SPRING 2024 FRAUD PREVENTION What Responsibility Does Your Bank Have to Customers? How Examiners Are Assessing Your Risk Strategies in 2024 WHAT ARE BANKERS’ TOP PRIORITIES FOR 2024? BANKER WEST VIRGINIA
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CHARLESTON, WV • MARTINSBURG, WV • MORGANTOWN, WV • PARKERSBURG, WV • SOUTHPOINTE, PA • WINCHESTER, VA The world of banking and financial services is evolving at lightning speed. Innovations in new technologies, virtual currencies, digital payment systems, lending services and the overall regulatory landscape are fueling the FinTech revolution, creating a financial services market that is more accessible, responsive and competitive than ever before. At Bowles Rice, our FinTech team is built on the firm’s strong foundational practices in banking and financial services, tax, business and corporate law, cybersecurity and information privacy, and government relations. Whether you are building the next universally adopted application or looking to acquire and implement one into your existing financial services business, our team is ready to assist. For experienced FinTech solutions, contact team leader Sandy Murphy at (304) 347-1131. FinTech Solutions bowlesrice.com Responsible Attorney: Marc Monteleone 600 Quarrier Street • Charleston, WV 25301 Follow us on Twitter @BowlesRice @bowlesbanklaw @creditors_law
CONTENTS ©2024 The West Virginia Bankers Association | The newsLINK Group, LLC. All rights reserved. West Virginia Banker is published four times each year by The newsLINK Group, LLC for the West Virginia Bankers Association and is the official publication for this association. The information contained in this publication is intended to provide general information for review, consideration and education. The contents do not constitute legal advice and should not be relied on as such. If you need legal advice or assistance, it is strongly recommended that you contact an attorney as to your circumstances. The statements and opinions expressed in this publication are those of the individual authors and do not necessarily represent the views of the West Virginia Bankers Association, its board of directors, or the publisher. Likewise, the appearance of advertisements within this publication does not constitute an endorsement or recommendation of any product or service advertised. West Virginia Banker is a collective work, and as such, some articles are submitted by authors who are independent of the West Virginia Bankers Association. While West Virginia Banker encourages a first-print policy, in cases where this is not possible, every effort has been made to comply with any known reprint guidelines or restrictions. Content may not be reproduced or reprinted without prior written permission. For further information, please contact the publisher at 855.747.4003. 2 Congratulations WVBA! 2023 MarCom Awards Winner 5 President’s Message Political Engagement Should Not Be Left to Others By Mark Mangano, WVBankers President & CEO 6 Staying Nimble With Commercial Loan Pricing Discover How To Navigate the Complexities of Setting Commercial Loan Rates in Today’s Economic Environment By Andrew Morgan, Director — Enterprise Risk & Quantitative Consulting, FORVIS 13 Expenses Recoverable by Holders of Consumer Loans After Borrower Reinstatement and Cancellation of a Trustee’s Sale By Jordan C. Maddy, Esq. and Joshua A. Lanham, Esq., Bowles Rice LLP 15 What Are Bankers’ Top Priorities for 2024? By Allison Maddock, Chief Product Officer, CSI 18 “An Ill Wind that Blows No Good” Economic Headwinds and Asset and Liability Management By Elizabeth Madlem, Vice President of Compliance Operations and Deputy General Counsel, Compliance Alliance 20 IRS SECURE 2.0 Guidance Roth Employer Contributions By Pentegra 21 Fraud Prevention What Responsibility Does Your Bank Have to Customers? By Jim Rechel, President, The Rechel Group Inc. 24 How Examiners Are Assessing Your Risk Strategies in 2024 By Milton Bartley, President & CEO, ImageQuest 26 2024 Upcoming Events 4 West Virginia Banker 21 6
We live in the most successful country in mankind’s history. That success is inextricably entwined with our democratic system of government. As citizens, we get to choose our leaders through elections. Elections are messy and rarely produce results with which any individual is completely pleased. However, the messy nature is what creates the environment for individuals and businesses to thrive. We live in a time when elections matter more than ever. In school, we are taught that elections are decided by the majority. I am not certain that the statement is correct. In many cases, elections are decided by those who care the most. Political engagement can and should influence elections and the elected. I encourage you to make your own commitment to political engagement. Political engagement can and should mean different things to different people. I suggest that the elements of political engagement are learning, supporting and sharing. Each element is vitally important to our system of government and critical to assisting elected officials in fulfilling their duties. The first element is learning. Take time to understand what candidates stand for. Candidates are people. As people, they are usually complex. Seldom does a one-line sound bite capture their character, views and abilities. Knowing how a candidate thinks will help you evaluate whether — and to what extent — the candidate deserves your support. The second element is supporting. If your investigation leads you to believe, on balance, that a candidate deserves your support, decide the support level you are willing to provide. Support can be as simple as voting. Beyond that, you can agree to give your time, money or influence to aid the candidate’s election prospects. The third element is sharing. Before and after a candidate is successfully elected, he or she has a very difficult job. We expect our elected officials to understand our concerns. No single person can understand every important issue. As bankers, we can be an invaluable resource to our elected officials. We have critical perspectives on community needs, economic development, serving and protecting our customers, and enhancing opportunities for our fellow citizens. Never underestimate the value of your unique perspectives. I encourage you to strive to become a trusted advisor to an elected official just as you are for your customers. As ordinary citizens, we can have an extraordinary influence on public policy. If we care sufficiently, we can help select the best possible elected officials and help them to be the best-informed leaders they can be. An added bonus is that it is personally rewarding to make and support a new friend and make our state a better place to live. Get out and be extraordinary. PRESIDENT’S MESSAGE Political Engagement Should Not Be Left to Others By Mark Mangano, WVBankers President & CEO 5 West Virginia Banker
