) third-party
marketers and solicitors.

The proposed rule noted that while some types of financial advisors were
exempted in the statutory language, banks were not included in the
exemptions. The proposed rule also notes that every bank account of a
municipal entity is comprised of funds held by or on behalf of a municipal
entity. Thus, if the rule is finalized as proposed, community banks that
provide advice to municipal entities with respect to traditional depository
services could be considered municipal advisors. If community banks
providing such advice to municipal entities are included in the definition of
municipal advisors, community banks and the individual employees that
provide these services would need to register with SEC, who may be a
new regulator for many community banks.

We used SNL Financial data to estimate the number of community banks
with deposits from municipal entities and found that around 82 percent of
banks with less than $10 billion in assets had deposits from municipal


139
   76 Fed. Reg. 824 (Jan. 6, 2011). In September 2010, SEC issued an interim final
temporary rule establishing a temporary registration program to comply with section 975’s
requirement that municipal advisors register by October 1, 2010. 75 Fed. Reg. 54,465
(Sept. 8, 2010). SEC subsequently extended the expiration date for this temporary rule,
and it will now expire on September 30, 2012. 76 Fed. Reg. 80,733 (Dec. 27, 2011).
140
  76 Fed. Reg. 824, 828.




Page 65       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                             entities at the end of 2011. In the proposed rule, SEC analyzed the
                             anticipated initial compliance burden for the registration requirement, and
                             estimated that the institutions would spend 6.5 hours completing the
                             registration, on average, and individuals would spend 3 hours, on
                             average.

                             In the proposed rule, SEC sought comment on whether the definition of a
                             municipal advisor should exclude banks to the extent that the bank
                             provides advice to a municipal entity about traditional banking products,
                             such as deposit accounts. Industry associations commented that banks
                             should be explicitly exempted in the proposed rule because their activities
                             are already supervised by federal and state banking regulators. However,
                             SEC noted that federal and state banking regulators supervise banks for
                             safety and soundness purposes and not the quality of the investment
                             advice they provide to their municipal entity clients. SEC also received
                             several comment letters from members of Congress who noted that it was
                             not the intent of Congress to include traditional banking in the definition of
                             municipal advice. SEC is reviewing the comments it has received as it
                             develops a final rule, and SEC staff commented that the agency expects
                             to implement its new oversight responsibilities for municipal advisors after
                             careful consideration of the comments received.


Too Early to Determine the   Regulators and industry officials have noted that the full impact of the
Impact of the Dodd-Frank     Dodd-Frank Act on community banks and credit unions remains
Act on Community Banks’      uncertain. Industry officials also have noted that it generally is too soon to
                             determine the act’s overall impact on community banks’ and credit unions’
and Credit Unions’ Small     ability to lend to small businesses. According to our analysis of SNL
Business Lending             Financial data, almost 90 percent of community banks and about one-
                             third of credit unions held loans to small businesses in 2011. Although
                             any provision in the Dodd-Frank Act that affects these institutions could
                             impact their customers (including small businesses), officials from federal
                             agencies, state regulatory associations, and industry associations we
                             interviewed identified only one provision in the Dodd-Frank Act
                             (discussed below) that may directly impact community banks’ and credit
                             unions’ ability to lend to small businesses. As discussed above,
                             community banks are important lenders to small businesses. Over the
                             past decade, community banks have done more small business lending
                             as a percentage of their total lending than large banks, although large
                             banks have done more small business lending overall. Small business
                             lending by credit unions with less than $10 billion in assets has increased
                             over the past decade from 2 percent to about 7 percent of their total
                             lending.


                             Page 66     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                     Although a number of provisions may ultimately impact lending by smaller
                     institutions, section 1071 was the only Dodd-Frank Act provision identified
                     by regulators and industry representatives as potentially having a direct
                     impact on small business lending by community banks and credit unions.
                     Section 1071 amends the Equal Credit Opportunity Act to require
                     financial institutions to collect and report information concerning credit
                     applications made by women-owned, minority-owned, and small
                     businesses. The provision serves, among other purposes, to facilitate the
                     enforcement of fair lending laws. CFPB expects to undertake action to
                     implement section 1071 in June 2013.

