Against the background of an important meeting Tuesday on the fate of financial modernization legislation in the Senate, a newly-released Federal Reserve Board memo seems to confirm that CRA issues will continue to hamstring efforts to pass legislation this year.

In an analysis requested by Sen. Phil Gramm, R-Texas, the Fed said that the version of the legislation passed by the House Banking Committee last month "significantly expands" CRA mandates beyond current law. The analysis, disclosed in a letter to Gramm signed by Fed chairman Alan Greenspan, said CRA mandates are expanded in "three principal ways." For example, the analysis showed, banks seeking to engage in the securities or insurance businesses would have to satisfy CRA mandates as a "pre-condition" for entering the new business. Second, banks that don’t satisfy the CRA mandates would face enforcement action in the form of penalties or divestiture of the new business. A third expansion would subject uninsured wholesale financial institutions, the so-called "woofies" so prized by securities and insurance firms, to CRA mandates, even though "they don’t enjoy the benefit of federal deposit insurance," the analysis said.

The Fed analysis was released as Gramm prepares to meet with Sens. Trent Lott, R-Miss., the Senate majority leader, Thomas Daschle, D-S.D., Senate minority leader, and Paul Sarbanes, D-Md., ranking minority member of the Senate Banking Committee, on how the Senate should proceed in dealing with financial modernization legislation. Gramm’s bill does not impose the additional CRA requirements mandated in the House bill, but it was passed by a partisan, 11-9 vote in the Senate Banking Committee last month. The Clinton Administration has already sent out a letter threatening to veto the Gramm bill, and Daschle recently re-introduced a version of financial modernization legislation like the one passed by the Senate Banking Committee last year.

While the Senate leaders meet, signs are emerging that House Speaker Dennis Hastert, R-Ill., has asked the Commerce Committee Republican leadership to endorse in principle the House Banking Committee version of the legislation and seek amendments on the House floor on issues likely to generate controversy. The issues Hastert is concerned about are greater SEC scrutiny of bank securities activities; elimination of language currently in the bill restricting the unitary thrift holding company; and stronger privacy language than that is contained in the current House version of the bill.

Industry lobbyists said Hastert’s objective is to get the bill through the House by Memorial Day. Otherwise, Hastert has said, floor action could be delayed into July because June has been set aside to deal with appropriations bills. While Reps. Tom Bliley, R-Va., chairman of the Commerce panel, and Mike Oxley, R-Ohio, chairman of the finance and hazardous materials subcommittee, have apparently nodded assent, it is unclear what Rep. John Dingell, D-Mich., ranking minority member, will decide. Dingell, a former chairman of the full committee, has broad support on the committee, industry lobbyists said.

Disclosure requirements related to a new law affecting consumers’ options to cancel private mortgage insurance under Regulation Z, or Trust-In-Lending (TILA) laws, were tightened and clarified last week when the Federal Reserve Board staff issued new commentary.

The new staff commentary also increases the tolerance level for loans to qualify for the special rules dealing with high yield credits. Other issues touched on include treatment of combined credit/debit or credit/stored value cards, and required periodic disclosures for open-end credit.

The changes to Reg Z were prompted by the new homeowners protection law, which was passed by Congress last year. It allows borrowers to cancel private mortgage insurance (PMI) under some circumstances and requires lenders to terminate PMI automatically when other conditions are met.

The new staff commentary explains that the cost of PMI must be reflected in the payment schedule disclosure through the time of automatic termination under the new law, or other applicable law, and no further. The new commentary also makes clear that any assumptions required to be made in order to calculate the time of automatic termination for adjustable-rate mortgages should be made consistently with assumptions made for other TILA purposes, according to an industry lawyer.

In another provision dealing with mortgage practices, the commentary establishes new tolerances for the points-and-fees test for loans qualifying as "high-yield." The new figures reflect cost-of-living adjustments, and require that loans with associated points and fees which are the greater of $441, or 8% of the total loan amount, are subject to high-yield disclosure provisions.