Staying Nimble With Commercial Loan Pricing Discover How To Navigate the Complexities of Setting Commercial Loan Rates in Today’s Economic Environment Introduction In the world of commercial lending, the prime lending rate has traditionally been reserved for borrowers deemed to have the best credit quality and lowest probability of default. Credits of lesser quality are normally charged a higher rate, representing a spread over the prime rate. The prime rate is typically 300 basis points (bps) over the federal funds target rate, although many institutions have their own bank-specific prime rate. To battle inflation and reign in economic activity, the Federal Reserve has increased its target rate by 525 basis points over the last two years. The prime rate has followed the federal funds rate directly while the rest of the U.S. Treasury (UST) curve, representing market rates rather than managed rates, has also risen, but to a lesser degree. Market rates reflect investors’ long-term inflation expectations and other market dynamics, which may or may not follow changes in managed rates. During the current market cycle, these underlying interest rate changes and the stiff competition between lenders have resulted in many new loan rates being quoted at 100 bps or more below prime. Within this very challenging environment, two relevant questions emerge. Prime Minus Lending • Why are we seeing so much “prime minus” lending? • How should lenders respond to these market forces stressing their margins? By Andrew Morgan, Director — Enterprise Risk & Quantitative Consulting, FORVIS 6 West Virginia Banker
Let’s first look at changes in the UST curve over the last few years. UST Curve 1 Mo 6 Mo 1 Yr 2 Yr 3 Yr 5 Yr 7 Yr 10 Yr June 2020 0.13 0.18 0.16 0.16 0.18 0.29 0.49 0.66 June 2021 0.05 0.06 0.07 0.25 0.46 0.87 1.21 1.45 June 2022 1.28 2.51 2.80 2.92 2.99 3.01 3.04 2.98 June 2023 5.24 5.47 5.40 4.87 4.49 4.13 3.97 3.81 Sept. 2023 5.55 5.53 5.46 5.03 4.80 4.60 4.61 4.59 Table shows changes in the U.S. Treasury curve in the last three years. Federal Reserve. federalreserve.gov. While the U.S. economy was dealing with the fallout caused by the COVID-19 pandemic, the U.S. government, the Federal Reserve and the U.S. Department of the Treasury were busy providing fiscal stimulus and relief packages. In addition to the CARES Act and the American Rescue Plan, monetary policy actions like quantitative easing and holding interest rates near zero, the Paycheck Protection Program, student loan forbearance, and stimulus checks to individuals flooded the markets with liquidity. Deposit balances at banks surged. As the pandemic eased and consumers returned to work and resumed normal purchasing patterns, supply-chain bottlenecks and the stimulus-induced liquidity caused inflation to rise to levels not seen since 1981. These inflationary concerns caused long-term rates to rise. Between June 2020 and June 2022, the five-year treasury, a benchmark for commercial loans, rose by 272 basis points, while short-term rates rose by only 125 basis points. In response to the rapid onset of inflation, the Fed began raising its target rate. The federal funds rate has now been raised 11 times in 17 months for a total of 525 basis points. Initially, the UST curve maintained its positive slope, but eventually, the long end of the curve couldn’t keep pace, resulting in the inverted curve we have today. The following graphic illustrates how the UST curve has changed. It should be noted that the short end of the UST curve historically tracks the federal funds rate very closely while the long end of the curve does not. Graph shows changes in the U.S. Treasury curve in the last three years. Federal Reserve. federalreserve.gov. Let’s now look at how bank performance has changed due to this rapid increase in rates. The table on the next page is the median data gathered from all commercial and savings banks with total assets below $10 billion. 7 West Virginia Banker
From the end of 2020 to the middle of 2022, both loan yields and deposit cost of funds decreased. On the loan side, contractual runoff was being replaced with new loans at lower rates. Weak demand and competitive pressure for commercial loans kept the rate on new loans below 4.00%. Non-interestbearing and other low-cost deposit balances continued to increase, resulting in the cost of liabilities bottoming out in the middle of 2022. Beginning in the third quarter of 2022, banks began quoting (and receiving) higher rates on commercial loans. The long end of the UST curve, i.e., the Ten Year, also increased, causing higher rates on new residential mortgages. For a short time, net interest margins increased as banks deferred increasing their deposit rates. As you can see in the graph on the next page, by the middle of 2023, deposit cost increases outpaced the increase in loan yields, resulting in decreased margins. This trend is predicted to continue as loan yields are rising at a slower pace and deposit costs continue to increase. Assets < $10B 2020 Q4 2021 Q2 2021 Q4 2022 Q2 2022 Q4 2023 Q2 Loan Growth Rate -7.87 1.24 4.72 15.33 12.11 10.12 Loan/Asset 63.15 59.69 57.70 59.41 63.09 65.25 Deposit Growth Rate 13.79 5.73 10.21 1.08 -1.45 -3.21 Loans/Deposits 73.94 69.67 67.08 67.84 72.93 76.52 ROA 0.98 1.15 0.91 1.02 1.12 1.03 ROE 8.96 10.95 8.74 11.42 13.25 11.50 Equity/Assets 10.67 10.35 10.18 8.85 8.82 9.11 NPLs/Loans 0.65 0.54 0.45 0.37 0.32 0.29 LLR/Loans 1.30 1.31 1.32 1.29 1.24 1.25 Prime Rate 3.25 3.25 3.25 4.25 7.25 8.25 New Volume Rates 3.91 3.67 3.61 4.29 5.76 7.29 Loan Yields 5.08 5.09 4.96 4.76 5.22 5.66 Cost of Funds 0.45 0.32 0.26 0.26 0.61 1.29 Loan Yield/Cost Spread 4.63 4.77 4.70 4.50 4.61 4.37 Bank performance metrics over the last three years. S&P Global Market Intelligence — New Volume Rates from LoanPricingPRO® (www.forvis.com/why-forvis/innovation/loanpricingpro). 8 West Virginia Banker
