Addressing the implications of non-EEA national depositor preference regimes in the UK

In certain non-EEA countries, if a firm becomes insolvent, the claims of depositors in the home country will be preferred above the claims of depositors outside the home country, including the depositors of the UK branch.   The UK's FSA is now consulting on proposals which will very significantly impact deposit-taking firms from non-EEA countries that operate national depositor preference regimes.  

These firms will be required either:

• to accept deposits in the UK using a UK-incorporated subsidiary; or
• to implement an alternative arrangement that ensures UK depositors are no worse off than the depositors in the home country if the firm fails – whether this is an available option depends on how the national depositor preference legislation is written in their home country.   Amongst possible alternative measures, the FSA has considered:
  • Dual payability – Where permitted under their home country national depositor preference statute firms could ensure that their UK branch deposits are repayable in the home country as well as the UK and therefore UK branch deposits become payable in dual locations and should be able to participate in the preference given to home country depositors.
  • Ring-fencing assets – Firms could ring-fence assets of the UK branch to meet its deposit liabilities, for example, under a trust arrangement that specifies the UK branch depositors as beneficiaries.

Firms will be required to explain to their FSA supervisors how the chosen measure would operate under the national depositor preference legislation in their home country. Firms will also have to provide a legal opinion on how the measure they are proposing would eliminate the subordination of UK branch depositors (and if a ring-fencing approach is selected, the firm will need to be able to demonstrate that the assets will remain outside the firm’s estate in liquidation; the beneficiaries will be the UK branch depositors (monitoring strategy will be required).

FSA intends to have its new rules in place by January 2013.  There would then be a two-year transition period to enable firms to put in place the necessary arrangements to comply with the new requirements.

During the transitional period, firms would be required to make disclosures to customers that would explain how their home state national deposit scheme works and highlight that if the firm fails, the claims of UK branch depositors would be subordinated to the claims of home country depositor.  The information provided will need to be clear, and succinct, without technical or legal jargon – making clear what will happen to deposits placed in the UK branch if the firm fails.  Firms will have to discuss the text of their disclosures with their FSA supervisors before sending it to their customers.

All firms will be required to include information on their national depositor preference regimes in all contracts with new deposit customers (irrespective of their retail, corporate or other status).  Contracts governing the deposits of existing customers would have to be replaced with new contracts, which would need to be accompanied by an explanation of the purpose of the communication and draw attention to the information being disclosed.  Even firms that are already disclosing this information will still be expected to reinforce the communication by writing again (so that customers don't wonder why they are hearing from one bank but not another).  Firms will also have to put this information on their websites.

Interestingly, the results of cost surveys undertaken by the FSA indicated that the dual payability measure would be the choice for US firms, but that firms from other non-EEA countries would be likely to choose a deposit-taking subsidiary in the UK. 

• The total incremental costs for US banks adopting the dual payability measure is estimated to be in the region of £550 to £1120 million annually, with a £10 to £15 million one-off cost for implementation. Increased opportunity costs from deposit reserve requirements set by the Federal Reserve and the cost of deposit insurance provided by Federal Deposit Insurance Corporation (FDIC) account for most of the ongoing costs.
•  The on-going costs for using a UK based deposit taking subsidiary are estimated at £100-270 million with a one-off implementation cost of £160 million. 
• The incremental one-off costs of disclosing information about national depositor preference regimes to customers are estimated at approximately £10,000 per firm, so a total cost for all firms likely to be within scope is £230,000.

Responses to the consultation are sought by 11 December 2012.   Firms will be expected to meet the new rules from January 2015.

Of course, there is some irony in the fact that during the financial crisis, it was in respect of an EEA institution that the UK took dramatic action.  In October 2008, the UK notoriously used its powers under the Anti-Terrorism, Crime and Security Act 2001 effectively to help protect deposits made by U.K. residents in Landsbanki Islands hf's internet bank, Icesave, by passing the Landsbanki Freezing Order 2008, due to its concern that action to the detriment of the UK economy had been taken, or was likely to be taken, in relation to the nationalisation of Landsbanki.  

A proposal to amend the European Directive on Deposit Guarantee Schemes is in fact in train.  The European Parliament passed a legislative resolution on 16 February 2012 on the proposal to recast the Directive on Deposit Guarantee Schemes, and the proposal awaits Council 1st reading position and budgetary conciliation convocation.  However, the Commission has not accepted all the amendments adopted by Parliament, so it seems unlikely that the proposed changes will be implemented within the EEA very much in advance of the FSA's rules for non-EEA firms.