Insiders at failed banks feel the heat

The FDIC is seeking penalties in instances in which it alleges malfeasance, not failed strategies, led to the bank’s failure.

Georgia leads the nation in failures with 78 since mid-2008. The high water mark for failures in a year for Georgia was 25 in 2009, and the FDIC has a three-year statute of limitations from the date of closure to assert a claim.

During the savings and loan crisis in the late 1980s and early 1990s, the FDIC filed civil lawsuits in about a quarter of failures. Most observers expect to see suits in a similar or slightly lower number of failed banks in this cycle.

“They’ve recovered a lot of money in the last cycle, and they’ve got their sights set on reclaiming a lot of money this time as well,” said Gerald Blanchard, banking attorney with Bryan Cave in Atlanta.

As of last month, the FDIC board had authorized lawsuits against 469 individuals connected to 54 failed banks nationwide, seeking damages of $8 billion. The regulator has filed at least 27 cases across the U.S., and no state has seen more than Georgia.

It generally takes the FDIC 18 months to conduct investigations after a closure and to decide if there are claims it can make. In many cases, the regulator will reach a settlement before a lawsuit is ever filed, and some that are filed are settled out of court.

“They are going to go after those financial institutions where they feel they have the best chance to win,” said Kevin Jacques, a finance professor at Baldwin-Wallace College in Ohio and a former economist for the U.S. Treasury Department and the Office of the Comptroller of the Currency.

The FDIC is seeking damages generally through a failed bank’s directors’ and officers’ insurance policy, known as D&O insurance, which protects bank insiders from liability claims. The regulator also can go after personal assets.

In late February, the FDIC sued two former officers of Community Bank & Trust, a Cornelia-based bank. (Community Bank & Trust was acquired by a South Carolina bank that operates the institution under that name.)

The FDIC is seeking damages in the case for more than $11 million in losses related to loan policy violations and underwriting deficiencies on high-risk, short-term loans to real estate investors.

An attorney for the defendants denied the accusations.

In March, the FDIC sued 12 former officers and directors of the failed Commerce-based Freedom Bank of Georgia and days later sued 10 former insiders at the failed Atlanta-based Omni National Bank. The suits seek damages of $11 million and $37.1 million, respectively.

In the Freedom Bank case, regulators cited 21 loans made with “inadequate, incomplete or outdated” financial statements for borrowers and loan guarantors, “resulting in loans advanced to borrowers with no apparent ability to repay or otherwise service the loans.”

With Omni, the FDIC sued over the allegedly faulty handling of more than 200 loans and foreclosed property. The suit originated from loans in Omni’s Community Development Lending division, a unit that lent to real estate investors who rehabbed homes in downtrodden Atlanta neighborhoods. Multiple Omni officials and borrowers have faced criminal charges in the wake of the bank’s failure.

Attorneys for defendants in the Freedom Bank and Omni cases also have denied there was any wrongdoing.

The seven Georgia cases in general assert claims of negligence, gross negligence and various breaches of fiduciary duty related to specific loans. The regulator often alleges the banks had slipshod internal controls and that loans lacked basic financial information about the borrower or the collateral.

Theodore Sawicki, an attorney with the Atlanta firm Alston & Bird, is defending several bank insiders in FDIC cases, including Freedom Bank and Omni National. He said the FDIC has often made aggressive claims and painted defendants with a broad brush.

The FDIC declined to comment on any of the cases in litigation.

Sawicki said his clients are respectable men and women who worked hard to make their banks successful.

“[Their banks] failed for reasons far beyond what they could control,” Sawicki said.

Frequently, the regulators themselves have been criticized for being slow to react in so-called post-mortems of several failed banks. Bankers often were highly rated for their performance during the boom years, though criticized for the same loans and actions when the economy turned, Sawicki said.

Though the FDIC has stepped up the number of suits, a recent partial ruling in a case against eight former insiders at the failed Integrity Bank could make the burden of proof tougher.

A federal judge recently ruled in the Integrity case that Georgia’s business judgment rule protects bank directors and officers against claims of ordinary negligence in the course of business. The rule essentially protects insiders from liability for business decisions made in good faith that eventually went bad.

The FDIC continues to sue on the grounds of negligence, said Blanchard, the Bryan Cave attorney. He said that could be because the regulator wants a definitive decision from the 11th Circuit Court of Appeals on the issue.

Gross negligence, or willful disregard, is a much higher standard to prove.

Most failed Georgia banks collapsed because of betting too heavily on a housing and commercial real estate bubble that burst, not because of intentional wrongdoing, Blanchard said.

Though the industry is still struggling, overall it is showing signs of improvement. Experts predict Georgia could see failures into 2014.

Speaking in general about failed bank litigation, Blanchard said he expects most cases to be settled before ever reaching trial.

“Sides tend to settle because a known settlement is better than an unknown jury trial,” he said.