Loan yields versus the costs of funds. S&P Global Market Intelligence — New Volume Rates from LoanPricingPRO (www.forvis.com/why-forvis/innovation/loanpricingpro). While there are many reasons for this increased margin pressure, one of the main contributors is the way commercial loans are being priced. Below is an illustration of how current loan yields and, more importantly, new loan rates compared to the prime rate. Until the end of 2021, bankers remained disciplined in attaining a spread over prime on new commercial loans. Even with rates at historical lows and facing fierce competition, the yield spread was 40-60 bps over prime. Since mid-2022, there has been a dramatic shift. Rates offered on new loans, while still increasing, have dropped to a negative spread to prime. This trend worsened by the third quarter of 2023 to nearly 100 basis points below prime. Loan yields relative to the prime rate. S&P Global Market Intelligence — New Volume Rates from LoanPricingPRO (www.forvis.com/why-forvis/innovation/loanpricingpro). There are likely many reasons for this trend. Competition has remained fierce, with too much liquidity chasing too few loans. Also, alternative investment options now have yields well below the rates on new loans. To many lenders, a 7.50% loan rate looks great compared to the 4.00% new loan rate from 18 months ago. Finally, some believe rates have peaked and will start 9 West Virginia Banker
to decline soon. All of these are common reasons to consider locking in loans at rates below prime. But let’s not forget about the increased cost of funding these loans. Banks that have a disciplined pricing model can easily calculate the profitability impact of today’s environment. This should include a profitability analysis of the full customer relationship and not just loan profits. Decisions to offer commercial loans at rates less than prime should be based on sound pricing analytics. LoanPricingPRO® Scenarios Two years ago, the average commercial customer typically had loans with rates 40-60 bps over prime as well as significant non-interest-bearing deposit balances. The value given to these deposits through a funds transfer pricing process allowed for very competitive pricing on the loan. The example below shows a floating rate loan priced at prime with profitability slightly below the target. But, after adding the compensating non-interest-bearing deposit, the full customer relationship return on equity exceeds the bank’s minimum target levels. June 2021 — Floating rate loan at prime and large non-interest bearing deposit. Fast forward to today. If this loan has been renewed or replaced at a “prime minus” rate, the relationship may still be profitable if the cost of those same deposits hasn’t increased by more than the change in market rates. But, if the rate paid on those deposits has increased substantially or if they have moved to a high-yield CD or money market account, then the value of these deposits has fallen, and they are no longer providing support for a lower loan rate. In this case, the loan rate needs to have a much higher “prime plus” rate to compensate for the higher deposit cost. Current environment — Floating rate loan at prime minus 100 bps and large NIB DDA. Current environment — Floating rate loan at prime plus 100 bps with high-cost deposit. 10 West Virginia Banker
Conclusion There is no one-size-fits-all approach to setting rates on commercial loans in today’s challenging environment. However, the bank can maintain profitability through any interest rate environment by adhering to a disciplined approach to making pricing decisions based on a complete understanding of relationship profitability. Scan the QR code to visit the LoanPricingPRO® page to learn more about the FORVIS strategic loan pricing solution. https://www.forvis.com/why-forvis/innovation/loanpricingpro TAKE YOUR MEETING TO NEW HEIGHTS AT AMERICA’S RESORT. Prepare to have your minds come alive in an environment that is both inspiring and captivating. From elegant ballrooms to intimate boardrooms, The Greenbrier features a variety of spaces that can accommodate meetings of any size. Experience the difference at America’s Resort and elevate your next meeting. 101 Main Street, West White Sulphur Springs, West Virginia 24986 304.536.7882 • Greenbrier.com 11 West Virginia Banker
Expenses Recoverable by Holders of Consumer Loans After Borrower Reinstatement and Cancellation of a Trustee’s Sale By Jordan C. Maddy, Esq. and Joshua A. Lanham, Esq., Bowles Rice LLP Foreclosure is an inherently expensive process, and the West Virginia Consumer Credit Protection Act (WVCCPA) limits the default charges that may be charged to consumer borrowers following the reinstatement of their loans. Nevertheless, West Virginia Code § 46A-2-115 provides an avenue through which holders of consumer loans may recover various foreclosurerelated expenses. This statute was amended by the West Virginia Legislature in 2016 to make it easier for consumer lenders to collect the fees identified by the amended statute. Before 2016, it was unclear whether the prior version of the statute authorized creditors to recover foreclosure-related expenses after consumers reinstated their loans prior to a trustees’ sale. Prudent creditors were faced with a dilemma: they could either allow defaulting borrowers to reinstate their loans after the foreclosure process had started and forego the recovery of foreclosure-related expenses; or they could reject borrowers’ requests to reinstate their loans, go forward with a trustees’ sale, and recover foreclosure-related expenses from the proceeds of the trustees’ sale. The 2016 amendments were intended to benefit consumer lenders and consumer borrowers by incentivizing lenders to allow borrowers to reinstate their loans and by allowing creditors to recover reasonably incurred foreclosure-related expenses following loan reinstatement and cancellation of a trustees’ sale. While the West Virginia Supreme Court of Appeals has yet to construe the WVCCPA’s limitations on default charges provision following the legislature’s 2016 amendments, the amended language supports the considerations that resulted in the current version of the statute. The statute expressly provides that creditors may recover: (A) Costs of publication; (B) an appraisal fee; (C) all costs incidental to a title examination, including professional fees, expenses incident to travel and copies of real estate tax records; (D) expenses incidental to notice made to lienholders and other parties and entities having an interest in the real property to be sold; (E) certified mailing costs; and (F) all fees and expenses incurred by a trustee incident to a pending trustee’s sale of the real property securing the consumer loan. W. VA. Code § 46A-2-115(b)(2) (emphasis added). The catchall provision in subsection (F) is particularly notable, given its scope. Moreover, subsection (F)’s scope is buttressed by subsection 13 West Virginia Banker
