Bank C&D Orders and MOUs

We can help you in the event that your federal or state bank regulator has advised your Board of Directors of their intention to subject your bank to an order or enforcement action. There are two types of orders issued by bank regulators: (i) informal written commitments and (ii) formal orders.

Informal Written Commitments. Informal and voluntary written commitments are sometimes made by the Board of Directors of a bank to its regulator, if the composite CAMELS rating of a bank drops to a 3. Informal written commitments are designed to correct any deficiencies that the banking regulator has identified in an examination that are deemed more serious than "matters requiring attention" that do not reduce the composite CAMELS score below a 2. Informal written commitments are not publicly disclosed and are not enforceable with civil money penalty assessments. The most common informal written commitments are (i) Board resolutions, approved by the bank regulator, that direct the bank's management to take corrective action regarding certain specific deficiencies, and (ii) a Memorandum of Understanding, which is signed by the bank's Board of Directors and the bank's regulator, that direct the bank to take corrective action regarding a broader range of deficiencies.

Formal Orders. Formal orders are publicly disclosed written agreements or cease and desist orders, and usually put in place if the composite CAMELS rating of a bank drops to a 4 or 5. These orders, among other things, usually prohibit the distribution of dividends from a bank to its holding company. If a bank breaches the terms of a formal order, the regulator has the power to assess civil money penalties against a bank and directors.

We recommend retaining legal counsel prior to signing any informal commitments or formal order with a federal or state bank regulator. In certain instances, the terms of the commitments or order can be negotiated with the regulator. In other instances, the written commitments or formal order may require the Board of Directors to consider taking such actions as (i) conducting a capital raise (through either a private securities offering or the issuance of additional holding company debt), (ii) significantly changing the policies and procedures of the bank, (iii) conducting a formal internal investigation, or (iv) hiring additional executive officers.

Bank Mergers & Branch Acquisitions

Whether you are buying or selling a bank or branch, we can help you structure, negotiate and fully document your transaction. We are experienced in assisting our clients in successfully negotiating and closing their bank merger and acquisition transactions.

If you are thinking about buying or selling a bank, you should consider talking to an experienced bank merger and acquisitions attorney before you sign a letter of intent or start negotiating the transaction price or structure.
Complex corporate, tax, employment, and employee benefit laws can affect the price, structure, documentation, and closing date of an M&A transaction. Whether the deal is a stock sale, a merger transaction or a purchase and assumption transaction, there will be legal issues that will crop up that have not been considered by the parties during their initial acquisition discussions. Consequently, it is not unusual for bank executives to come to a verbal agreement on a deal, and then have to significantly renegotiate it after consulting with their attorneys.

You should consider negotiating and signing a non-binding letter of intent, before going through the time and expense of completing the buyer’s due diligence and negotiating a definitive purchase agreement. The purpose of this non-binding document is to set the expectations of the parties with respect to purchase price, transaction structure, timetable for completion of buyer’s due diligence, and timetable for negotiation of a definitive agreement. The buyer may also wish to add a binding “no-shop” exclusivity provision to the letter of intent, to stop the seller from negotiating with other parties for a set period of time after the signing of the letter of intent.

The specific wording of the contract language on purchase price, transaction structure and post-closing indemnification provisions can sometimes be subject to extensive negotiation. If you are concerned as to whether there truly is a meeting of the minds on these points, you should consider having the letter of intent include the precise wording of some of the core provisions that you want in the definitive agreement.

You should understand the financial implications of the tax treatment of any bank or branch acquisition. Acquisitions between community banks are typically all-cash deals, with the acquisition being partially funded by the buying holding company receiving a loan or selling new shares of stock. Such taxable all-cash deals are generally classified by the IRS as either (i) an asset sale, (ii) a stock sale or (iii) in the event of a stock sale in which the seller is a Subchapter S corporation, a Section 338(h)(10) election. Here are the primary differences between these types of tax classifications:

Asset Sale. An "asset sale" includes (i) a forward merger (such as the seller's bank being merged into the buyer's bank) and (ii) a branch acquisition. In an asset sale, if the seller is an S corporation, the seller’s shareholders will generally pay capital gains tax on goodwill, and ordinary income tax on “hard assets,” such as buildings and equipment. In addition, if a Subchapter S bank is sold within five years after making an S election, a special entity level tax on any built in gains is imposed on the seller. The buyer is able to deduct the purchase price over several years by depreciating the assets with a stepped-up basis. The buyer can also amortize good will over 15 years.

