In a September 12 advisory, the FDIC has told state nonmember banks purchasing loan participations that they should underwrite and administer such participations in the same diligent manner as if they were being directly originated by the purchasing bank. The FDIC’s advisory indicates that the over-reliance on lead institutions has in some cases led to significant credit losses for purchasing banks and has contributed to bank failures, particularly where the participation relates to loans to out-of-territory borrowers, and borrowers that are involved in industries unfamiliar to the purchasing bank.
The advisory indicates that, in connection with loan participations, banks should implement an appropriate credit risk management framework that includes:
- Loan policy guidelines that cover origination and purchase decisions, borrower due diligence, an assessment of the purchasing bank’s contractual rights and obligations, and a consideration of commitment limits for aggregate purchased participations, out-of-territory participations, and loans originated by lead institutions
- Written loan participation agreements describing the duties of the lead institution, requiring timely borrower credit information, addressing remedies upon default, and outlinining dispute resolution procedures
- Independent credit and review analysis that is the same as if the bank were the originator
- An enhanced due diligence process for out-of-territory or unfamiliar market loan participations