(A) of the statute, which indicates that foreclosure-related expenses may be recovered under the amended statute. See West Virginia Code § 46A-2115(a) (emphasis added) (“Except for reasonable expenses, including costs and fees authorized by statute incurred in realizing on a security interest, the agreements that evidence a consumer credit sale or a consumer loan may not provide for charges as a result of default by the consumer other than those authorized by this chapter.”). However, there are two very important preconditions to the recovery of these expenses. First, the governing loan agreement (or note or deed of trust) must expressly authorize the recovery of these expenses. As most West Virginia consumer lenders know, West Virginia courts have long interpreted the WVCCPA to prohibit the collection of any fee or charge unless it is expressly authorized by the WVCCPA and provided for in an agreement between a borrower and the creditor. Second, creditors must comply with the following requirements imposed by West Virginia Code § 46A-2-115(b)(3): (A) Each charge is reasonable in its amount; (B) each charge is actually incurred by or on behalf of the holder of the consumer loan; (C) each charge is actually incurred after the last day allowed for cure of the consumer’s default pursuant to section one hundred six, of this article and before the consumer reinstates the consumer loan or otherwise cures the default; (D) the holder of the consumer loan and the consumer have agreed to cancel any pending trustee’s sale or other foreclosure on the real property securing the consumer loan; and (E) in the case of an appraisal fee, no appraisal fee has been charged to the consumer within the preceding six months. W. VA. Code § 46A-2-115(b)(3) (emphasis added). Most importantly, a charge must be reasonable in amount, it must have been actually incurred, it must have been incurred after the expiration of a consumer’s right to cure under West Virginia Code 46A-2-106 but before a consumer reinstates a loan, and the creditor and borrower must have agreed to cancel any pending trustee’s sale. In sum, West Virginia Code § 46A-2-115 authorizes creditors to recover various default-related charges, including, most importantly, “all fees and expenses incurred by a trustee incident to a pending trustee’s sale of the real property securing the consumer loan.” However, before attempting to recover any charge from a consumer borrower, creditors must be careful to ensure that the charge is within the scope of the statute, is authorized by the loan agreement, note or deed of trust, and satisfies the statute’s reasonableness and timing requirements. As a result, consumer lenders should tread cautiously. If you have questions regarding the recoupment of foreclosure-related expenses, you may reach out to the Bowles Rice Banking and Financial Services Litigation groups by contacting Zachary Rosencrance at zrosencrance@bowlesrice.com or Floyd Boone at fboone@bowlesrice.com. Jordan C. Maddy is an associate attorney in the Morgantown, West Virginia office of Bowles Rice LLP. He is a member of the firm’s Financial Services Litigation team. Email Jordan Maddy at jmaddy@bowlesrice.com. Joshua A. Lanham is a partner in Bowles Rice’s Charleston, West Virginia office. A multifaceted litigator, he is also a member of the firm’s Financial Services Litigation team. Email Joshua Lanham at jlanham@bowlesrice.com. 14 West Virginia Banker
What Are Bankers’ Top Priorities for 2024? By Allison Maddock, Chief Product Officer, CSI To find out how bankers will confront challenges associated with a changing technology landscape, artificial intelligence (AI), cybersecurity, financial crimes and more, CSI surveyed banking executives from across the nation about their strategies and priorities for 2024. We highlight the results of this survey in an interactive executive report and dive into the challenges and emerging opportunities in our industry. This article explores the issues bankers selected as most likely to affect the industry in 2024, along with top technology trends. Top Industry Issues for Bankers in 2024 CSI’s survey explored the challenges facing bankers, asking respondents to identify which issue will have the greatest influence on the industry in 2024. Here are the issues bankers identified as their top concerns in the coming year: • Responding to High Interest Rates: Bankers indicated that continued high interest rates will affect the industry most, with 35% of respondents choosing this issue. To cope with this environment, 50% of respondents are offering competitive interest rates on deposits, and 46% plan to shift their investment strategy. Banks must evaluate the opportunities in their existing market and portfolio to offset decreased interest revenue. To find investments with a higher yield, like loans with variable interest rates, some institutions have also begun seeking new interest income opportunities (48%) and diversifying portfolios through resources like lending marketplaces. • Fighting Fraud: Coming in second, fraud was identified by 30% of respondents as the most pressing issue. Specifically, over four in 10 banks identified card fraud (45%) and wire transfer fraud (42%) as the foremost challenges. Fraud remains an ever-present threat, with the Federal Trade Commission estimating $8.8 billion in stolen funds throughout 2022. And the acceleration of AI is only increasing criminals’ ability to execute fraud. Keeping up with changing regulations and investing in the right technology is crucial for financial institutions to stay ahead of scammers and win the war on financial crime. • Keeping Up with Mergers and Acquisitions: Ranking third, mergers and acquisitions gained prominence among bankers, with 14% of the vote. Since this marks an increase from the 5% reported in last year’s survey, rising consideration of mergers