PLAN Spotlight: FDIC D&O Litigation

PLAN Spotlight: FDIC D&O Litigation

PLAN Spotlight: FDIC D&O Litigation

Since January 1, 2012, 40 United States banks have failed and taken into receivership by the FDIC.   This is almost double the combined number of banks that failed in the five-year period between 2000 and 2005.  A serious result of the financial crisis, bank failures rose sharply between 2007 and 2010.

Spotlight on FDIC Litigation-1Geographically, Georgia has been hit the hardest by the bank failures with 84 failed institutions since 2008. California, Illinois and Florida are not far behind with 40 or more failed banks.

D/O Litigation: Present and Future
When these institutions fail and go into FDIC receivership – when are directors and officers held liable?  What can we expect going forward?

As of August 17 of this year, the FDIC reports that 32 suits were pending against 266 former directors and officers of failed financial institutions. Since 2009, the FDIC Board of Directors has authorized suits against 617 individual defendants from 73 failed financial institutions.   The number of suits authorized by the FDIC Board rose sharply in 2011 and is expected in increase again in 2012, with 244 suits already authorized as of Mid-August. The FDIC has three years after a bank goes into receivership to file professional liability claims, notwithstanding state statutes of limitation. 12 U.S.C. 1821(d)(14). Cornerstone Research reports that the average time the FDIC takes to file a lawsuit is 2.3 years, which includes investigation, review and settlement negotiations.  Abe Chernin Et Al., Cornerstone Research, Characteristics of FDIC Lawsuits Against Directors and Officers of Failed Financial Institutions 3 (2012).

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What Can We Expect From the Future?

While there has been much speculation about FDIC failed bank litigation, it is inevitable that many more suits will be authorized and filed.   This summer was slower than many expected with June ad July only resulting in 27 authorizations.  However, the Board had already authorized 41 suits as of August 18.
The FDIC itself reports that 24% of failed financial institutions resulted in professional liability suits following the wave of bank failures in the late 80s and early 90s. If this wave follows suit, 108 of these 492 failed banks will result in litigation.  

Faced with Litigation: Important Considerations

Negligence Standard
The Financial Institutions Reform, Recovery & Enforcement Act of 1989 establishes gross negligence as the minimum standard for failed financial institution’s directors and officers. 12 U.S.C. §1821 (k)(2006).  However, the Supreme Court held in Atherton v. FDIC, 519 U.S. 213 (1997) that the FDIC can pursue stricter standards such as ordinary negligence if state law allows.  
The most recent case of this nature determined that Florida law does not allow claims of ordinary negligence for corporate directors. FDIC v. Price, 2:12-cv-148 (M.D. Fl. Aug. 8, 2012).

Business Judgment Rule
Many states allow the business judgment rule to protect corporate directors and officers from business decisions that go badly by presuming they are acting in good faith and with the necessary prudence to fulfill duties to the corporation.  Corporate directors and officers, therefore, often use the business judgment rule as a defense to litigation regarding breaches of fiduciary duties.  

Earlier this year, a Georgia court determined that the business judgment rule precluded liability based on an ordinary negligence standard for corporate officers and directors.  FDIC v. Skow, 1:110-cv-00111 (N.D. Ga. Feb. 27, 2012).  Late last fall an Illinois court refused to reach the merits in a similar argument on a motion to dismiss, stating that the business judgment rule, as an affirmative defense, was not properly raised on a motion under FRCP 12(b)(6). FDIC v. Saphir (N.D. Ill. September 2011). A California court determined that the business judgment rule is exclusive to corporate directors and is not available to corporate officers.  FDIC v. Perry, CV 11-5561 (C.D. Cal. Dec. 13 2011).

Document Retention
The FDIC issued a Financial Institution Letter, FIL-14-2012, on March 19 that states “financial institution records belong exclusively to the financial institution” and that “the FDIC as receiver has the unrestricted and sole right to possess and use the books, records, and assets of a failed financial institution.”  The FIL also states that the institution’s officers and directors have no right to copy or take any records for personal use in anticipation of litigation.  The bottom line is that the FDIC has and will pursue suits against those that take documents in anticipation of litigation.  So far, three cases have dealt with document retention—all of which were settled our of court. (FDIC v. Bryan Cave, LLP (N.D. Ga.); McKenna Long & Aldridge LLP v. FDIC, 10-cv-3779 (N.D. Ga.); FDIC v. Liberty Financial Group, 2012cv06280 (D. Or.).

FDIC D/O Litigation—The Basics

The FDIC, in a policy statement entitled Statement Concerning the Responsibilities of Bank Directors and Officers, states outright that “[t]he FDIC will not bring civil suits against directors and officers who fulfill their responsibilities, including the duties of loyalty and care, and who make reasonable business judgments on a fully informed basis after proper deliberation.”  That being said, there are three principle categories of suits of this nature:

  1. Dishonest conduct or approved/condoned abusive transactions with insiders
  2. Responsibility for failure of institution to adhere to applicable laws, regulations, internal policies, supervisory agreements or other safety or soundness violations
  3. Failure to establish or monitor adherence to proper underwriting policies or knowledge or reason to know of improper underwriting policies

Most former directors and officers are alleged to have committed some form of negligence or breached a fiduciary duty owed to the failed financial institution.
The FDIC has three years after a bank goes into receivership to file professional liability claims, notwithstanding state statutes of limitation. 12 U.S.C. 1821(d)(14).  However, the FDIC can revive a claim based on fraud or intentional misconduct when a statute of limitation has tolled. Id.

The majority of the currently pending FDIC cases are in federal district courts in Georgia, Illinois and California.  Even though Florida has over 60 failed banks, only one suit has been filed—on March 13, 2012 in the Middle District of Florida.  See FDIC as Receiver for the Florida Community Bank v. Price, Case No. 2:12-cv-00148 (M.D. Fla March 13, 2012).

Before litigating anything, the FDIC performs a “rigorous review” of the circumstances.  Following this investigation, the FDIC Board of Directors will authorize the lawsuit. This is where directors and officers have the chance to respond to proposed charges and settle.  If settlement can’t be reached and the lawsuit is “cost-effective”, the FDIC will file suit.

PLAN continues to monitor FDIC D/O litigation and will report as further development arise.  For more resources on this topic and others, visit our website.