The new commentary also notes that in making disclosures for open-end credit, prior-cycle finance charge adjustments can be calculated into the annual percentage rate (APR) for the subsequent period, or they can be disclosed as a separate item and not included in the calculation of the APR for the subsequent period.

Regarding combined credit/debit or credit/stored-value cards, the new commentary expands the definition of credit card to include cards with both credit and non-credit features. The lawyer said that issuance of a card with credit features at the time of issuance, even if such a card also has noncredit features, may not be unsolicited.

On the other hand, the lawyer said, issuance of a card with non-credit features that the consumer later activates as a credit card may be unsolicited.

The Office of Thrift Supervision made clear recently that it retains the primary role in regulating the lending activities of federal thrifts by pre-empting a restrictive California consumer protection statute which affects advertising, the forced placement of hazard insurance, and charging of certain loan-related fees.

At the same time, four other recent OTS letters dealing with preemption of state law issues have surfaced. One deals with electronic banking in Massachusetts, a second deals with payment of finders fees in Illinois, and a third with paying interest on escrow accounts in New York. A fourth deals with mortgage reinsurance. The Office of the Comptroller of the Currency has dealt with a similar issue by allowing banks to reinsure through an operating subsidiary a portion of the risk on mortgages they originate.

While the most recent decision is important for all types of thrift lending, it is especially important to thrifts serving as mortgage lenders because California is the nation’s largest consumer mortgage market.

The agency’s letter was dated March 10 but only came to light last week. The name of the institution which requested the interpretation was redacted.

The OTS ruling dealt with the California Unfair Business Practices Statute and the California Deceptive, False, and Misleading Advertising Statute. In its request to the OTS, the thrift highlighted several examples of how the consumer protection laws were being used to impose substantive limitations on its lending activities. In its pre-emption letter, the OTS said that the Home Owners Loan Act provides the OTS broad authority to regulate all aspects of the operations of thrifts.

Of greater concern is that, according to the letter, California courts interpreting the laws have found that a cause of action under the law can be sustained on a finding of "unfairness," not by a breach of contract, or a violation of real property, commercial or tort law.

The OTS said in its letter that it has the authority to pre-empt certain laws affecting thrift lending if the law has more than an "incidental impact" on lending. Applying these provisions, the OTS determined that the practical application of the state laws as a basis for alleging "unfair competition" creates more than an incidental impact on the thrift’s lending operations, and thus that application of those laws is preempted.

According to a Washington lawyer, the OTS emphasized the extremely limited nature of its preemptive determination, referencing a 1996 determination with respect to an Indiana law not deemed to be preempted by federal law. That law principally required that advertisements be accurate.

The banks furthest ahead in offering customers a wide array of financial products through the most advanced delivery channels also charge the highest fees on checking accounts. Coincidence?

Bank Rate Monitor’s pricing study from February shows that none of the country’s top 50 banks offered bargains on checking accounts. But few industry observers saw this as cause for concern.

"These large banks are better informed as to overall customer profitability and they do provide more delivery channels and more products overall than most of the smaller banks, and so convenience can play a role in a customer’s willingness to pay a higher charge," said Sandra Flannigan, bank analyst at Merrill Lynch. "But, she added, you have to look at the overall package and not zero in on one single charge."

The survey found the nation’s best account to be offered by $141- million-asset Bay Financial Savings Bank in Tampa, Fla., which will net the holder $26.70 annually. It also noted that the 15 of the 20 most expensive accounts are offered by some of the nation’s largest banks: Citibank, BankAmerica and First Union. In fact, Citi, which is widely recognized as a leader in on-line banking, has the second-, third-, fourth- and fifth-most expensive accounts. Bank Rate Monitor bases that assessment on the $10,000 minimum requirement to avoid a $25-per-month service charge.

Jon Arfstrom, analyst at US Bancorp Piper Jaffray, said that while the glitz of new products and services might be a factor in the ability to charge high fees, customer ignorance might also play a role.