                     Industry officials and others have expressed concerns about section
                     1071. According to industry and regulatory officials, the reporting
                     requirements will increase the costs associated with small business
                     lending. Industry officials also have noted that the reporting requirements
                     could lead community banks and credit unions to develop standardized
                     criteria for their small business lending to avoid being criticized or
                     penalized by regulators for being discriminatory. They added that such
                     standardization could then result in less lending to small businesses.
                     Officials from 12 of the 16 state associations, community banks, and
                     credit unions we spoke with expect this provision to negatively affect their
                     institutions or member institutions, and four officials said it was too soon
                     to tell how this provision would affect their institutions.

                     We also asked officials from the 16 state associations, community banks,
                     and credit unions if they expected the Dodd-Frank Act generally to impact
                     the amount of small business lending conducted by their institutions.
                     Officials from 11 of these entities told us it was too soon to tell, although
                     two officials said the Dodd-Frank Act would have no impact. Officials from
                     three of the entities said that they expected the act to decrease their small
                     business lending. In our interviews, industry officials also said that the
                     Dodd-Frank Act provisions cumulatively could increase their compliance
                     and other costs and adversely affect their competitiveness in the small
                     business lending market.

                     We provided a draft of this report to CFPB, FDIC, the Federal Reserve,
Agency Comments      OCC, NCUA, SBA, and SEC for review and comment. CFPB and NCUA
and Our Evaluation   provided written comments that we have reprinted in appendices III and
                     IV. CFPB and NCUA generally agreed with our report. In addition, CFPB,
                     FDIC, OCC, and SEC staff provided technical comments, which we have
                     incorporated, as appropriate. The Federal Reserve and SBA did not
                     provide any comments.



                     Page 67     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
In its comment letter, CFPB generally agreed with the report’s analysis of
the role played by community banks and credit unions in the economy
and discussion of CFPB’s responsibilities in implementing Dodd-Frank
Act reforms. CFPB further elaborated on the status of its rule makings
related to mortgage reforms and efforts to seek input from small
businesses, community banks, and credit unions about the impacts and
potential alternatives for its rule-making initiatives.

Although generally agreeing with our report, NCUA commented on a
finding that we cited from a GAO report issued in January 2012. 141 NCUA
noted that it does not believe there is sufficient evidence to suggest that
member business loans pose a higher risk to credit unions or that a key
driver in credit union failures is commercial loans. In our prior report, our
analysis of NCUA’s and its Office of Inspector General’s data indicated
that member business loans contributed to 13 of the 85 credit union
failures from January 2008 to June 2011.

We are sending copies of this report to CFPB, CFTC, FDIC, the Federal
Reserve, NCUA, OCC, SBA, SEC, interested congressional committees,
members, and others. This report will also be available at no charge on
our website at http://www.gao.gov.

If you or your staff have any questions about this report, please contact
me at (202) 512-8678 or evansl@gao.gov. Contact points for our Offices
of Congressional Relations and Public Affairs may be found on the last
page of this report. Key contributors to this report are listed in appendix V.




Lawrance L. Evans, Jr.
Acting Director, Financial Markets and Community Investment




141
  See GAO-12-247.




Page 68     GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Appendix I: Scope and Methodology
             Appendix I: Scope and Methodology




             Our objectives in this report were to examine (1) significant changes that
             community banks and credit unions have undergone in the past decade,
             including the factors that have contributed to such changes, and (2) the
             Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-
             Frank Act) provisions that regulators, industry associations, and others
             expect to impact community banks and credit unions, including their small
             business lending. 1

             To address our first objective, we reviewed and analyzed studies by
             regulators, industry associations, and academics. We conducted
             searches of social science, economic, and federal research databases,
             including EconLit, Fed-in-Print, Google Scholar, and JSTOR, to identify
             relevant studies on community banks and credit unions, including their
             lending to small businesses. To help us identify relevant studies, we also
             relied on federal agencies, including the Board of Governors of the
             Federal Reserve System (Federal Reserve), Federal Deposit Insurance
             Corporation (FDIC), Office of the Comptroller of the Currency, National
             Credit Union Administration (NCUA), and Small Business Administration;
             state regulatory associations (the Conference of State Bank Supervisors
             and National Association of State Credit Union Supervisors); industry
             associations (the American Bankers Association, Credit Union National
             Association, Independent Community Bankers of America, National
             Association of Federal Credit Unions, National Federation of Independent
             Business, and Main Street Alliance); and academic or other experts. 2
             Although we found these studies to be sufficiently reliable for the
             purposes of our report, the results should not necessarily be considered
             as definitive, given the potential methodological or data limitations
             contained in the studies individually and collectively. Moreover, the
             studies investigating economies of scale and consolidation generally
             address the relationship in a manner that limits the ability to make
             definitive causal claims. In addition, we analyzed data from SNL


