On March 17, 2020, the Board of Governors of the Federal Reserve System ("Board") issued a significant revision of its intra-agency appeals procedures (the " Revised Procedures"), which allow financial institutions to appeal a wide spectrum of material supervisory determinations. These revisions are significant, as the Board had not previously revised its procedures since their initial issuance in March 1995 (the " 1995 Procedures").
The Board invited public comment on proposed amendments to the 1995 Procedures more than a year ago, and incorporated several changes in the Revised Procedures in response to comments received from industry groups – including comments submitted by Pryor Cashman LLP ("Pryor Cashman") on behalf of the New York League of Independent Bankers ("NYLIB"). One of the Board's goals in putting revisions to the appeals process out for public comment was to identify changes that would make the process "more useful and approachable" for financial institutions. The Board "encourages institutions to make use of the revised [appeals] process."
This client update summarizes some of the most significant changes to the appeals process, and offers an analysis of takeaways for financial institutions. On the whole, the changes effected by the Revised Procedures are positive for financial institutions in that they make the Board's intra-agency appeals process more useful, fair, and transparent.
Expanded Definition of "Material Supervisory Determination." The 1995 Procedures defined the term "material supervisory determination" as "includ[ing], but . . . not limited to, material determinations relating to examination or inspection composite ratings, the adequacy of loan loss reserves and significant loan classifications." Supervisory determinations for which an independent right of appeal existed (e.g., prompt corrective action directives issued pursuant to section 38 of the Federal Deposit Insurance Act, as amended) were excluded from the definition.
While the use of the phrase "including but not limited to" in the 1995 definition suggested that material supervisory determinations in addition to the three listed examples could be appealed, the Board's spare definition created uncertainty as to what additional determinations were in fact appealable. In addition, the 1995 Procedures' specification that "composite" examination or inspection ratings were appealable could have been read to suggest that component examination or inspection ratings (e.g., the "Management" rating in a CAMELS rating or the "Risk Management" rating in a ROCA rating) were not appealable.
The Revised Procedures expand on the definition of "material supervisory determination" by making clear that the term "includes, but is not limited to," several additional categories of determinations, namely: "any material determination relating to examination or inspection composite ratings, material examination or inspection component ratings, the adequacy of loan loss reserves and/or capital, significant loan classification, accounting interpretation, Matters Requiring Attention ('MRAs'), Matters Requiring Immediate Attention ('MRIAs'), Community Reinvestment Act ratings (including component ratings), and consumer compliance ratings." The Revised Procedures' definition of "material supervisory determination" still excludes "any supervisory determination for which an independent right of appeal exists." In addition, Revised Procedures specify that the definition of "material supervisory determination" excludes "a referral to another government agency" – such as "written notice of a referral to the Attorney General pursuant to the Equal Credit Opportunity Act ('ECOA')."
Reduction from Three to Two Levels of Appeal. The 1995 Procedures provided for three levels of appeal – first to a review panel comprised of a qualified person or persons at the Reserve Bank not involved in the material supervisory determination at issue and not reporting to the person who made the determination; second to the Reserve Bank President; and third to an appropriate Governor of the Federal Reserve Board.
The Revised Procedures provide for a more streamlined, two-level appeal process. A first level appeal will be heard by an initial review panel comprised of three Reserve Bank employees selected by the director of the appropriate division of the Board – who will presumably, in many cases, be the Director of the Division of Supervision and Regulation. The initial review panel will be advised by an attorney in the exercise of its responsibilities. The initial review panel members and the attorney advisor must not have participated in the material supervisory determination at issue and must not directly or indirectly report to the person who made the determination.