"I think if you asked the average person on the street, ‘How much did you pay in consumer banking fees this year?’ I don’t think you’d get very many correct answers."

He added that perhaps the answer is that Citibank has a certain type of customer and they are not as averse to paying fees as a community bank-type customer. But in any case, the big banks aren’t yet scared of the smaller banks’ strategy of giving out free checking, a trend analysts have noted for the last 12 to 18 months–particularly among thrifts.

"Initially some of these offerings are not profitable. It’s too early to tell–the success might be measured not over weeks and months, but years," said Thomas Theurkauf, analyst at Keefe Bruyette & Woods.

Not all industry watchers agreed."Technology is the great equalizer, so big banks may not be well served to continue to rely on (customers’ attachment to a wide array of products on the Internet)," said Sean Ryan, bank analyst at Bear Stearns

So devoted to the ideal of customer service are bankers at Synovus Financial Corp. that some will work nights and weekends. That extra touch they believe will set them apart from competitors was highlighted when a customer called the head of private banking–a program only a year and a half old–on a Sunday night. He announced he was leaving the country for a trip in the morning and would need a passport. The banker opened up the customer’s safe deposit box and produced the needed document.

"The products we deliver are all pretty much the same, but where we’re going to beat the competition is we’re going to deliver them however and wherever the customer needs it. We have better relationships because we extend ourselves," said Walter M. "Sonny" Deriso, Jr., vice chairman of the board of Columbus, Ga.-based Synovus, and the executive in charge of the company’s "New Bank" effort.

The New Bank program means moving toward modernization of the company, which translates into delivery of products and services in ways that customers want, Deriso said.

The bank is stepping up catering not just to the wealthy–with the private banking program it’s rolling out to 10 more of its subsidiary banks from the pilot site–but to the ordinary customer’s needs. It recently completed a 14-month conversion to M&I’s data warehousing capabilities and can do more sophisticated target marketing.

The $10.5-billion-asset holding company, which maintains independent boards and charters at each of its banks, is gearing up to complete another chapter in its New Bank effort. By adding insurance bank-wide, and brokerage and financial planning services for all customers, the southeastern bank company hopes to round out its offerings and achieve what is becoming the holy grail for banks: to be the place where customers get all their financial products.

The three-phased introduction of the insurance subsidiary has begun at flagship Georgia-state chartered Columbus Bank &Trust (CB&T) and two other banks in Alabama and South Carolina. The final state in Synovus’s market, Florida, has somewhat simpler insurance regulations, and will be added after the pilot periods in the other three states.

After examining a study of other banks’ methods of offering insurance prepared by KPMG Peat Marwick, which showed most are not profitable yet, and speaking with its own bank managers, Synovus management decided not to acquire an insurance agency. It will instead offer insurance to its customers through a partnership with a third party, which has been chosen but will not be announced until June, Deriso said. The carrier will provide backroom operations, a call center and licensed agents who can work as consultants or specialist to customers with sophisticated needs, Deriso said. The bank plans to get customers to the insurance agents, who must be located in a separate area of the bank, by referrals from tellers and customer service representatives, and targeted marketing.

The first phase of the three-phase roll-out includes the simplest products for novice salespeople to understand: credit life and accident insurance which most banks have offered for years, and fixed annuities, which Synovus has offered for about a year. In addition, it will offer title insurance, through a partnership with a local firm, and worksite-related supplemental insurance for commercial customers with specialist AFLAC.

The bank is also creating a reinsurance captive for mortgage insurance. In that line of business the bank will deal with several carriers, the split depending on the amount of work done by the bank or the carrier. Because reinsurance is still a fairly new line of business for banks, Deriso said special approval would be needed from regulators. He added that he had discussed the bank’s plans with regulators in all four states as well as with the Office of the Comptroller of the Currency, and all were comfortable with the bank’s plans and indicated there should be no snags in obtaining approval.