             1
              Although no commonly accepted definition of a community bank exists, the term often is
             associated with smaller banks (e.g., under $1 billion in assets) that provide relationship
             banking services to the local community, and have management and board members who
             reside in the local community. In this report, we generally define banks (insured depository
             institutions that are not credit unions) with under $10 billion in total assets as community
             banks. We also include in our analysis federally insured credit unions with under $10
             billion in total assets. We use under $10 billion in total assets as our criterion because the
             Dodd-Frank Act exempts small institutions from a number of its provisions based on that
             threshold.
             2
                 The Main Street Alliance is a national network of state-based small business coalitions.




             Page 69          GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Appendix I: Scope and Methodology




Financial, a private financial database that contains publicly filed and
financial reports, including Consolidated Reports on Condition and
Income (Call Reports) submitted to FDIC, Thrift Financial Reports
submitted to the Office of Thrift Supervision, and 5300 Call Reports (Call
Reports) submitted to NCUA. We used SNL Financial data to identify
changes in the total number, profitability, lending activities (including
small business lending), expenses, and other metrics of community banks
and credit unions from 2002 through 2011. As regulators do not collect
data specifically on small business lending, we created a proxy for small
business lending using Call Report data on commercial real estate and
commercial and industrial loans for under $1 million for community banks
and member business lending by credit unions. As a result, what we
characterize as small business lending also may include, to some degree,
small loans to larger businesses. We analyzed the data for different asset
classes of community banks (assets of $10 billion or more, $1 billion to
$10 billion, $250 million to $1 billion, $100 million to $250 million, and less
than $100 million) and credit unions (assets of $10 billion or more, $1
billion to $10 billion, $100 million to $1 billion, $20 million to $100 million,
$5 million to $20 million, and less than $5 million). We reviewed the SNL
Financial data and found the data to be sufficiently reliable for our
purposes, and we have relied on the data in our previous reports. We
also interviewed the federal agencies and associations identified above
and four academic and industry experts about trends in the community
bank and credit union sectors and their causes.

To address our second objective, we reviewed the Dodd-Frank Act and
related materials, including relevant congressional hearings; comment
letters on proposed rules; and studies or analysis prepared by federal and
state regulators, industry associations, law firms, and academics. To help
us identify the Dodd-Frank Act provisions applicable to community banks
and credit unions and assess their impact on such institutions, we
interviewed and obtained documentation, when available, from the federal
agencies, state regulatory associations, and industry associations
identified above, and the Bureau of Consumer Financial Protection.
Appendix II contains a table of the provisions identified collectively by
these groups. We also analyzed a number of the Dodd-Frank Act
provisions that regulators, industry officials, and others expect to impact
community banks and credit unions. We used Call Report and other data
compiled by SNL Financial to assess the extent to which community
banks and credit unions may be subject to or otherwise affected by
various Dodd-Frank Act provisions. We took steps to ensure consistency
in data analyses for the various provisions within this reporting section
and determined that any differences in data due to the date on which we


Page 70      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Appendix I: Scope and Methodology




downloaded them from SNL Financial did not have a material impact on
our analysis. 3 Our review of the SNL Financial data also found the data to
be sufficiently reliable for making judgments about the institutions likely
impacted. To obtain further insights into the expected impact of the Dodd-
Frank Act, we conducted semistructured interviews with a sample of four
state associations and a sample of 12 community banks and credit
unions. We interviewed two state banking associations and two credit
union associations from Georgia, Illinois, Minnesota, and Pennsylvania,
based on the number and uniformity of community banks and credit
unions within the states. We randomly selected and interviewed eight
community banks and four credit unions from California, Florida,
Massachusetts, Michigan, Ohio, Oklahoma, South Dakota, Texas,
Virginia, and Wisconsin. For selected associations and institutions that
were unavailable to participate, we substituted other similar institutions. In
conducting our interviews, we first sent structured questions by e-mail
and then followed up with in-depth telephone interviews. These interviews
were conducted, in part, to confirm whether the state-level bank and
credit union associations and individual community banks and credit
unions generally considered the same Dodd-Frank Act provisions
identified by regulators, industry associations, and others as potentially
impacting their institutions (or member institutions). These interviews also
provided further insights on the expected impact of the Dodd-Frank Act,
but their responses are not generalizable to the population of community
banks and credit unions.

