Article

Evaluating the bank relationship is key for ATM deployers: Part 3

Commentary: This week, Marilyn Kilcrease of Creative Card Solutions reviews the warning signs ATM ISOs should recognize when their sponsoring banks are on the edge.

March 4, 2010 by

Following on this week's previous installment, which focused on ways independent ATM deployers could identify potential risks or warning signs in their sponsoring financial institutions, we close the week with a set of simple steps you can take to understand and know more about your sponsoring FI.

See the signs

Understanding the risks and warning signs of your sponsor bank's financial situation are only part of a service provider's contingency plan. Another component requires banks and other ATM deployers to consider what precautions can minimize disruption of service if a sponsor bank fails and a move must be made. After all, it is not a seamless or easy transition for service providers to move to a new bank when a bank fails. Accounts can be frozen. Many steps can be taken by service providers to protect their own businesses. At a minimum, the following precautions should be taken:

Protect your deposits and reserves

Most sponsor banks request that reserve accounts be established to mitigate program risk. Frequently these accounts are set up in the Bank's name to prevent a claim in event the service provider files bankruptcy. While prudent on the bank's part, it could have an adverse affect on the service provider if the bank, in effect, is bankrupt. Review how reserve accounts are set up.

Document ownership and insurance of pooled accounts Settlement and pooled accounts often are significantly more than the $250,000 FDIC-insured amount. Such accounts must be identified clearly as belonging to third parties, and detailed information must be retained on the individual owners of such funds. Even if the accounts are clearly identified, these accounts will be frozen until the regulators validate ownership and insurance protection. Service providers should obtain confirmation that pooled accounts have been properly designated and that documentation exists to substantiate individual ownership and insurance protection.

Protect ACH clearing accounts

Although ACH accounts do not fall into a "sponsored" relationship, service providers that process ATM transactions and settle via the ACH. This may or may not be performed by the service provider's sponsor bank. These accounts will be frozen for a period of time, and if the bank taking over the failed bank does not provide ACH services, there could be a lapse in service. Settlement is critical to any service provider. Determine the bank used for settlement, and review that bank's financials. If the bank reports losses, low Tier 1 ratios (less than 10 percent) and high charge-offs to loans (more than 2 percent), ask the processor to obtain a new settlement bank or consider changing processors.

FDIC liability for accounts exceeding $250,000

The FDIC is no different than any other insurance company and functionally it is required to carefully scrutinize any payouts. During a take-over, examiners review all accounts more than $250,000 to determine if they have liability for those amounts.

Even with those precautions in place, the new take-over bank has the choice to decline product lines not supported. A sale of assets (sponsorship programs) frequently happens if a sponsor bank has continuous losses. Providing sponsorship services for service providers is a specialized business and the new bank may not offer the same type of sponsorship, or management that understands the industry or network membership that is required. Products not placed with the new bank remain under the control of the FDIC for disposal. To plan for this disaster, consider the following tactics that could provide you with options in a worse-case scenario and mitigate the need to end your current relationship:

In new agreements, insist on a clause that allows the service provider to "Terminate for Cause," and define "cause" as net losses, decreases in Tier 1 capital, being assumed by the FDIC or sold to another bank.
In existing agreements, ask for an addendum providing the same "Termination for Cause." A bank with consecutive losses and/or barely minimum capital will be hard pressed to object to the service provider that demands additional protection.
Agreements should have the "right to approve assignments" of the agreement, otherwise the service provider has no choice in the new bank or the bank that may purchase the product or service.
Obtain legal advice. There may be other ways to terminate the agreement. If given a choice of termination or an addendum, the sponsor bank may agree to a "Termination for Cause" addendum.
If neither an addendum nor termination is an option, consider a second sponsor bank or at a minimum, give notice and start the sponsorship process with a new bank. Prepare a sponsorship package that includes financials, income tax returns, insurance, proof of corporate structure and good standing, and an overview of the business. Begin communication with other sponsor banks and obtain a sample of contracts for review. These steps are inexpensive and may save thousands.

Marilyn Kilcrease is the president of Creative Card Solutions, a managing partner of ATM ISO CashWorks and the president of CloudCover, a card-processing company. Susan Kohl, CEO of ThoughtKey, contributed to this article. ThoughtKey is a payment-industry consulting firm that focuses on PCI management, regulatory compliance, risk management and expert testimony. To submit a comment about this article, please e-mail the editor, Tracy Kitten.