The second phase, to begin in the fourth quarter, will offer homeowners and auto insurance. The third phase, to start late in the year 2000, will offer life, disability, long-term care and group disability insurance.

Deriso said in addition to having some employees trained to sell insurance, the plan is to have some of these specialists licensed to sell securities and be able to do financial planning for all customers. Currently, the banks can offer some customers a limited version of that service. Some of the specialists on the asset-management side of the bank can act as gatekeepers and refer some of the trust clients to the brokers. Whenever an annuity is sold, that customer has a financial profile done, a sort of minifinancial plan. But CB&T will begin piloting in May the use of what Deriso calls "superpeople," employees licensed to sell insurance and all brokerage products.

Another new program which Deriso said ties several of the bank’s financial services together, an asset management account, also requires specialist employees to sell it. In the pilot stage now and set to be rolled out in the second or third quarter, the wealthy-customer’s account has a brokerage feature and allows funds to be swept into an FDIC-insured account. The specifics of minimum account balance–probably around $10,000–and working with the data processor to clear all trades, are being worked out now.

Deriso is in the thinking stage now of the latest piece of the plan to offer customers as broad an array of financial services as possible: additional money management. He is grappling with whether to hire more money managers to complement the team that runs the company’s fixed income and equity funds, ranked by PIPER in the nation’s top ten, or to form an alliance to continue to get value from the $7 billion under management with an outside firm

The fate of the pooling method of accounting, the favored approach in the mergers of banks using their high stock prices as acquisition currency, will start to be addressed April 21 by the Financial Accounting Standards Board, which may do away with it altogether.

FASB will be looking at either eliminating or, at best, restricting its use, according to Kim Petrone, a FASB project manager. Such a move could dramatically affect the ongoing consolidation of the banking industry. And, in fact, banks have been some of the most vocal opponents of the proposal to date, which until recently has focused on accounting for goodwill, an integral part of the project.

In the most recent outburst of criticism, eight banks–including Chase, Citibank, KeyCorp, First Union and Bank One–and five banking trade groups submitted comments on a position paper to account for mergers by the G4+1, a consortium of international accounting standard setters. The paper is relevant because part of FASB’s goal in the business combinations project is to harmonize accounting standards internationally, and because it advocates eliminating the pooling method of accounting. FASB will be considering the paper and the comments in its deliberations.

The American Bankers Association, which has objected to most of the major accounting changes proposed recently by FASB, states high up in its comment letter that both the pooling and purchase methods of accounting should be retained. That’s in part because the "pooling method better reflects the long-term interests of shareholders and the long-term contribution of each (merged) entity to the performance of the combined entity than the purchase method," it says.

Bonnie Zoccola, vice president of accounting policy at First Tennessee, which greatly expanded its mortgage lending operations in recent years through acquisitions, tied the possible elimination of pooling more closely to banks.

"Purchase accounting is prohibitive especially in the banking industry because of the intangibles created–intangibles reduce capital on a one-to-one basis," he said.

A number of companies, largely excluding banks, have expressed reserved support for the business combinations project as long as accounting for goodwill is rejiggered to simplify and standardize it. FASB just finished addressing how to determine the measurement and life span of goodwill and intangible assets–tentatively deciding to limit the life span of goodwill to 10 years with a maximum of 20 years, down from the current 25 years for banks–and concluded that it must reconsider its deliberations later. The current version of the proposal would significantly increase merging banks’ amortization costs.

"Higher amortization would be prohibitive (for mergers). A couple of large banks have done mergers on a cash basis of accounting instead of accrual, and it’s been a bumpy ride," Zoccola said.

The comment letters did provide FASB with some alternatives to make goodwill less burdensome. Although he was averse to eliminating pooling, Princeton, N.J.-based Summit Bank’s comptroller Paul V. Stablin noted in his bank’s comment letter that treating goodwill as a one-time acquisition expense, or amortizing it into comprehensive income, would make the purchase method of accounting more attractive.

