Small Bank Boards Face Rising Responsibility, Expectations

Directors at community banks are doing a lot more heavy lifting in boardrooms these days.

Since the financial crisis, directors have taken on more duties that require a greater technical understanding of banking. Board involvement is likely to rise with the implementation of new regulations such as the upcoming qualified-mortgage rule.

As a result, directors will likely face greater liability if something goes awry, making it harder for banks to find volunteers, industry experts say.

"The burden of directors... has increased substantially," says David Baris, a lawyer at BuckleySandler and executive director of the American Association of Bank Directors. "The basic fiduciary duty... hasn't changed but, through a variety of ways, bank agencies have created additional responsibilities for directors."

There are more than 800 provisions in laws, regulations and guidance that require action from directors, according to the American Association of Bank Directors. In the last five years, regulators have issued roughly 1,500 formal enforcement actions that can have "very onerous" terms for directors, Baris says.

Baris knows of a director at a troubled bank who spends 25 to 30 hours a week on board duties, despite having a full-time job.

Banks are also asking boards to have a greater understanding of, and be more involved in, decisions in areas like compliance, credit and risk management, industry experts say. This can be challenging for directors at small banks who have limited banking experience.

"The things directors used to defer to management have fallen much more on their shoulders," says Tony Plath, a finance professor at the University of North Carolina at Charlotte. "The level of technical complexity that is required has grown, including credit default risk, whether a loan is written off properly or the proper appraisal is in place."

Still, directors at small banks should also be aware that their day jobs may have better prepared them than they realize, says Bert Otto, deputy comptroller of the central district at the Office of the Comptroller of the Currency. Directors have taken on more duties, especially in understanding risk, since the financial crisis, he says.

"It doesn't have to be some magical formula," Otto says. "Directors can take the concepts they've learned in their businesses - there is risk in any business - and bring that to the bank. There's no substitute for common sense."

The most important skill a director can bring to a bank is an inquisitive mind, Otto says. Directors must be engaged and ask management questions to make sure due diligence is being done properly, he says.

As new regulation debuts, boards could take on more responsibility for compliance, industry experts say. For instance, the Consumer Financial Protection Bureau's QM rule, set to go into effect Jan. 10, could require more board involvement.

Steven Eisen, a lawyer in Baker Donelson's financial institutions advocacy group, has worked with nonbank boards that were asked by the CFPB to provide implementation policies and training programs for QM. Those boards were then blamed if the policies fell short, and Eisen says he is concerned that bank directors will eventually experience the same level of scrutiny.

The CFPB did not respond to a request for an interview.

"Basically, regulators will threaten the board and then the board will get scared and they will get on the case of the president or the compliance officer," Eisen says. "The concern for smaller banks is that whatever the big banks are or are not doing will eventually filter down."

Directors at First Federal Savings Bank of Twin Falls in Idaho have been educated about QM and are involved in the process of deciding whether to make non-QM loans, says Brenda Hughes, the $505 million-asset bank's retail lending administrator. She has worked with the board to help them understand how making just QM loans would influence daily operations, customers and the community. She says the bank currently plans to make non-QM loans.

"We put some dollars to it and noted that it opens us up to consumer litigation we didn't have before," Hughes says. "That's a whole new world. We had to determine if we would have the implied safe harbor and then decide our policies and procedures from there."

Bankers are starting to claim that all of these duties are making it more difficult to find new directors, industry experts say. Concerns exist that the increased director involvement could mean more liability, Eisen says.

The Federal Deposit Insurance Corp. has brought lawsuits, many of which involve directors, in about 15% of the bank failures since 2007, Baris says. Beyond failures, the risk of personal liability is diminished, he says. Still, regulators can impose civil penalties on directors, officers and others at banks.

A recent survey from the American Association of Bank Directors found that about one-fifth of respondents had a director resign or a candidate refuse to serve because of fear over personal liability, Baris says.

Vacancies can also provide banks with an opportunity to identify and fill expertise gaps, says Kevin Jacques, a finance professor at Baldwin Wallace University in Berea, Ohio.

"Make sure you have expertise across different areas," Jacques says. "We don't know what the next risk might be."