and acquisitions could signal increased attention to market consolidation and plans for heightened M&A activity, recovering from the 2022 slowdown and headwinds throughout 2023. • Recruiting and Retaining Employees: Only 11% of bankers selected talent acquisition and retention, a significant decline from last year’s top spot (34%). This result could signal that bankers sense a stabilizing job market or potential to streamline operations, a likely factor contributing to overall optimism. • Navigating Regulatory Change: Contrary to the 27% reported last year, a mere 8% of bankers now view impending regulatory changes as the most pressing issue. However, more than eight in 10 bankers were concerned with all regulatory issues evaluated in the survey, including financial crimes compliance (89%), building a financial services ecosystem (88%) and cybersecurity compliance (87%). What Technology Trends Did Bankers Identify? Technology’s rapid evolution is reshaping the financial services landscape, introducing new opportunities and prompting banks to reassess their operations. Bankers in our survey generally 15 West Virginia Banker
agreed on the key technology trends driving changes and their potential effects in the coming year: • AI and Machine Learning: With 44% of respondents selecting their transformative potential, AI and machine learning emerged as 2024’s most impactful technologies. This result follows a year of headlines and stories around AI and machine learning’s potential to revolutionize risk management, customer service, fraud detection and personalized financial services. Further, AI and machine learning could potentially support the open banking and BaaS models through methods like API development and help banks better leverage data and automation. • Banking as a Service (BaaS): BaaS emerged as the second most impactful trend, capturing 20% of respondents’ votes. BaaS uses the foundation of open banking to foster collaborations between financial institutions, fintechs and neobanks. With BaaS, banks can seamlessly introduce new, innovative products and explore new markets. Notably, institutions in the $100 million-$250 million asset range expressed particular interest in BaaS, indicating smaller institutions’ growing enthusiasm for leveraging it to enhance operational capabilities and enrich customer offerings. • Digital Transformation: 18% of respondents selected digital transformation as the top trend, highlighting the continued industry-wide shift toward digitalization for improved processes and enhanced customer experiences. • Instant Payments: Since the Fed’s instant payments network made a splash in 2023, instant payments received only 10% of the vote for 2024, a sharp decline from previous years. • APIs/Open Banking: 7% of respondents chose APIs and open banking, a sharp decline compared to last year’s 17% of the vote. However, the lower response does not diminish the critical role of APIs in fostering collaboration in the financial ecosystem. Banks embracing open banking can harness data to streamline processes and continually introduce innovative solutions that can originate outside of their primary technology provider. Exploring Cybersecurity Concerns When asked about the single greatest cybersecurity concern facing the industry, 19% of respondents selected adapting to changes in the cyber insurance market. This result highlights potential uncertainty in forthcoming developments for cyber insurance, whether regarding increasing prices or coverage exceptions, and emphasizes the importance of better controls to mitigate risks. 18% of bankers also expressed concern about being unprepared to respond to a cyberattack, reinforcing the importance of planning responses to cyber incidents. This involves developing and testing robust incident response plans (IRPs) that cover data and system backups, communication plans, business continuity plans and strategies for dealing with attackers. In an era when cyber threats continue to make headlines, it’s critical that institutions remain vigilant and adopt comprehensive cybersecurity protections. Get the Full Results of the 2024 Banking Priorities Survey Want additional insight into bankers’ priorities and challenges? Scan the QR code to explore the results of the 2024 Banking Priorities Survey and learn about the latest strategies and trends relating to modern banking, cybersecurity, compliance, financial crimes and more. https://www.csiweb.com/docs/ banking‑priorities-2024/ 16 West Virginia Banker
“An Ill Wind that Blows No Good” Economic Headwinds and Asset and Liability Management By Elizabeth Madlem, Vice President of Compliance Operations and Deputy General Counsel, Compliance Alliance Financial institutions are facing headwinds on account of burgeoning non‑performing assets, corporate malfeasance, a slowdown in the economy and a mismatch between the maturity profile of assets and liabilities. Severe liquidity strains caused the failure of Silicon Valley Bank, Signature Bank and First Republic Bank. Yet despite weaker economic conditions, sharply higher interest rates, high inflation, financial market stress and concerns over a potential recession, the banking industry demonstrated resilience. How? Asset and Liability Management (ALM) is a common phrase thrown around a board room when in discussions about the viability and future of a bank. It is the practice of mitigating financial risks resulting from a mismatch of assets and liabilities, a combination of risk management and financial planning. Not only is it vital for the sustainability and longevity of financial institutions within the financial landscape, but it solidifies the important roles that banks play in maintaining the stability and growth of economies. Liquidity risk has become an increasingly important parameter for the assessment of a financial institution. But with a new age of depositor behavior and the evolution of regulations, achieving a dynamic, integrated ALM program is challenging for banks of all sizes. 18 West Virginia Banker