We conducted this performance audit between February and September
2012, in accordance with generally accepted government auditing
standards. Those standards require that we plan and perform the audit to
obtain sufficient, appropriate evidence to provide a reasonable basis for
our findings and conclusions based on our audit objectives. We believe
that the evidence obtained provides a reasonable basis for our findings
and conclusions based on our audit objectives.




3
 As SNL Financial data are updated continually, data downloaded on different dates may
differ.




Page 71      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Appendix II: Provisions of the Dodd-Frank Act
                Appendix II: Provisions of the Dodd-Frank Act
                Expected by Federal Regulators, State
                Regulatory Associations, and Industry
Expected by Federal Regulators, State Regulatory
                Associations to Impact Community Banks and
                Credit Unions

Associations, and Industry Associations to Impact
Community Banks and Credit Unions
                The following table lists the Dodd-Frank Act provisions that are expected
                to impact some or all community banks and credit unions. These
                provisions were identified primarily based on information we collected
                from federal regulators, state regulatory associations, and industry
                associations. 1 Industry officials also told us that it is difficult to identify all
                of the provisions that may impact small institutions because such
                outcomes may depend on how agencies implement certain provisions
                through their rules, and many rules have not been finalized. For the same
                reason, regulators and industry officials also have noted that enough time
                has not passed to assess the full impact of the Dodd-Frank Act on
                community banks and credit unions. In particular, the table identifies
                provisions that are expected to impact community banks and credit
                unions or a subset of these institutions. The table also includes provisions
                with explicit exemptions for community banks and credit unions or that
                provide regulators with the authority to exempt certain entities or financial
                products from a provision.

                As discussed in the report, some provisions or exemptions in the act are
                expected to have an indirect impact on community banks and credit
                unions. For example, section 1024 is expected to have an indirect impact
                on community banks and credit unions because it authorizes the Bureau
                of Consumer Financial Protection (CFPB) to supervise nonbank financial
                institutions. Before the Dodd-Frank Act, nonbank financial institutions
                generally were not subject to supervision at the federal level with respect
                to the federal consumer financial laws, and CFPB’s supervision is
                expected to help level the playing field between these institutions and
                regulated institutions, such as community banks and credit unions.




                1
                 For some titles, we identified subtitles that included a number of sections that were
                expected to impact community banks and credit unions, but did not necessarily include
                every section within that subtitle in the table.




                Page 72       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                                             Appendix II: Provisions of the Dodd-Frank Act
                                             Expected by Federal Regulators, State
                                             Regulatory Associations, and Industry
                                             Associations to Impact Community Banks and
                                             Credit Unions




Table 6: Dodd-Frank Act Provisions Expected by Federal Regulators, State Regulatory Associations, and Industry
Associations to Impact Community Banks and Credit Unions

