Bank Regulatory Discretion Off the Rails – the Supreme Court Calcutt Decision
Congress intentionally granted the federal banking agencies broad discretion to interpret and apply laws authorizing them to take enforcement actions against banks and their institution-affiliated parties (IAPs), some draconian. But such discretion is not unlimited.
Recent congressional hearings suggest that in the case of Silicon Valley Bank, Signature Bank, and First Republic Bank, the agencies did not take appropriate supervisory or enforcement action soon enough. But there is also the other side of the coin: when do the agencies use enforcement actions too much (as they did during the Great Recession) or choose an enforcement action that is too harsh, and how often do they stretch the meaning of undefined terms in the statutes such as “unsafe or unsound,” “breach of fiduciary duty,” and “by reason of”? Where is the line drawn?
Harry C. Calcutt, III v. FDIC illustrates the FDIC’s overreach and helps to define where the line should be drawn.
As reported in earlier AABD alerts (April 19, 2021, August 8, 2022, and May 2, 2023), the FDIC has tried for 11 years to remove Harry Calcutt, III from his position as Chairman of a community bank and ban him from banking for life. To do so, it employed “creative” means such as stretching the meaning of statutory terms, accepting the findings of a biased bank examination, and ignoring requirements to connect the alleged misconduct with either harm to the bank or a personal benefit. It also had the support of an administrative law judge who barred Calcutt’s counsel from cross-examining bank examiners for bias.
The Supreme Court identified errors that the FDIC made that required the Supreme Court to strike down the FDIC removal order and return the matter for further FDIC deliberation.
One of the statutory requirements to remove and ban a bank director or officer is for the agency to prove that the individual caused abnormal risk of loss or harm to the bank by reason of their misconduct.
As part of an effort to work out a troubled series of related credits during the Great Recession, Calcutt and his bank extended additional credit to a borrower.
Normally, the agencies provide leeway for a bank board and management to exercise their reasonable business judgment on whether to lend more funds or initiate collection efforts. The new loan resulted in a charge-off of $30,000; in the interim, the bank netted more than $1 million in payments from the borrower on related credits. Ultimately, the earlier loans resulted in a loss of $6.4 million. The FDIC’s case largely relied on attributing the loss of $6.4 million to Calcutt’s purported misconduct relating only to the new loan.
The FDIC measured the loss he supposedly caused to include legal and other professional fees associated with the loan and the ensuing FDIC investigation. The FDIC’s order made no effort to substantiate that Calcutt’s misconduct proximately caused the losses, a statutory requirement.
Other evidence in the record but not cited in the Supreme Court decision included the case manager of the bank examination on which the FDIC largely based its removal action exhibiting bias, including extensive ex parte communications with the borrower, personal animosity expressed in emails, and efforts to entrap Calcutt during the examination without advising him that he was under investigation. Another FDIC examiner testified that the case manager’s actions were “shocking.”
The FDIC either knew or should have known, before initiating the removal action, that the bank examination was biased and involved purported misconduct by the case manager and yet it pursued the case. It knew or should have known that the facts did not support a credible argument that Calcutt caused the $6.4 million loss incurred on the earlier loans. It should have known that the removal statute requires a showing that the misconduct of the target was a proximate cause of the abnormal risk of loss or harm and that a $30,000 charge-off would not have been an abnormal risk of loss or harm.
This removal action could serve as a case study for Congress to understand how the federal banking agencies sometimes utilize their discretionary authority inappropriately.
Before the Senate votes on S. 2190, it should consider conducting oversight hearings that delve not just into when the agencies might not take sufficient supervisory or enforcement action (such as, arguably, in the case of SVB, Signature, and First Republic) but also when they take unnecessary and burdensome enforcement actions that can violate the constitutional due process rights of banks and their directors and officers and ultimately discourage qualified people from serving in these important roles.