Welcome to the first issue of Promissory Notes - our banking and finance e-newsletter - for 2024. If you have any suggestions for this publication or legal questions, feel free to reach out. Your guidance helps make this publication worthwhile and of interest to our clients and colleagues.

A few items of interest....

Those who are members of the National Association of Bond Lawyers are invited to join the NABL Governmental Affairs Committee (GAC) on February 6, 2024, from 3:00pm to 4:00pm ET, for a member-exclusive Advocacy Townhall. We will recap the first half of the 118th Congress and look ahead at what may happen in the coming months. The discussion will cover FY2024 appropriations, a tax deal moving through Congress, and the chances of municipal bond legislation advancing this year. Members will also have the opportunity to ask questions and share their thoughts on our advocacy priorities. Click here to learn more.

For those of you interested in the technology side of the industry, Spilman attorney Shane Riley recently hosted a webinar - AI & Copyright Law: Understanding the Next Chapter. AI's growing influence is making waves across many industries and areas of law, including copyright law and policy. Whether you have copyrights that may be infringed by AI or you are navigating new AI tools that potentially step on the rights of others, an understanding of how policy is being formed will be vital to you. This discussion focused on the current impact of generative AI on U.S. copyright law and policy, including recent guidance from the U.S. Copyright Office, lawsuits making headlines, and where we might go from here. Don’t worry if you missed it. You can view a recording here.

For those of you interested in labor and employment law, we are hosting our Ski & CLE National Labor & Employment Symposium at the Steamboat Grand on February 4-7, 2024. Enjoy dynamic, interactive presentations on a wide variety of labor and employment law topics featuring both plaintiff and defense attorneys, mixed with a heavy dose of camaraderie and collegiality. Click here to learn more and register.

Thank you for reading.

Bryce J. Hunter - Member; Chair, Tax Credits Practice Group; Chair, Community Banking Group; Co-Chair, Banking and Finance Practice Group; and Editor of Promissory Notes

Joshua L. Jarrell - Member; Chair, Public & Project Finance Practice Group; Co-Chair, Banking and Finance Practice Group

“The guidance notes that banks should maintain underwriting, repayment terms, pricing, and safeguards that minimize adverse customer outcomes and should ensure that marketing materials and disclosures are clear and conspicuous.”

Why this is important: The Office of the Comptroller of the Currency (OCC) recently issued guidance to national banks and federal savings associations to address the risks associated with “buy now, pay later” lending. “Buy now, pay later,” or BNPL, is a type of short-term installment loan. It divides a customer’s purchase into multiple equal payments, with the first due at checkout. The remaining payments are billed to a customer’s debit, credit card, or bank account until the purchase is paid in full. Generally, BNPL loans are set up as fixed payments with no interest or finance charges. A September 2022 report from the Consumer Financial Protection Bureau found that from 2019 to 2021, the number of BNPL loans originated in the U.S. by the five lenders it surveyed grew from 16.8 million to 180 million which shows consumers are looking for alternatives from traditional credit cards.

The OCC guidance focuses on the risk management of BNPL loans and notes that banks should maintain underwriting, repayment terms, pricing, and safeguards that minimize adverse customer outcomes and should ensure marketing materials and disclosures are clear and conspicuous. Additionally, prudent BNPL lending includes safeguards that minimize adverse customer outcomes. According to the bulletin, the OCC expects banks that offer BNPL loans to do so in a manner that is safe and sound, provides fair access to financial services, supports fair treatment of consumers, and complies with applicable laws and regulations. --- Bryce J. Hunter

“While it is rare for the Fed to rewrite rules, it is not unprecedented.”

Why this is important: Let’s not get too deep in the weeds here, but understand that many banking rules in the U.S. are based on international standards set and recommended by the Basel Committee on Banking Supervision, based in Basel, Switzerland. The U.S. used to go its own way, but the combination of being the defacto world currency and the steep increase of international transactions forced the Group of Ten (G10) countries to get together to set similar policies for many financial indicators, in order for everyone to be operating on similar rules. Recently, at the urging of the three primary U.S. regulators, Basel proposed a rule raising bank capital reserve standards to 16 percent. They put this out for comment. This change has been proposed already by the three U.S. regulators. The banks, both U.S. and European, point out that higher capital reserves mean higher costs for lending and higher fees for many transactions. Also, since European banks tend to be very large and many have operated literally for centuries, they question the necessity of such an increase. Of course, increase in finance cost drives up general cost, helping to fuel inflation. It also discourages some investments. Basel would argue a systemic failure of banks would do much more damage. This ball is still in play. We will follow this. --- Hugh B. Wellons

“Customers are flocking to digital banking in droves, but there are certain aspects of the financial journey still best accomplished with a human touch.”

