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Senators urge FDIC to give fair consideration to industrial banks

Senators’ letter at odds with House bill

Utah Republican Mitt Romney is one of nine senators from both parties who say industrial loan companies can help local economies in ways that traditional financial institutions can't.
Utah Republican Mitt Romney is one of nine senators from both parties who say industrial loan companies can help local economies in ways that traditional financial institutions can't. (Tom Williams/CQ Roll Call file photo)

A bipartisan group of senators is supporting “industrial loan company” charters, a move that puts them at odds with House legislation over a controversial pathway for financial technology companies to access the traditional banking system.

The five Republicans and four Democrats say the charters, which can be issued by the Federal Deposit Insurance Corporation, allow “new and expanded credit opportunities in the regulated banking sector.” Their claim also puts them at odds with state banking regulators who say such charters are a way to sidestep necessary oversight.

The lawmakers say companies that obtain the charters perform niche lending in areas often ignored by the large banks. 

“ILCs can enhance sector or local economies in ways traditional financial institutions do not,” the lawmakers wrote to acting FDIC Chairman Martin J. Gruenberg. Democratic Sens. Kyrsten Sinema of Arizona, Catherine Cortez Masto of Nevada,  Gary Peters of Michigan, and Jacky Rosen of Nevada and Republican Sens. Mitt Romney and Mike Lee of Utah, Marsha Blackburn of Tennessee, Roy Blunt of Missouri and Bill Hagerty of Tennessee signed the letter. 

In their Sept. 15 letter to Gruenberg, the senators said they “strongly oppose regulatory actions, both formal and informal, that might target the ILC charter in a manner not consistent with the laws Congress has passed.” The lawmakers asked the FDIC to give “full and fair consideration” of any applications for companies seeking such charters. 

Industrial loan companies, sometimes called industrial banks, are similar to commercial banks. They emerged in the early 1900s as niche lenders to provide consumer credit to low- and moderate-income workers who were generally unable to obtain loans. They may use the word “bank” in their names.

In exchange for their state charters and access to federal deposit insurance, ILCs must comply with certain federal safety and soundness and consumer protection laws applicable to FDIC-insured banks. But unlike the owners of banks, the corporate owners of ILCs may operate outside the Federal Reserve’s prudential regulatory framework established for traditional, legally defined bank holding companies.

Fitch Ratings said in an analysis on Oct. 27 that fintechs and other nonbank financial institutions might face competitive and funding disadvantages if they can’t get deposit funds through ILC charters. As interest rates continue to rise, the advantages of relatively stable deposit funding become more valuable, the ratings company said.  

“Access to deposit funding via ILC charters is an avenue through which non-banks could more effectively compete with traditional banks,” said Fitch.

The bipartisan nature of the support from senators could help boost the case for the ILCs. 

“Although subject to many bank regulations, ILCs have a few key advantages over traditional banks,” the Federal Reserve Bank of St. Louis said in an analysis of potential fintech interest in industrial loan company charters.

These lenders fell into relative obscurity over the years, losing favor with some regulators and lawmakers. The FDIC placed a six-month moratorium on ILC deposit insurance applications in 2006, citing potential risks to the federal deposit insurance fund. The temporary ban followed widespread opposition to retailer Walmart Inc.’s plan to create a federally insured bank using an industrial loan company charter.

Congress imposed a three-year moratorium in 2010 with the Dodd-Frank Act.

The concept was resurrected by the exploding financial technology industry as a vehicle for new national financial institutions that might otherwise have to contend with a hodgepodge of federal and state laws and regulations governing financial services markets. Today, such companies are chartered by only a few states, with Utah emerging as a popular home for fintechs.

Fintechs with customers throughout the U.S. often need to obtain licenses in all 50 states and the District of Columbia, a complex, expensive and time-consuming burden. Setting up an ILC enables them to avoid that multistate process and simultaneously to avoid the strict Fed supervision faced by many traditional bank holding companies.

Fintech companies like Square Inc. and student loan company Nelnet Inc. obtained ILC charters in Utah rather than national commercial bank charters. Nelnet Bank launched in November 2020. Square Financial Services went into operation in March 2021.

Fitch noted that none have been approved since Square and Nelnet. 

Attorney Scott A. Coleman, a partner at the national law firm Ballard Spahr LLP, wrote in an analysis recently that ILC charters have been controversial because a parent company that controls an industrial loan company and is exempt from the definition of a bank under federal law isn’t subject to numerous legal and regulatory restrictions on nonbanking activities.  

Critics of ILCs, such as the Independent Community Bankers of America, say corporate conglomerates or other companies engaged in commercial activities shouldn’t be allowed to own full-service or special purpose banks “in violation of the longstanding U.S. policy of maintaining the separation of banking and commerce.”

House opposition

In June, the House Financial Services Committee approved legislation that would make it more difficult for nonbank financial technology companies to offer financial products without complying with the safeguards required of traditional banks.

The bill aims to close what ILC critics call a loophole that allows fintechs to acquire industrial loan company charters from certain states and, as a result, engage in banklike activities across the nation. The legislation would essentially amend federal banking law to say that new industrial loan companies aren’t exempt from the existing legal federal definition of a bank.

As a result, the Fed would have the same authority to require a parent company of an industrial loan company to make reports and submit to examinations as it has with a bank holding company. Fintech owners of an ILC would essentially be treated like bank holding companies subject to Fed supervision.

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