Not all bankers oppose eliminating the pooling method of accounting. Craig Dabroski, accounting specialist at America’s Community Bankers, said, "Several of our members would not be upset with purchase accounting, depending on how to measure goodwill."

He added that while he ultimately sees "a train down the track that’s going to intercept goodwill," the biggest problem today with purchase accounting is the ambiguity measuring goodwill and intangible assets.

"Now it’s very difficult to come up with, for example, fair value for core deposit intangibles," he said. He noted that another controversial FASB project dealing with accounting for all financial instruments at fair value, while now scheduled to be finished long after the business combinations project, would ultimately answer a number of questions.

The insurance underwriting industry won a sweeping victory when a panel of the 11th U.S. Circuit Court of Appeals, based in Atlanta, said insurance regulators have the sole authority to determine whether a hybrid bank or insurance product is banking or insurance.

Banking lawyers cautioned that the ruling conflicts with other recent court decisions, including two by the Supreme Court. Efforts to contact the Washington offices of American Deposit Corp., which has a pending patent on the product, were unsuccessful. It would be the only entity able to appeal the decision to the Supreme Court. Michael Crotty, deputy general counsel for litigation for the American Bankers Association, reacted to the decision by saying, "These guys just missed it. It is flat wrong.

"It flies in the face of several recent unanimous Supreme Court decisions, including Barnett, decided in 1996, and Valic II, which was handed down in 1995," he said. It also is contradicted by Valic I, handed down in 1959, which says annuities are securities and not insurance, Crotty said.

The court held that the National Bank Act is a minor law and is "trumped" by the McCarran-Ferguson Act when an analysis is made whether a product is banking or insurance. The case deals with a Montana bank’s effort to sell a fixed annuity as a bank product. The product, called a "Retirement CD," was advertised as providing tax-deferred treatment on earnings inside a bank’s federally-insured certificate of deposit. Upon maturity, the accumulated value of the product would be distributed to the owner in periodic payments, like an annuity.

"The Retirement CD was an annuity, an insurance product," said Gary Hughes, vice president and general counsel of the American Council of Life Insurance. "Equally important, the court noted that the Office of the Comptroller of the Currency overstepped his authority in 1994 by giving the product the green light. What this shows is that Congress, not the OCC, will decide whether banks or their affiliates will be allowed in the future to underwrite annuities and other insurance products," he added.

With his eye on pending legislation that would bar banks from underwriting annuities in operating subsidiaries, Hughes added, "If any banker had considered sidestepping Congress and underwriting annuities in a bank’s operating subsidiary, this should significantly dampen those plans."

But David Roderer, a banking lawyer in Washington, called the decision "backward-looking, static and simplistic." He explained that the court looked at the issue as if there were no hybrid products, only banking, insurance and securities products. He added that the National Bank Act, and the Supreme Court’s interpretation of that law "clearly indicate that the agency has the authority to adjust banking products to the times."

Wells Fargo will be rolling out a new program this summer to help small business customers get their store fronts on the Web, about the same time two large corporate clients will roll out their larger, multi-lingual bank-enabled sites.

The California-based giant started up a special unit to focus on Internet commerce in January, although it has worked with business customers on the Web since 1995 and currently has more than 300 Internet merchant customers. It is now working on a system to integrate all the basic components a small business would need to get set up on the Internet, to act as the "broker" for the client.

"If you think about your small business segments, their primary need is a trusted, knowledgeable partner. ‘I need to get a URL. I need to get a Web-page designer, a payment processor.’ Most small businesses don’t know how to do that. They’ll have to contract with between seven and nine companies. We think we have an advantage. We can bring the strategic partners together so we can create a cohesive opportunity for the small business," said Michelle Banuagh, vice president with the e-commerce group. Although the bank now refers small business clients getting onto the Web to other companies for advice, the new program, called Wells Fargo iBox and expected to roll out in June, would be a packaged solution to the site development quandary.