Title and subtitle                Provisions expected to impact community banks and credit unions
Title I—Financial Stability
Subtitle C—Additional Board of    Section 165, Enhanced supervision and prudential standards for nonbank financial companies
Governors Authority for Certain   supervised by the Board of Governors of the Federal Reserve System (Federal Reserve) and
Nonbank Financial                 certain bank holding companies. Section 165(h)(2)(B) permits the Federal Reserve to require
Companies and Bank Holding        publicly traded bank holding companies with less than $10 billion in assets to establish a risk
Companies                         committee.
                                  Section 171, Leverage and risk-based capital requirements. This section requires federal banking
                                  agencies to establish minimum leverage and risk-based capital requirements on a consolidated
                                  basis for insured depository institutions, depository institution holding companies, and systemically
                                  important nonbanks. Section 171(b)(4)(C) exempts from capital deductions otherwise required by
                                  this section debt or equity instruments issued before May 19, 2010, by bank holding companies with
                                  less than $15 billion in assets and mutual holding companies. Moreover, section 171(b)(5)(C)
                                  exempts from section 171 bank holding companies subject to the Federal Reserve’s Small Bank
                                  Holding Company Policy Statement in effect on May 19, 2010.
Title II—Orderly Liquidation Authority
Title III—Transfer of Powers to the Comptroller of the Currency, the Corporation, and Board of Governors
Subtitle A—Transfer of Powers     Subtitle A of Title III abolishes the Office of Thrift Supervision and provides for the transfer of its
and Duties                        functions and authorities to the Office of the Comptroller of the Currency (OCC), Federal Deposit
                                  Insurance Corporation (FDIC), and Federal Reserve.
Subtitle C—Federal Deposit        Subtitle C of Title III contains provisions that make changes to the federal deposit insurance regime,
Insurance Corporation             including (1) redefining the assessment base against which deposit insurance premiums are
                                  calculated (section 331) and increasing the standard maximum deposit and share insurance amount
                                  from $100,000 to $250,000 (section 335).
                                  Section 334, Transition reserve ratio requirements to reflect new assessment base. This provision
                                  exempts banks with less than $10 billion in assets from the increase in the minimum reserve ratio.
Subtitle D—Other Matters          Section 341, Branching. Section 341 permits any thrift that converts to a bank charter to continue to
                                  operate branches and agency offices in existence prior to the charter conversion.
                                  Section 343, Insurance of transaction accounts. Section 343 provided temporary unlimited deposit
                                  and share insurance coverage for non-interest-bearing transaction accounts from December 31,
                                  2010, through December 31, 2012.
Title IV—Regulation of Advisers to Hedge Funds and Others
Title V—Insurance
Title VI—Improvements to Regulation of Bank and Savings Association Holding Companies and Depository Institutions
                                  Section 613, De novo branching into states. Section 613 expands the de novo interstate branching
                                  authority of national and state banks by eliminating the requirement that a state expressly opt-in to
                                  de novo branching.
                                  Section 619, Prohibitions on proprietary trading and certain relationships with hedge funds and
                                  private equity funds. This section prohibits banking entities from engaging in proprietary trading and
                                  private fund management activities, subject to certain exemptions.
                                  Section 627 Interest-bearing transaction accounts authorized. This section eliminates the prohibition
                                  against the payment of interest on demand deposits (e.g., commercial checking accounts).




                                             Page 73        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                                             Appendix II: Provisions of the Dodd-Frank Act
                                             Expected by Federal Regulators, State
                                             Regulatory Associations, and Industry
                                             Associations to Impact Community Banks and
                                             Credit Unions