A second-level appeal will be heard by a three-person final review panel. The final review panel will be appointed by the director of the appropriate division of the Board (e.g., the Director of the Division of Supervision and Regulation) and will include at least two Board employees, at least one of whom must be an officer of the Board at the level of associate director or higher. The Board's General Counsel will appoint an attorney to advise the final review panel in the exercise of its responsibilities. The members of the final review panel and the attorney advisor must not be employed by the Reserve Bank that made the material supervisory determination under review; must not have been members of the initial review panel; must not have been personally consulted regarding the issue being determined and provided guidance regarding how it should be resolved; and must not directly or indirectly report to the person or persons who made the material supervisory determination under review.
Record on Appeal. The 1995 Procedures did not clearly specify what the record was that would be reviewed by the Reserve Bank President (at the second level of appeal) or the appropriate Governor (at the third level of appeal). While it was clear that the record included the materials submitted by the appealing institution, the initial review panel could consider materials to which the institution did not have access (e.g., examination workpapers), and presumably the Reserve Bank President and Governor could as well. In addition, while the institution was required to present "all the facts and arguments that the institution wishe[d] to present" to the initial review panel, the Reserve Bank staff were under no such requirement, suggesting that they might have been able to supplement the record with new evidence at subsequent stages of appeal.
The Revised Procedures provide that the scope of the final review by the final review panel will be confined to the record upon which the initial review panel made its decision. The Revised Procedures also provide that the initial review panel must "identify the information upon which the panel relied in reaching its conclusion," and further require it to "promptly provide that information to the institution upon the institution's request to the extent permitted by law." An appealing financial institution thus will have access to the record upon which the initial review panel made its decision (and to which the final review panel's review will be limited) as it is formulating its appeal to the final review panel.
The Revised Procedures' requirement that the initial review panel identify the information upon which it relied and provide that information to the appealing financial institution was added by the Board in response to the comment letter that Pryor Cashman LLP submitted on behalf of NYLIB. The comment letter opined that "[r]easoned decision-making and fairness would be promoted if the initial review panel is required to provide the appealing financial institution with a copy of the record." The Board described its response to NYLIB's recommendation as follows in its commentary to the Revised Procedures:
One commenter suggested that the appealing institution be provided the record on appeal from the initial review panel. In many instances, the record will include the voluminous and confidential examination work papers, the majority of which are not pertinent to the determination being appealed and not appropriate for dissemination to the appealing institution. The final appeals process has been revised to require that the initial review panel be precise in identifying the information upon which it relied in reaching its conclusion, and that it promptly provide such information to the institution upon the institution's request to the extent permitted by law.
In other words, while the appealing financial institution will still not be permitted to access the entire volume of examination workpapers, due to the Board's response to NYLIB's comment, the appealing financial institution should be able to review and cite to the examination workpapers relied upon by the initial review panel in its appeal to the final review panel.
Standard of Review. The 1995 Procedures did not specify a standard of review at any of the three levels of review, though the Revised Procedures provide a standard of review for the initial and final review panels.
Specifically, the Revised Procedures provide that the following standard of review is to be applied by the Initial Review Panel:
The panel must consider whether the Reserve Bank's material supervisory determination is consistent with applicable laws, regulations, and policy, and supported by a preponderance of the evidence in the record. In doing so, the panel shall make its own supervisory determination and shall not defer to the judgment of the Reserve Bank staff that made the material supervisory determination though it may rely on any examination workpapers developed by the Reserve Bank or materials submitted by the institution if it determines it is reasonable to do so.
The Board stated in its commentary to the Revised Procedures that the standard of review applied by the initial review panel may be considered a de novo (non-deferential) standard of review.
The standard of review for the final review panel is as follows:
The final review panel shall determine whether the decision of the initial review panel is reasonable. In reaching this determination, the panel should consider whether the decision was based on a consideration of the applicable law, regulations, and policy, and whether there has been a clear error of judgment. The final review panel may affirm the decision of the initial review panel even if it is possible to draw a contrary conclusion from the record presented on appeal.