Low interest rates lasted years, resulting in complacency among financial institutions regarding deposit balance behavior. Then, during the past two rising rate cycles, deposit balances grew, coupled with an unusual systemic deposit inflow from 2020‑2021 as a result of COVID-19 pandemic-related government fiscal stimulus. But those early 2023 bank failures proved that depository behavior is changing. One of the more important lessons surrounded concentration risk. Prior, deposits were considered one of the safest products in the liability structure of a bank. But, as the industry quickly learned, some types of depositors are more sensitive than others. Large concentrations of a particular type of client create a higher risk of deposit flight, as was the case with SVB. As a result, banks are needing to diversify their funding basis. The ALM function covers a prudential component and an optimization role within the limits of compliance. Prudential meaning the management of all possible risks and rules and regulations, with optimization covering the management of funding costs, generating results on balance sheet position. But the industry is riddled with change: business cycles becoming aggressive, global ecosystems and third-party risks becoming more complex, regulations rapidly changing, more stringent compliance enforcement — financial institutions are going to be forced to adopt an agile ALM framework with a broader perspective scoping out broad objectives of the bank’s asset/liability portfolio, as dictated by the board in order to address new situations where a policy does not yet exist. With the adverse interest rate environments, it has been found that most ALM systems and processes are not providing accurate and explainable outcomes scaled to meet transaction processing requirements. They lack flexibility to support interest rate risk reporting, scenario modeling requirements and “what if” analysis and are unable to scale to account for a bank’s contract and account volume of deposits and loans. There exists a lack of transparency in the underlying calculation logic, resulting in unexplainable and independently unverified data. It is important for banks to assess the three pillars within an ALM program to include: ALM Information Systems, ALM Organization and ALM Processes. These pillars address the four key components examiners test on: board and senior management oversight policies; procedures and risk limits; management information systems; and internal controls and audit. ALM Information Systems addresses Management Information Systems and information availability, accuracy, adequacy and expediency. Information is the key to ALM strength. ALM organization requires a strong commitment from the board and senior management to integrate basic operations and strategic decision making within risk management. The ALCO decision-making unit monitors market risk levels compared to boardset risk limits, articulates the current interest rate view and view on the future direction of interest rate movements to strategize for future business opportunities, and reviews the results of and progress in implementation of the decisions made. Lastly, the ALM process encompasses a scope of liquidity risk management, management of market risks, trading risk management, funding and capital planning, and profitplanning and growth projection. While the above is not allencompassing, it does assist financial institutions in knowing that their ALM foundation is robust and agile to respond to evolving needs, and that it is modeling the balance sheet, projecting net interest income and economic value of equity, all while performing scenario analysis and stress testing to assess the impact of key performance indicators. This means also hiring a quality ALM professional who understands the need to replicate the portfolio from a sensitivity point of view when modeling a balance sheet or replicating cash flow, including complex structured products and embedded optionality. It requires accuracy and reliability to demonstrate what is happening right now within a portfolio. As stress testing and scenario analysis demands continue, banks need to be able to respond consistently to multiple scenarios via their credit stress models. It should account for evolving requirements, meaning the bank should be able to run a scenario analysis, including stress testing non-interestbearing checking accounts if there is a move to a higher interest rate. Financial institutions need to recognize that change is necessary for how they tackle managing liquidity and interest rate risks. ALM and liquidity as two essential parts of the bank’s overall model risk management structure. Ensure the board has at least one director with a solid understanding of balance-sheet management concepts. Be proactive in identifying risks and updating policies and procedures before implementing new products or activities. Reevaluate and communicate guidance and risk tolerances to bank personnel. With the economic landscape, particularly that of community banks changing significantly, it directly correlates to a heightened need for attention to ALM risk management strategies and processes. 19 West Virginia Banker
IRS SECURE 2.0 Guidance Roth Employer Contributions By Pentegra On Dec. 20, 2023, the IRS released Notice 2024‑02, “Grab Bag” guidance on certain provisions of SECURE 2.0. Let’s begin with Roth employer contributions. Optional treatment of employer contributions or nonelective contributions as Roth contributions. SECURE 2.0 allows DC plan sponsors to provide participants the option to take matching or nonelective employer contributions on a Roth basis, effective as of Dec. 29, 2022. With respect to this new provision, the Grab Bag notice provides the following guidance: • Sponsors may, but are not required to, include in their plan any type of Roth contribution — employee elective, employer matching or employer nonelective. • The rules currently (pre-SECURE 2.0) applicable to employee elective Roth contributions also generally apply to the new Roth employer contributions. Thus, the designation of an employer contribution as a Roth contribution “must be made by the employee no later than the time that the contribution is allocated to the employee’s account and must be irrevocable.” Roth employer contributions “are subject to inclusion treatment and separate accounting rules,” and the employee must be able to make or change the designation at least once a year. • The employer Roth contribution is included in income in the year it is allocated to the participant’s account (even, e.g., where the contribution is “deemed to have been made” for the prior year). • Only fully vested employer contributions may be designated Roth contributions. • Employer Roth contributions are not