Title and subtitle                Provisions expected to impact community banks and credit unions
Title VII—Wall Street Transparency and Accountability
                                  Title VII contains provisions that authorize Commodity Futures Trading Commission (CFTC) and
                                  Securities and Exchange Commission (SEC) to regulate the OTC derivative markets and subject
                                  various market participants to capital, margin, business conduct, and other requirements.
Subtitle A—Regulation of Over-    Section 721, Definitions. Section 721 amends the Commodity Exchange Act to require CFTC to
the-Counter Swaps Markets         exempt an entity that engages in de minimis derivatives from the swap dealer definition.
                                  Section 723, Clearing. This section provides CFTC with the authority to exempt from the mandatory
                                  clearing requirement community banks and credit unions with less than $10 billion in assets.
                                  Section 737, Position limits. This section provides CFTC with the discretionary authority to exempt
                                  community banks or credit unions, among other entities and transactions, from the position limits.
Subtitle B—Regulation of          Section 761, Definitions under the Securities Exchange Act of 1934. Section 761 amends the 1934
Security-Based Swap Markets       act to require SEC to exempt an entity that engages in de minimis quantity of security-based swap
                                  dealing from the swap dealer definition.
                                  Section 763, Amendments to the Securities Exchange Act of 1934. This section amends the 1934
                                  act to authorize SEC to exempt from the mandatory clearing requirement community banks and
                                  credit unions with less than $10 billion in assets. The amendment also provides SEC with the
                                  discretionary authority to exempt entities from position limits.
Title VIII—Payment, Clearing, and Settlement Supervisor
Title IX—Investor Protections and Improvements to the Regulation of Securities
Subtitle C—Improvements to        Section 939A, Review of reliance on ratings. Section 939A requires federal banking and other
the Regulation of Credit Rating   agencies to review their regulations requiring the use of credit ratings with a goal of modifying those
Agencies                          regulations by substituting for such use the standard of creditworthiness they deem appropriate.
Subtitle D—Improvements to      Subtitle D of Title IX contains provisions that require federal agencies to jointly issue rules requiring
the Asset-Backed Securitization a securitizer of an asset-backed security (other than a residential mortgage-backed security) to
Process                         retain at least 5 percent of the credit risk in any asset that the securitizer, through the issuance of an
                                asset-backed security, transfers, sells, or conveys to a third party.
                                  Section 941, Regulation of credit risk retention. This section includes language providing regulators
                                  with the discretionary authority to exempt entities from the risk retention requirements.
Subtitle E—Accountability and     Subtitle E of Title XI contains provisions that require additional executive compensation-related
Executive Compensation            disclosures by public companies, including requiring such companies to hold a non-binding vote to
                                  approve the compensation of certain executives (Section 951).
                                  Section 956, Enhanced compensation structure reporting. This section requires financial institutions
                                  to report incentive compensation to their regulator and prohibits incentive compensation that is
                                  “excessive” or “could lead to material financial loss” at an institution. Financial institutions with less
                                  than $1 billion in assets are exempted from this provision.
Subtitle G—Strengthening          Section 971, Proxy access. Subsection 971(c) provides SEC with the authority to exempt certain
Corporate Governance              issuers from the proxy access requirement.
Subtitle H—Municipal Securities Section 975, Regulation of municipal securities and changes to the board of the Municipal Securities
                                Rulemaking Board. Section 975 amends section 15B of the Securities Exchange Act, 15 U.S.C. §
                                78o-4, to require municipal advisors, who were largely unregulated, to register with SEC like other
                                financial advisors.
Subtitle I—Public Company         Section 989G, Exemption for nonaccelerated filers. Section 989G exempts smaller issuers from
Accounting Oversight Board,       section 404(b) of the Sarbanes-Oxley Act, 15 U.S.C. § 7262(b).
Portfolio Margining, and Other
Matters




                                             Page 74        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                                          Appendix II: Provisions of the Dodd-Frank Act
                                          Expected by Federal Regulators, State
                                          Regulatory Associations, and Industry
                                          Associations to Impact Community Banks and
                                          Credit Unions