Stock Sale. A "stock sale" includes (i) a reverse merger (such as a subsidiary of the buyer being merged into the seller) and (ii) a purchase of the stock of a bank. In a stock sale, the seller pays the capital gains tax on the difference between the purchase price and seller’s basis in the stock. The buyer inherits seller’s cost basis and depreciation on tangible assets. The buyer cannot amortize good will.

Section 338(h)(10) Election for Stock Sale of S Corporation. The Section 338(h)(10) election is a joint election of the buyer and seller that is frequently used for the stock sale of an S corporation. The election permits the stock sale to be treated as an asset sale for tax purposes. As the election can sometimes cause certain significant negative tax consequences for the seller, (i) the election should be carefully reviewed by the seller’s accountants and (ii) all of the seller’s shareholders will need to consent to the election. The seller pays the capital gains tax on the difference between the purchase price and seller’s basis in the stock. The buyer is able to deduct the purchase price over several years by depreciating the tangible assets with a stepped-up basis. The buyer can also amortize good will over 15 years.

If a portion of the purchase price being paid to the seller’s shareholders is the stock of the buyer, then it may be possible to structure the transaction so that the seller’s shareholders are not taxed on the shares of buyer’s stock at the time they receive them. Instead, in a “tax free reorganization,” the seller’s shareholders will defer payment of any taxes on the shares of buyer’s stock until the date in which such shares are sold. The seller shareholders would still pay taxes on any cash that they receive in the transaction.

In a tax free “A Reorganization” (such as a forward merger), at least 40% of the value of the total purchase price must be in the stock of the buyer. In a tax free “C Reorganization” (such as a purchase and assumption transaction for substantially all of the assets of the seller, followed by the liquidation of the seller), at least 80% of the value of the total purchase price must be in the voting stock of the buyer.

You should have the purchase agreement specifically address any relevant employee issues, such as employment agreements, non-compete agreements, and the termination of seller’s employee benefit plans. Employment and non-compete agreements with key individuals can either be signed on the closing date or at the time of the signing of the purchase agreement (with the employment agreements being contingent upon the closing occurring). If the transaction is a merger or stock purchase transaction, the buyer should review all of seller’s employee benefit plan documents and Department of Labor filings.

If the acquisition is being made between banks co-located in the same rural banking market, you should confirm that there are no antitrust issues that could delay or block the acquisition. The competitive effects of a bank merger are evaluated by the federal banking agency of the buying bank and the United States Department of Justice (the "DOJ"). The federal banking agencies and the DOJ use the Herfindahl-Hirschman Index ("HHI") formula to measure the competitive effects of a bank merger. HHI is computed for each bank in a banking market by (i) determining each bank's percentage of deposits, (ii) squaring the percentage and (iii) multiplying the total by 10,000. A banking market's HHI is determined by adding up all of the HHIs of the banks in the market. The DOJ and federal banking agencies generally have heightened scrutiny – with a more lengthy application and approval process – of any merger that would cause the HHI to increase by more than 200 points to a level above 1800 based on increased concentration levels of deposits in any geographic banking market.

Prior to agreeing to any tentative closing date in an agreement, you should confirm the availability of the buyer’s data processor to conduct the data processing conversion. Closings for bank mergers and acquisitions are customarily done on a Friday, so that the data processing conversion can be completed over the weekend. It is not unusual for there to be certain Fridays during the year in which the data processing vendor will be unavailable to conduct a required conversion.

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Dave Berson
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dberson@banktaxlaw.com

This website provides general information about legal issues and developments in the law. Such materials are for informational purposes only and may not reflect the most current legal developments. These informational materials are not intended, and must not be taken, as legal advice on any particular set of facts or circumstances. You need to retain an attorney for advice on specific legal issues.

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