Why this is important: There are several key takeaways from the recent analytic trends in digital banking. First, it is clear that the financial sector’s investment in developing digital applications has been hugely successful. An overwhelming 97 percent of customers report positive experiences with digital banking and specifically with the mobile applications they have available to them. Second, the trends are that a hybrid approach is the growing preference for customers. Customers are looking for a human connection for specific transactions, such as mortgages or larger loans, while demanding ease of access for the day-to-day transactions such as depositing or transferring funds, or bill pay transactions. Third, 25 percent of customers switched banks in the past year. Of those who reported switching, about half indicated they switched because they wanted a better digital experience. As financial institutions look to develop their strategies to meet customer demands, they should be careful to ensure they can maintain compliance with “know your customer” best practices, even in the face of moving the customer experience into the digital space. --- Brian H. Richardson

“Many of these banks are wrestling with choices they made when interest rates were low, and they now find themselves squeezed by rapid rate hikes by the Federal Reserve.”

Why this is important: According to a recent report by The Wall Street Journal , small community banks in the U.S. ended 2023 in crisis mode. Many of these banks are wrestling with choices they made when interest rates were low, and they now find themselves squeezed by interest rate hikes by the Federal Reserve. Banks of all sizes were caught off guard in 2023 by failing to anticipate how quickly the interest rate hikes could come. And while several larger banks failed in spring 2023 (Silicon Valley Bank and Signature Bank), community banks are in a “full-blown crisis,” the report said. With loan growth slow, these banks are searching high and low for deposits and are putting deposits into securities, only to see their value fall when interest rates climbed, according to the report. More than 300 banks had half of their assets in securities during the third quarter, according to Federal Deposit Insurance Corp. data, with about 100 of those banks keeping 75 percent of their assets in securities, the report said.

As a result, U.S. banking regulators are increasing their scrutiny of lenders’ risk management practices. Regulators like the Federal Reserve and FDIC are staging surprise reviews of confidential supervisory bank health ratings and issuing downgrades to ensure banks address lapses in risk management.

Community bankers, however, are stressing that too much new regulatory burdens could further stunt the flow of credit and strain their lending abilities in their communities. --- Bryce J. Hunter

“The U.S. Treasury Department's Office of the Comptroller of the Currency carried out its first climate risk assessment of more than two dozen banks in recent months, laying the groundwork for heightened scrutiny of Wall Street's accounting for such threats, people familiar with the matter said.”

Why this is important: Bank climate risk planning is not going away. The Office of the Comptroller of the Currency carried out a climate risk assessment of more than two dozen banks, each with more than $100 billion in assets, all over 2023. The Fed and the FDIC seem to be lagging a bit behind the OCC in this effort. Expect more focus on this topic, not less. --- Hugh B. Wellons

“Modern fintech makes it possible for financing to be underwritten directly from transaction data, reflecting a small business’s true ability to pay back the funds.”

Why this is important: Historically, one of the driving factors for community banks leading in servicing the financial needs of small businesses was their mutual connection to the community. The small business had unique needs, and the community bank was seen as being better able to evaluate the risks and nuance of a lending facility for the local market. Embedded finance technologies are changing that model, however, as detailed transaction data analysis is replacing the personal touch. Several online lenders now offer customers an option to link to their operating accounts and allow software analysis of their transaction data as a measure of credit worthiness, rather than provide paystubs or balance sheets. These developing models for evaluating lending opportunities are giving new and small businesses a much wider range of options for meeting their financing needs. Regional and community banking institutions would do well to evaluate how these technologies can be implemented into their operations. --- Brian H. Richardson

“His comments come at a time when the issue has largely been overshadowed at the WEF’s annual meeting with the rise of artificial intelligence and conflicts in the Middle East and Ukraine high on the forum’s agenda.”

Why this is important: U.S. debt now sits at $33.2 trillion. That compares with 2020 debt of $26.9 trillion, 2016 debt of $19.6 trillion, and 2000 debt of $5.7 trillion. So, in 23 years, our national debt has multiplied by almost six times! Two wars, the financial crisis, and COVID-19 all contributed to this, but we should be shamed by temperance of drunken sailors. Currently, the U.S. is running at about a 7 percent deficit. Similarly, the CEO of the Institute of International Finance reported at the Davos World Economic Forum that the world debt would reach $310 trillion at the end of 2023. He believes this could encourage the election of more populist leaders in at least 50 countries, which could increase this debt further. Adding this to a big concern about aging populations (and who will support them), he fears that we are approaching a financial point of no return. --- Hugh B. Wellons

Three Ways Generative AI will Empower Banking Employees — not Replace Them

“Generative AI is a way to add more efficient access to knowledge and data that can help employees.”

Why this is important: Recent customer research reports indicate that as many as 71 percent of consumers are uneasy with generative AI and how it will be implemented by their financial institutions. That uneasiness can be alleviated by developing data transparency protocols, and incorporating human oversight and appropriate regulation in the implementation process. This research recommends focusing the implementation of generative AI on areas such as improving speed and access to resolutions of customer concerns, cross-selling and up-selling to improve the customer experience, and reducing employee burnout on tedious tasks. These are admirable target areas, and well within the scope of generative AI capability that does not overly intrude on the customer experience. Financial institutions have developed their proprietary knowledge bases for decades. Generative AI can help implement that knowledge to empower employees to vastly improve the customer experience. --- Brian H. Richardson