Title and subtitle              Provisions expected to impact community banks and credit unions
Title X—Bureau of Consumer Financial Protection
Subtitle A—Bureau of            Subtitle A of Title X contains provisions that create CFPB to regulate financial products or services
Consumer Financial Protection   provided by insured depository institutions, finance companies, mortgage lenders, and a broad
                                range of nontraditional financial services entities, and provides CFPB with the authority to prevent
                                covered institutions from engaging in unfair, deceptive, or abusive acts or practices in the provision
                                of consumer financial products and services.
Subtitle B—General Powers of    Subtitle B of Title X contains provisions that provide CFPB the authority to prescribe rules and issue
the Bureau                      orders and guidance, as may be necessary or appropriate to enable the Bureau to administer
                                federal consumer financial laws.
                                Section 1022, Rule-making authority. Section 1022(b)(3) grants CFPB broad authority to exempt
                                entities from the provisions of Title X or any rule under Title X. This could include community banks
                                and credit unions.
                                Section 1024, Supervision of nondepository covered persons. Provides CFPB with supervisory and
                                enforcement authority for federal consumer financial protection laws for certain nonbank institutions
                                such as nonbank institutions that provide origination, brokerage, or servicing of residential real
                                estate loans.
                                Section 1025. Supervision of very large banks, savings associations, and credit unions. This
                                provision generally excludes banks and credit unions with $10 billion or less in assets (other than
                                affiliates of large banks) from CFPB supervision.
                                Section 1026, Other banks, savings associations, and credit unions. This section provides CFPB
                                with certain authority over small banks and credit unions with less than $10 billion in assets. This
                                authority allows CFPB to require reports, as necessary, from small banks and credit unions and
                                CFPB, at its discretion, may include its examiners on a sampling basis in small banks and credit
                                union examinations conducted by their prudential regulator.
Subtitle C—Specific Bureau      Subtitle C of Title X contains sections that provide CFPB with the authority to prescribe rules
Authorities                     identifying as unlawful, unfair, deceptive, or abusive acts or practices for a consumer financial
                                product or service and to ensure that the features of any consumer financial product or service are
                                fully, accurately, and effectively disclosed to consumers. In addition, it requires the CFPB to
                                establish reasonable procedures to provide a timely response to consumers to complaints against
                                or inquiries concerning a financial institution.
                                Section 1032, Disclosures. This section includes a provision (section 1032(f)) that requires CFPB to
                                combine disclosures required under the Truth in Lending Act (TILA) and sections 4 and 5 of the
                                Real Estate Settlement Procedures Act of 1974 into a single disclosure.
Subtitle G—Regulatory           Section 1071 Small business loan data collection. This section requires that lenders collect and
Improvements                    report to CFPB certain women-owned, minority-owned, and small business loan data. In addition,
                                this provision provides CFPB with the discretionary authority to exempt any financial institution from
                                the data collection and reporting requirements.
                                Section 1073 Remittance transfers. This section requires disclosures to consumers that send money
                                remittance transfers in accordance with rules to be prescribed by CFPB.
                                Section 1075 Reasonable fees and rules for payment card transactions. This section requires the
                                Federal Reserve to prescribe regulations regarding any interchange transaction fee that an issuer
                                may receive or charge for an electronic debit transaction. This provision includes an exemption for
                                institutions with less than $10 billion in assets from the cap on debit card interchange fees.
Subtitle H—Conforming           Section 1094 Amendments to the Home Mortgage Disclosure Act of 1975 (HMDA). This section
Amendments                      amends HMDA to expand the scope of information relating to mortgage loans to add a number of
                                new data elements.




                                          Page 75        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                                            Appendix II: Provisions of the Dodd-Frank Act
                                            Expected by Federal Regulators, State
                                            Regulatory Associations, and Industry
                                            Associations to Impact Community Banks and
                                            Credit Unions




Title and subtitle                Provisions expected to impact community banks and credit unions
                                  Section 1098 Amendments to the Real Estate Settlement Procedures Act of 1974. This section
                                  requires CFPB to issue rules that combine two different mortgage loan disclosures, one required by
                                  the TILA and the other by the Real Estate Settlement Act.
Title XI—Federal Reserve System Provisions
Title XII—Improving Access to Mainstream Financial Institutions
Title XIII—Pay it Back Act
Title XIV—Mortgage Reform and Anti-Predatory Lending Act
Subtitle A—Residential            Subtitle A of Title XIV contains provisions that establish certain origination standards to be applied
Mortgage Loan Origination         by lenders in the underwriting of residential mortgage loans, including registration and licensing
Standards                         requirements for mortgage originators and a prohibition on steering and certain mortgage originator
                                  compensation.
                                  Section 1405. Regulations. CFPB may, by rule, exempt from or modify disclosure requirements, in
                                  whole or in part, for any class of residential mortgage loans for which it determines that such
                                  exemption or modification is in the interest of consumers and in the public interest.
Subtitle B—Minimum Standards Subtitle B of Title XIV contains provisions that establish minimum standards for mortgage loans.
For Mortgages
                                  Section 1411, Ability to Repay. This section amends the TILA to provide that no creditor may make
                                  a residential mortgage loan unless the creditor makes a reasonable and good faith determination
                                  based on verified and documented information that the consumer has the reasonable ability to
                                  repay the loan at the time the loan is consummated.
                                  Section 1412, Safe Harbor and Rebuttable Presumption. This section provides the “qualified
                                  mortgage” criteria under which a creditor or assignee may presume the ability-to-repay requirements
                                  have been met. It also provides regulators with the authority to consider certain loans as qualified
                                  mortgages as long as they meet certain criteria, including balloon loans being extended by a lender
                                  that operates in a predominantly rural or underserved area.
                                  Section 1422, State attorney general enforcement authority. This section provides state attorneys
                                  general with increased enforcement authority for certain provisions of TILA including steering
                                  prohibitions; ability to repay; minimum standards for residential mortgage loans; appraisal
                                  independence; prompt crediting of mortgage payments; requests for payoff amounts; and property
                                  appraisal requirements.
Subtitle C—High-Cost              Subtitle C of Title XIV contains provisions that expand the definition of high-cost mortgage, enhance
Mortgages                         existing protections regarding prepayment penalties and balloon payments, and prohibit certain
                                  practices.
Subtitle E—Mortgage Servicing     Subtitle E of Title XIV contains provisions that require the establishment of escrow or impound
                                  accounts for the payment of taxes and insurance in connection with certain first lien mortgage loans.
                                  Section 1461, Escrow and impound accounts relating to certain consumer credit transactions. This
                                  section includes a provision authorizing CFPB to exempt from the escrow requirements entities that
                                  operate in predominantly rural or underserved areas; have total annual mortgage loan originations
                                  that do not exceed a certain limit; retain their mortgage loan originations in portfolio; or meet any
                                  asset-size threshold and any other criteria established by CFPB.
                                  Section 1462, Disclosure notice for consumers who waive escrow services. This section amends
                                  TILA to add a requirement that creditors provide specified disclosures to consumers who waive
                                  escrow services.
Subtitle F—Appraisal Activities   Subtitle F of Title XIV contains provisions regarding appraisals in connection with residential
                                  mortgage loans.