The Board's commentary to the Revised Procedures indicates that rather than performing a review of the record without deference to the initial review panel, "[t]he role of the final review panel . . . is to serve a role analogous to that of an appeals court that corrects errors in the decision made by the initial review panel."
Publication of Decisions. The 1995 Procedures did not require the publication of intra-agency appeals decisions, and such decisions were not published by the Board. Counsel for financial institutions prosecuting intra-agency appeals therefore could not cite to prior decisions as precedent. In addition, there was no way for industry participants to assess overall success rates for intra-agency appeals.
The Revised Procedures provide, for the first time, for the publication of decisions of the final review panel. Decisions of the final review panel will be published on the Board's public website with appropriate redactions to avoid disclosure of exempt information, such as the identity of an appealing financial institution. Alternatively, final review panel decisions will be presented in summary form if redaction is deemed insufficient to prevent improper disclosure of exempt information.
Key Takeaways For Financial Institutions
On the whole, the Board's revisions to the 1995 Procedures are positive for financial institutions.
A significantly wider variety of material supervisory determinations are now explicitly appealable. For example, while the 1995 Procedures explicitly allowed for the appeal only of composite examination and inspection ratings, the Revised Procedures now explicitly allow the appeal of both composite and component ratings. The inclusion of "accounting interpretation" and of MRAs and MRIAs in the definition of appealable "material supervisory determinations" is also significant for financial institutions, which are now assured that they can appeal those important determinations.
The reduction from three levels of appeal to two levels of appeal and the changes to the compositions of the review panels are a mixed blessing for financial institutions. Financial institutions may have preferred to have three bites at the intra-agency appeals apple than two. Yet, the Revised Procedures contain strong provisions providing for independence of the initial and final review panels, and the collaborative nature of the initial and final review panels – each comprised of three qualified persons advised by an attorney – may aid in decision-making.
The requirement – added in response to a comment letter submitted by Pryor Cashman on behalf of NYLIB – that the initial review panel must specifically identify the information it relied upon in reaching its decision and promptly provide this information to the appealing financial institution upon request to the extent permitted by law is very positive for financial institutions. Financial institutions appealing to the final review panel now will be able to review the record upon which the final review panel will make its decision for evidence supportive of their arguments or that undermines or contradicts the findings and judgments of the initial review panel. This change substantially levels the playing field between appealing financial institutions and Reserve Bank staff at the final review level.
The addition of standards of review allows counsel for financial institutions to emphasize to the initial review panel that it is required to "make its own supervisory determination" and that it is prohibited from " defer[ring] to the judgment of the Reserve Bank staff that made the material supervisory determination." While a financial institution that loses at the initial review panel level might have preferred a standard of review at the final review panel level that is less deferential to the initial review panel, the Revised Procedures' articulation of the standards of review at both levels of appeal will provide counsel for appealing financial institutions with new avenues of argument at the final review level.
Last, the fact that the Board will publish final review panel decisions will also prove helpful to financial institutions. Counsel for financial institutions will be able to cite to prior review panel decisions as supportive of their arguments, and financial institutions and their counsel will also be able to make more informed assessments of potential chances of success as they consider potential appeals. Conceivably, financial institutions may even be able to avert the necessity of an appeal entirely by making a successful argument to Reserve Bank staff based on published appeals decisions.
Notably, one thing that did not change in the Revised Procedures is that the deadline for a first-level appeal is short – 30 calendar days from the material supervisory determination. Financial institutions considering intra-agency appeals should consult with counsel promptly and should keep in mind that – in response to a comment submitted by Pryor Cashman on behalf of NYLIB – the final appeals procedures permit a financial institution to file a written request for an extension of time to file an appeal.
In short, the Board's revisions to the 1995 Procedures are positive for financial institutions in that they make the Board's intra-agency appeals process more useful, fair, and transparent. Financial institutions confronted with problematic or unwarranted material supervisory determinations should consider utilizing the Board's revised appeals process – as the Board has explicitly encouraged them to do.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.