For the large corporate business clients who are mostly already established on the Web, Wells has just unveiled the fruits of a partnership with Mitsubishi last month to develop merchant Web sites that can crack foreign markets. The new Web sites can deal in foreign currency and overcome the language barrier by displaying information in the local language. Wells takes the local currency by credit card, converts the payment into dollars for the U.S. company, and the bill appears in the local currency on the customer’s credit card bill. Formerly, if a customer bought a product over the Internet in yen, for example, the charge appeared on his or her bill in dollars, which led to some confusion.

The new feature, Banaugh said, goes a long way toward helping the merchant reduce customer service telephone calls and contributes to customer satisfaction. Wells and three more large U.S.-based companies are working on sites, which are looking for a late summer launch in preparation for the holiday season.

A recent decision provides banks with a reduced compensation hit stemming from excess employee stock options withheld for tax purposes, at least in the short term.

The Financial Accounting Standards Board’s Emerging Issues Task Force, which deals with the most urgent accounting issues, came to a cheaper conclusion than its parent board on the question of what to do when a company has withheld more than the minimum required number of stock option shares for tax purposes.

The EITF decided in a recent meeting that cost associated with only the excess number of shares should be expensed.

FASB had decided earlier in its work on an interpretation of Opinion 25 that compensation costs related to the entire award had to be recognized.

An exposure draft of the interpretation was released last week. If that proposal is adopted, it will govern the accounting. But until then, the EITF’s looser conclusion goes.

The board also decided that the effective date of the provision affecting excess tax withholding would apply to options granted after Dec. 31, 2009.

"The delayed effective date is to allow banks to modify their plans, to not allow excess withholding," said Lailani Moody, senior manager, assurance services, of Grant Thornton.

"There’s a big difference in terms of costs between the EITF version and FASB’s version," Moody said. She added the EITF’s decision could affect options for some time, because although it only pertains to options granted for the end of this year, those options might not be exercised for several more years.

Lenders were blessed and burned last week when the Financial Accounting Standards Board addressed implementation issues for its new standard to account for derivatives that affect their ability to hedge risks.

One issue followed shortly after a letter received from the Mortgage Bankers Association that expressed the trade group’s concern about a tentative decision by the Derivatives Implementation Group (DIG), an independent group that analyzes issues stemming from the new proposal and suggests solutions for FASB’s approval. That issue concerned accounting for combinations of options to hedge market risk, especially from mortgage servicing rights in the case of mortgage lenders.

The DIG decided that a combination of options can only be designated a net-purchase option, and so receive the desired hedge accounting if it meets four criteria. The MBA said in its letter that most mortgage lenders using such an instrument to hedge mortgage servicing rights would, due to the nature of the business, be unable to meet the criteria, and so would have to account for it as a net-written option. Such designations can only be accounted for as hedges under very specific and limited circumstances.

Jim Edwards, vice president of capital markets for Homeside Lending and a member of the MBA’s Hedge Accounting Task Force, said that while task force participants did not believe accounting for hedging instruments drove the mortgage lending business, the new accounting would have ramifications.

"Members acknowledged that there will be additional documentation and analytical work required to demonstrate an expectation of hedge’s effectiveness," he said. "The MBA was concerned that the conditions in DIG’s response may limit the use of certain combination option strategies being used or contemplated by some mortgage bankers," Edwards said. Edwards added, however, that such strategies are only a small part of hedging choices.

While FASB did not give mortgage lenders reprieve last week on the combination of options issue, it did ease up on the timing restriction the DIG initially required to receive hedge accounting and defer the gains or losses of a cash flow hedge of a forecasted transaction, if it appears the forecasted transaction will occur after originally specified. The DIG said that in order to receive hedge accounting, the transaction must occur within an addition period that is no more than 10% of the originally specified time period, or 60 days. The mortgage industry, according to Tim Lucas, technical director at FASB, noted that the 10% limit was excessively strict for many mortgage cash flow hedges, so the board "blew the 10% away."