subject to federal income tax withholding under IRC section 3402 and are not wages under IRC section 3121(a), for purposes of FICA, or IRC section 3306(b), for purposes of FUTA. • Employer Roth contributions “must be reported using Form 1099-R for the year in which the contributions are allocated to the individual’s account. The total amount of designated Roth matching contributions and designated Roth nonelective contributions that are allocated in that year are reported in boxes 1 and 2a of Form 1099-R, and code ‘G’ is used in box 7.” • Employer Roth contributions are not included in the IRC section 415 safe harbor definition of compensation. This is intended to be a brief overview of just one of the topics covered in IRS Notice 2024-02. For additional guidance regarding SECURE 2.0, please visit Pentegra’s SECURE 2.0 resource page by scanning the QR code. https://www.pentegra.com/expertise/the-secure-2-0-act-of-2022/ The information, analyses and opinions set out herein are for general information only and are not intended to provide specific advice or recommendations for any individual or entity. Nothing herein constitutes or should be construed as a legal opinion or advice. You should consult your own attorney, accountant, financial or tax advisor or other planner or consultant with regard to your own situation or that of any entity which you represent or advise. The information set out or referred to above has been obtained from sources believed to be reliable. However, neither Pentegra Services Inc. (Pentegra) nor any of its affiliates has verified the accuracy or completeness of any such information. All information is provided “as is,” and Pentegra and its affiliates expressly disclaim all express and implied warranties regarding the information. Neither Pentegra nor any of its affiliates shall have any liability for any use of the information set out or referred to herein. Reprinted with permission of O3 Plan Advisory Services. 20 West Virginia Banker
Fraud Prevention What Responsibility Does Your Bank Have to Customers? By Jim Rechel, President, The Rechel Group Inc. The Fraud Odyssey The criminal ring targeting victims for identity theft, check fraud, loan fraud and auto theft were all connected by illegal drugs. But they used their knowledge of the digital world to monetize their victims in new and creative ways. Not unlike the 66 West Virginia residents charged in a largescale drug ring indictment announced on Jan. 24, 2024, these co‑conspirators brought more and more folks into their drug and fraud ring. The Story of One Victim Highlights a New Peril to Banks To preserve his identity, the following individual’s name has been omitted. He served as a WWII pilot in the Army Air Corps when he was 18 years old, flying multiple missions and training new pilots as the war waged on for more years than anyone thought. He returned stateside after the war ended, married his sweetheart and started a family and a Heating and Air Conditioning company with job sites throughout the Midwest. He was actively working at his company until his 92nd birthday. He wasn’t as strong, but he still had the wisdom and respect of his employees and customers. At 92, he said, “It’s time to retire.” Then came the daily coffee and breakfast at McDonald’s. The table of veterans surrounding the breakfast McMuffins and telling stories was a fixture for all the staff and customers, so much so that on his 98th birthday, the local TV news featured him on the nightly broadcast, and McDonald’s organized a tribute breakfast and invited the community. Unfortunately, his health took a turn down that same year, and he moved into the home of his daughter and son-in-law. He didn’t sell his ranch home and five acres, as he still went down to the old house occasionally to tinker. Unbeknownst to him, a criminal ring was watching the home as well. They saw it unoccupied most of the days and pounced. Unknown to the family, following the instructions provided to a group of burglars, they broke into his unoccupied home and stole financial documents and old checkbooks that the family did not know were still in the house. Within hours of the burglary, online inquiries and credit bureau inquiries took place. The fraud fuse was lit. 21 West Virginia Banker
Chart 1, shown below, was created to try to persuade the FBI to take the case due to the overwhelming interstate nature of the case, the complexity, and the continuation of the fraud attempts as the victims fought the fraud daily, not unlike “Whack-A-Mole.” Even with the victim being a decorated WWII veteran pilot, the one time he called for help from his country, they turned him away, saying, “We can’t work the case unless the loss exceeds $1 million.” The family was left to fight banks, credit card companies and lenders opening accounts using the victim’s name and personal identifiers at a record pace while the perpetrators continued their fraud unabated. Attempts to report the fraud accounts to financial institutions, which were opened in mere minutes, often took days and multiple phone calls. In one instance, a bank refused to take a fraud report until they could identify the victim through a driver’s license and video face identification of the victim. When the verification camera link did not function properly, the bank asked the now 99-year-old to go outside and have his daughter film him via the fraud reporting portal. Only after their facial recognition system confirmed his photo was the same as the driver’s license the victim supplied would the bank take a fraud report. This process took more than three hours to complete. The crooks had opened the account in mere minutes. At a local bank, the drive-through teller became suspicious of a check being presented as if written by their 98-year-old customer. The payee claimed it was for “painting a house.” They called the customer and spoke to the daughter (who had been added to the account). Neither she nor her father knew anything about the check or the payee. The bank called the police, but the perpetrators took off before they arrived. A seven-month odyssey of fraud then ensued, highlighting many of the macro issues facing banks challenged by the marketplace to make opening accounts and transacting business online faster and faster, with less and less friction. And a criminal justice system that is not equipped or inclined to help. Chart 1 — Reflects Change of Addresses at BMV’s, Postal Service, Checking Acct Fraud Accounts, Forged Checks, Credit Unions. Chart provided by Jim Rechel, President, The Rechel Group Inc. Ultimately, a dedicated lieutenant in a local police department worked with the family, and a U.S. postal inspector I knew worked with me to identify the perpetrators. After two years of continuing fraud, eight people were later identified and were prosecuted in state courts. They received six-to-eight-year sentences. One of the main participants has a criminal record, including drug dealing and homicide, and he knew how to stay in the background. Fortunately, he was convicted in other courts of criminal activity unrelated to this ring and is in prison for an extended period. WWII VETERAN CHECK/ID THEFT FRAUD FLOWCHART 22 West Virginia Banker
