FDIC Sues Directors of Heritage Community Bank

On November 1, 2010, the FDIC sued the directors of Heritage Community Bank for $20 million. The bank was closed in 2009.

AABD is opposed to suits filed against directors where the actions taken by the directors were in good faith. A special report on this case will be posted on the site shortly. AABD makes the following observations on the FDIC suit against directors of Heritage Community:

• The suit is reminiscent of lawsuits filed by the RTC against directors of failed savings institutions 20 or more years ago by not distinguishing between board members and lending officers in the role of approving loans. In its seminal study on RTC lawsuits during that period, AABD concluded that the RTC complaints placed outside board members in the shoes of loan officers when the board members approved loans recommended by management. But those suits and perhaps this one ignore a fundamental corporate law rule that exists in most (if not all) states: that directors are entitled to rely reasonably on officers and others in making decisions, including approving loans. Back then, the RTC alleged, for example, that the board was responsible for a defect on page 4 of an appraisal report. AABD fears that the FDIC may be repeating some of the mistakes that RTC made.
• The suit alleges simple negligence as a ground for personal liability, but does not explain whether Illinois supports that ground. The national standard is gross negligence unless a particular state has a simple negligence standard. In Stamp v. Touche Ross, 636 N.E. 2d 616(1993), the court ruled under Illinois law that “[A]bsent allegations of ‘bad faith, fraud, illegality or gross overreaching, courts are not at liberty to interfere with the exercise of business judgment by corporate directors.”
• The complaint has an element of Monday morning quarterbacking in that it asserts repeatedly that the board and management pushed the Bank into CRE lending at a time (December 2006) when they were aware of the existence of a real estate “bubble”, and based their lending on the “unsupportable” assumption that real estate values would rise or remain stable. This suggests that bank boards should curtail or stop real estate lending if they cannot prove that real estate values will rise or remain stable. Chairman Bernanke and President Obama may not be pleased to hear that the FDIC is suggesting that bank boards of directors risk personal liability by permitting their banks to make loans when they cannot predict with certainty that the economy or real estate values will fare well or better.