On July 30, the FDIC Board of Directors proposed a rule change that could significantly alter how banks classify deposits associated with third-party service providers. In short, the new rules would greatly expand the amount of brokered deposits, as well as the number of third-party deposit brokers — walking back key elements of the 2020 final rules. The FDIC cites the large bank failures of 2023 and the recent collapse of Synapse Financial as justification for the policy shift.
Of course, it’s appropriate for the FDIC, government officials, banking leaders and consumer protection groups to be searching for solutions to prevent incidents like these in the future. Yet these new rules are misguided. Rolling back the progress made on brokered deposits in 2020 would not have prevented the recent failures and will hurt the very financial institutions the FDIC claims to be trying to help: community banks.
Brokered deposits aren’t the problem
Brokered deposits did not contribute to the bank failures in 2023. Rather, it has been well documented that a key driver for the run on these banks was extraordinarily high amounts of uninsured deposits. The percentage of brokered deposits at each bank before their collapse was very small: Close to 0 percent in the case of Silicon Valley Bank and less than 7 percent in the case of First Republic. In fact, the bank runs proved that brokered deposits, the majority of which were FDIC insured, were among the most stable.
It’s also worth asking: Why did the FDIC mention Synapse in its proposed rulemaking notice? The banks behind Synapse are not failing, and the Deposit Insurance Fund is not at risk of having to pay. By all accounts, it looks like Synapse was poorly run and lacked proper controls to meet the promise to their customers. The Synapse failure had nothing to do with whether deposits were classified as brokered or not.
The rise of fintech, however, does speak to the ill-advised nature of the proposed rule changes. Nearly 1.3 million account holders now use services through Banking-as-a-Service (BaaS) companies to meet their needs. To classify any funds deposited at a bank through a third-party service provider as brokered — as the proposed rules would — is at worst anti-innovation and at best lazy. There are a wide range of financial applications that aggregate deposits as a byproduct of the service, and in most cases such deposits are the opposite of “hot money.” If anything, the bank failures of 2023 show that these deposits are a legitimate and stabilizing tool for well-run financial institutions to fund their banking activities.
Proposed rules present significant challenges to community banks
For community banks, the proposed rule change presents a significant challenge. While the FDIC aims to clarify what constitutes a brokered deposit, the proposed reclassification adds a new layer of complexity for smaller institutions, which will have to file notices and applications for primary purpose exceptions.
This extra administrative burden will increase community banks’ costs. At the same time, classifying a wider breadth of deposits as brokered will result in higher assessment fees, further straining their resources. All this diverts focus from their primary mission: serving their communities.
It is crucial to protect consumers and ensure that both fintechs and banks operate safely and soundly. However, overregulation is not the solution. Rather, fostering stronger relationships between fintechs and banks is essential. By encouraging collaboration and providing oversight through regulatory sandboxes, the industry can test new products in a controlled environment, ensuring safety for both banks and their customers.
While the FDIC’s intentions are rooted in consumer protection, the proposed rule change could unintentionally harm community banks. A more nuanced approach is needed — one that balances the need for innovation with the imperative of maintaining a stable banking system.
Thomas is Chief Strategy Officer at deposit management services firm Ampersand.
