De Novo Banks: Policy Issues for the 118th Congress
June 27, 2024
De Novo Banks: Policy Issues for the 118th Congress
While the size of the banking system has grown in terms of
Forming a New Bank
assets, the number of banks has steadily fallen over the past
Organizers of a new bank must apply for a bank charter at
four decades. For example, in the 1980s, there were more
either a state regulator (for a state charter) or the Office of
than 18,000 banks. Today, there are fewer than 5,000
the Comptroller of the Currency (OCC) (for a national
commercial banks. Consolidation has been facilitated by
charter). (Credit unions similarly have state and federal
mergers and acquisitions, bank failures, and, more recently,
charters, with federal charters issued by the National Credit
a downturn in the formation of new banks. New banks are
Union Administration [NCUA].) Simultaneously, the
called de novo banks (“from the beginning”). Generally, de
proposed new bank would need to apply for deposit
novo banks are smaller institutions, and their formation is a
insurance approval from the Federal Deposit Insurance
source of competition in the banking system. In the past
Corporation (FDIC) or share insurance from the NCUA.
two decades, the rate of de novo formation has bottomed
Regulators approve or deny applications on the basis of a
out, and Congress and regulators have long debated
few key factors, including the business plan, the
methods to revitalize interest in new bank formation while
qualifications of the proposed board and senior
balancing safety and soundness concerns over the health of
management, and the adequacy of the proposed capital
the newest, least established banks.
levels.
More than 1,000 new banks were formed between 2000 and
Supervisory Concerns for New Banks
2008. However, after the 2007-2009 financial crisis, the
Supervisors are cognizant of the higher likelihood of de
annual rate of new bank formation stalled and has barely
novos failing and set capital levels on an individual basis,
ticked up in recent years. Further, the failure rate of de novo
reflecting the risks of a proposed bank’s business model.
banks is relatively high: Research from the Federal Reserve
For example, the OCC “may determine that higher amounts
suggests that they failed at more than double the rate of
of capital than those the organizers proposed are warranted
more established institutions in the years leading up to the
based on local market conditions or the proposed business
2007-2009 financial crisis and are generally more prone to
plan.” Similarly, the Fed’s supervisory guidance states that
failure than are established banks.
“a de novo should maintain capital ratios commensurate
with its risk profile and, generally, well in excess of
Figure 1. De Novo Bank Formation
regulatory minimums.”
Quarterly Data from 2000 to 2024
Supervisors are also concerned with how and whether a
proposed bank can meet the community’s credit needs,
particularly as it applies to the Community Reinvestment
Act, and how the bank plans to comply with various
banking laws, including those that govern fair lending, anti-
money laundering, sanctions, and privacy policy.
Regulators are also concerned about the general decline in
the number of banks in the financial system. For example,
in April 2023, Fed Governor Michelle Bowman gave a
speech on the need for smaller institutions and stated that
“preserving and enhancing the number of banks should be a
regulatory and legislative imperative, including by
encouraging new bank formation.”
Source: FDIC analysis done by BankingStrategist.com. Data and
Regulatory Interest in Promoting De Novos
figure can be found at https://www.bankingstrategist.com/de-novo-
While bank regulators closely regulate de novos in an effort
bank-chartering-trends.
to appropriately guard against the risks they present, they
While actual formation has generally slowed, there has
also recognize the benefits these banks can generate and
been a recent resurgence in applications for de novo bank
have taken steps to encourage their formation. Given that
charters in recent years. The following section discusses the
deposit insurance is a critical threshold for a de novo to
pass, the FDIC states that it is “committed to working with
criteria by which a regulator considers an application for a
groups interested in organizing a de novo institution.” The
new bank charter.
FDIC has provided resources and guidance for new banks,
including a statement of policy on applications for deposit
insurance and a handbook for de novo charters. Meanwhile,
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De Novo Banks: Policy Issues for the 118th Congress
the Fed, OCC, and NCUA have also published manuals for
Banks raise capital in a few different ways, but a
obtaining a charter. Relatedly, the NCUA has begun
predominant way is by issuing common stock. Generally,
piloting a new program to give new credit unions 12
capital is more expensive to raise, particularly in
months to obtain necessary capital levels. The NCUA
comparison to debt or deposits. When regulators set higher
issued its first provisional charter under the pilot in May
capital requirements for new banks relative to established
2024.
ones to reduce their risk of failure (as discussed above), this
presents a barrier to entry if a potential bank cannot raise
In addition, the Fed has conducted occasional studies on de
the necessary funding.