                                            Page 76        GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
                                        Appendix II: Provisions of the Dodd-Frank Act
                                        Expected by Federal Regulators, State
                                        Regulatory Associations, and Industry
                                        Associations to Impact Community Banks and
                                        Credit Unions




Title and subtitle           Provisions expected to impact community banks and credit unions
                             Section 1471, Property appraisal requirements. This section provides regulators with discretionary
                             authority to exempt, by rule, a class of loans from the appraisal requirements in this section if they
                             determine that the exemption is in the public interest and promotes the safety and soundness of
                             creditors.
                             Section 1472, Appraisal Independence Requirements. This section amends TILA by adding
                             appraisal independence requirements. These requirements include, among other things, a
                             description of acts or practices that violate appraisal independence, a list of actions that an
                             appraiser can take at the request of an interested party but do not violate independence, and
                             mandatory reporting of appraisers that do not comply with Uniform Standards of Professional
                             Appraisal Practice to state appraiser certifying and licensing agencies.
Title XV—Miscellaneous Provisions
Title XVI—Section 1256 Contracts
                                        Source: GAO analysis of information collected from federal regulators (the Federal Deposit Insurance Corporation, the Federal
                                        Reserve, National Credit Union Administration, Office of the Comptroller of the Currency, and the Bureau of Consumer Financial
                                        Protection); state regulatory associations (Conference of State Bank Supervisors and National Association of State Credit Union
                                        Supervisors); and industry associations, including the American Bankers Association, Independent Community Bankers of America,
                                        Credit Union National Association, and National Association of Federal Credit Unions.




                                        Page 77             GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Appendix III: Comments from the Bureau of
              Appendix III: Comments from the Bureau of
              Consumer Financial Protection



Consumer Financial Protection




              Page 78      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Appendix III: Comments from the Bureau of
Consumer Financial Protection




Page 79      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Appendix III: Comments from the Bureau of
Consumer Financial Protection




Page 80      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Appendix IV: Comments from the National
         Appendix IV: Comments from the National Credit Union
         Administration



Credit Union Administration




                      Page 81       GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
Appendix V: GAO Contacts and Staff
                  Appendix V: GAO Contacts and Staff
                  Acknowledgments



Acknowledgments

                  Lawrance L. Evans, Jr. (202) 512-8678 or evansl@gao.gov
GAO Contact
                  In addition to the contact named above, Richard Tsuhara (Assistant
Staff             Director), Allison Abrams, Jeremy Conley, Stuart Kaufman, Colleen
Acknowledgments   Moffatt, Patricia Moye, Jennifer Schwartz, Seyda Wentworth, and Henry
                  Wray made key contributions to this report.




(250664)
                  Page 82      GAO-12-881 Impact of Dodd-Frank Act on Community Banks and Credit Unions
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