Three of the members of the fraud and drug ring are all serving their sentences in the same prison. Time will tell if this incarceration serves to change their ways or serves as a launching pad for future fraud schemes as they conspire daily on the prison grounds. What the Investigation Results Reveal for Bankers While the fraud illustrated previously is a solitary case, in a world of millions of fraud cases per year, it reflects macro changes taking place in the world of fraud, specifically the following: • The increasing knowledge and sophistication of the criminal rings targeting banks and their customers. • The speed at which criminals operate to monetize their stolen information, documents and PII. • The speed at which bank transactions move. (Think Fed Now and other FED changes to “Instant Payments” initiatives.) • The inability of law enforcement and the criminal justice system to respond to the fraud epidemic. • The evolution of “street criminals” to highly organized “cyber-savvy fraud rings.” • The overall moral decline in the marketplace and its implicit invitation to get “easy money.” • The identification and authentication of identities for account openings and transactions. What Bankers Need to Address Identifying steps your bank can take to address the rapid changes taking place will involve: • Investments in technology and fraud personnel equipped to use predictive modeling and AI. • Customer dashboards incorporating transaction and maintenance activity as part of fraud strategy. • Development of a fraud strategy, to include the level of support and advocacy the bank will provide to victim customers. • A systematic approach to the consolidation of fraud methods in real-time to respond to threats more quickly. Jim Rechel is president of The Rechel Group Inc., a leading risk consulting business providing organizations with fraud risk analysis, fraud prevention, detection and investigation services. He is a former banker and FBI Agent and now a fraud consultant who has overseen thousands of investigations with losses that ranged from $2,000 to $200 million and involved complex international criminal rings, government corruption and suicides/homicides, which were the direct result of the fraud schemes. More importantly, he has overseen investigations of modest dollar amounts that have devastating impacts on the customers and businesses that bankers serve. Interested in learning more about bank security or hearing from Jim Rechel in person? The WVBankers Bank Security School offers a comprehensive educational program tailored for both novice and seasoned Security Officers. Learn more by visiting www.wvbankers.org for our Calendar of Events. 23 West Virginia Banker
How Examiners Are Assessing Your Risk Strategies in 2024 By Milton Bartley, President & CEO, ImageQuest Community banks, often at the heart of local economies, find themselves at a crucial juncture where their approach to risk management, particularly in cybersecurity and operational resilience, could determine their future success or vulnerability. Whether your regulator is the OCC, the FDIC and DFI, or the FRB, you will likely face a heightened focus during your next exam on how you manage and mitigate risks, making this cycle a pivotal moment for your bank. This article draws on our firsthand experiences with community bank clients across recent examinations to shed light on emerging regulatory trends. By sharing insights into the specific focus areas we have noted during this exam cycle, from business continuity to cyber expertise, we offer a roadmap for your bank to effectively prepare for your next exam. The goal is not just to prepare for the scrutiny of the next examination but to foster a culture of proactive risk management that safeguards your bank’s future in an increasingly uncertain world. Elevating Business Continuity Management to Board‑Level Priority Examiners have asked detailed questions about business continuity management (BCM), specifically how your bank tested your plans and the results of those tests. But more than that, examiners wanted to know that management regularly presented the results to the bank’s board. Examiners asked for documentation detailing when management presented BCM testing results to the board. Examiners wanted to see that management had done more than summarize BCM into a paragraph in the annual Information Security report. They wanted clear evidence that BCM planning and subsequent testing were presented to the board as a detailed report — and discussed thoroughly by management. What does that mean for you? First, you should prepare a testing calendar at the beginning of the year that details your planned BCM tests. Then, regularly update the document throughout the year, detailing test results, observed issues and relevant remediation activities. Lastly, share that information with the board or an appropriate board committee. Board Reporting and Oversight Examiners have also asked what and how often management reported to the board — specifically about cybersecurity and IT operations — and how well directors grasped essential issues. Examiners’ questions focused on whether bank directors read their banks’ annual Information Security reports and asked relevant questions of management. There were questions about the IT Strategic Plan, how recently it was updated and what visibility the board had in the process. It is part of a board’s governance responsibility to approve the IT Strategic Plan, which should include the directors being familiar with its contents. 24 West Virginia Banker
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