novo formation in the past decade, finding that while
regulatory burden is a driver in “depressed de novo
Regulatory Timing for Applications
formations,” cyclicality in economic output is a stronger
Another issue is the time it takes for regulators to approve
factor. That said, regulatory burden is a consistent theme
applications. Historically, bank applications for a variety of
among banks in their interactions with their regulators.
activities (e.g., new charters, mergers, reorganizations) have
inconsistent time frames, and some applications can sit for
In some instances, the regulators are statutorily mandated to
several months without a decision. (Regulators also hold
monitor and support the formation of de novos. For
pre-application meetings with prospective institutions.
example, Section 308 of the Financial Institutions Reform,
Often problematic applications are withdrawn or never
Recovery, and Enforcement Act (P.L. 101-73), as amended
filed.) Some regulators are making efforts to expedite
by P.L. 111-203, requires the regulators to report on their
application processes. For example, on June 20, 2024, the
mandate to preserve and promote minority depository
FDIC board approved a resolution that automatically places
institutions, including efforts to provide these institutions
an application that has been pending for more than 270 days
with information and support regarding de novo formation.
on the next board agenda. It is to remain on each
subsequent agenda until a decision is made. Some
Policy Considerations
applications are more complex and merit more
Policymakers generally face a dilemma between promoting
consideration than others do. The FDIC found that between
new banks and a simultaneously safer banking system while
2013 and 2021, fewer than 10 applications pended for more
removing barriers to entry, particularly with respect to
than 270 days. That number has increased in recent years.
capital requirements. This is mainly because capital
requirements are an expensive regulatory hurdle for banks
Legislation and Congressional Interest
to clear, but they are also one of the most important tools
In May 2024, the House Financial Services Committee
for prudential regulation. While competition in the banking
ordered to be reported an amendment in the nature of a
system is reasonably high, with nearly 5,000 institutions,
substitute to H.R. 758, the Promoting Access to Capital in
consolidation may lead to regional or local “banking
Underbanked Communities Act of 2023. The bill would,
deserts” where access to banking services is increasingly
among other things, implement a phase-in of capital
scarce. In theory, new bank formation could reduce banking
standards for new banks over a three-year period for all new
deserts. However, there may be other reasons that dissuade
banks. Further, the bill would establish a new phase-in
a bank from forming in an area with limited financial
period for the Community Bank Leverage Ratio (CBLR; 12
service provisions. The banking industry has largely
U.S.C. 5371) capital requirement for “rural community
supported de novo formation, particularly as such a position
banks”—defined in the bill as banks with assets under $10
relates to reducing regulatory burden on banks.
billion located in rural areas (defined in 12 C.F.R.
Policymakers are generally in favor of increased
§1026.35(b)(iv)(A)), which would be set at 8% (as opposed
competition in the banking system, but there are opposing
to 9% for non-rural community banks) in the third year. It
views over to what extent bank profitability should take
would also require regulators to establish lower percentages
priority over capital adequacy and other safety and
during the first two years of the three-year phase-in. The
soundness measures.
CBLR would return to 9% after the third year.
Regulatory Capital Concerns
These measures would afford a new bank more time to raise
While each aspect of evaluating an application imposes a
the required amount of capital, thus lowering barriers to
cost on the proposed bank, it is likely the capital
entry. Further, for rural community banks, by using the
considerations that present the largest cost and thus the
leverage requirement under the CBLR as opposed to
biggest impediment to forming a new bank.
traditional risk-weighted capital requirements, the bank
would not have to calculate risk-weighted assets, which
Banks are generally required to hold a certain level of
would also reduce compliance costs. (The CBLR
capital to meet minimum regulatory requirements. Capital
framework is optional, and a rural community bank could
is a form of funding where losses can legally be transferred
opt out of the 8% rural CBLR framework if a risk-weighted
to equity holders without constituting a default. This is
approach actually yielded a lower amount of required
different than other forms of funding, such as deposits and
capital.) However, lowering the amount of capital these
bond issuance, which must be repaid. Regulators generally
banks have to hold may increase their likelihood of failure.
require banks to hold a certain percentage of capital as a
proportion of their “risk-weighted assets.” Risk-weighted
Andrew P. Scott, Analyst in Financial Economics
assets refers to a way of normalizing the assets on a bank’s
balance sheet for the risk they present.
IF12697
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De Novo Banks: Policy Issues for the 118th Congress
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