Correspondent Banks Share Loan Load

Area banks often have silent partners.

The name may not show up on the signature line of a loan, but without correspondent banking partners, local banks couldn’t make as many large loans as they do.

A correspondent bank is any bank that has another bank as a customer, whether it’s participating in a loan or providing other services.

Larger banks such as U.S. Bancorp of Minneapolis, with assets of $209 billion, have a larger lending capability and the ability to get better rates for the community bank’s local customer.

“Some borrowers would rather go to one place and tell the story one time,” Gary Head, chairman and CEO of Signature Bank of Arkansas, said of correspondent deals.

Most of the time, the loan may be for a customer with pristine credit, but the local community bank can only loan them so much money.

“For the most part, these credits are ‘A’ grade,” said Chris Wilson, senior vice president of Chambers Bank of North Arkansas. “They are clients everyone wants.”

Shannon Scroggins, who until recently was a correspondent banker for U.S. Bancorp, said his territory included all of Arkansas and a small portion of the Kansas City metro market. He recently moved to Chambers Bank as a senior vice president in a lending capacity.

Scroggins said, of his entire banking portfolio, about 85 percent of it is in Arkansas. And of that 85 percent, about 90 percent of the Arkansas activity is the northwest corner of the state.

Scroggins worked for U.S. Bank for nearly three years.

“I’m like a big brother,” Scroggins said in an interview before his move to Chambers.

For example, a customer might pay a 7 percent interest rate to a local bank, but in reality the correspondent bank has signed on and gotten the bank a 6.5 percent interest rate on the loan amount. Therefore the local bank will earn one-quarter to one-half of 1 percent on the interest rate for servicing the loan for the larger bank.

Head said the local bank usually retains a service fee for originating the loan, which is negotiable. Head said the norm is one-quarter of 1 percent of the interest rate on the loan.

Scroggins said when a bank came to U.S. Bank, they were usually at their lending limit with the customer.

Scroggins said he was usually the second or third set of eyes on a loan deal.

“The community bank has already assessed the situation,” he said.

Scroggins said he had a “hit ratio” of about 60 percent, meaning he ended up taking six or seven out of 10 loans.

He said the largest single loan in his U.S. Bank portfolio was $60 million, with most of his loans ranging from $5 million to $10 million.

Scroggins said he helped give banks the ability to provide services that the bank couldn’t normally offer on its own.

For example, a small bank with a few locations can offer more than 6,000 ATM locations because the bank is using the U.S. Bank ATM system/network.

Scroggins said he also helped banks lease equipment from dump trucks to copy machines to the banks’ respective customers. He also offered cash letters, interest rate swaps and capital market services.

Scroggins said he does see a time when Northwest Arkansas banks will ask for more equity or “true cash” in the deal, or at least larger banks will slow down on projects in the next six to 18 months.

The 100 percent financing option, where the borrower doesn’t have any cash in the deal except for equity established on the property itself, won’t go on for much longer, he said.

On many loans, the banker might be loaning 80 percent of value of the appraisal but funding 100 percent of the cost, Scroggins said.

Scroggins said he has participated in a lot of local 100 percent financed loans, which is what most banks have done in Northwest Arkansas in the last five years.

“But they’ve had the economy and demand to support that,” Scroggins said.

Craig Huston, president of the Kansas City region of Enterprise Bank, said his company is looking to expand its presence in the Northwest Arkansas market but more so with its services than with participation loans.

Huston joined Enterprise from U.S. Bank about six months ago. He worked with Scroggins.

Huston said correspondent banking is changing from a more credit-driven activity, such as loans and check clearing, to more of a service-driven activity with technology products.

Huston said he will be offering local banks Wholesale Wealth Management Services from Enterprise, which is what Huston calls a “family CFO” concept.

Enterprise will offer to be a bank’s “back room” by giving a bank the ability to offer its customers personal business, estate and tax planning. Huston said Enterprise has certified public accountants and lawyers on staff who can help with estate plans and wills.

“It’s outsourcing, which is kind of a buzz word nowadays,” Huston said. “Bigger banks have economies of scale. They can offer things at a lower price and a lower cost basis. Banks don’t have to have the personnel involved to run it.”

The new wealth management product would generate fee income for the local bank. The customer would pay the bank or Enterprise the fee for the service, which could range from $1,000 to $20,000, depending on the deal.

Enterprise would then take 10 percent to 20 percent of the fee charged.

But many correspondent transactions involve local participating banks.

Local Loans

An Arkansas state-chartered bank can offer individual loans up to 20 percent of its combined equity capital and loan-loss reserves.

For The Bank of Fayetteville, that puts the institution at an individual lending limit of about $6 million (PDF). Banks report equity capital to the FDIC quarterly.

For nationally chartered banks, the individual lending limit caps out at 15 percent of equity capital and loan-loss reserves.

“Sometimes it’s not that we need to sell loans for legal lending purposes, but we sell them to out-of-town banks that want to diversify their lending portfolio,” Wilson said. “The outside bank gets the percentage of interest and they don’t have to really do anything. It’s a win-win situation.”

“What it does is allow that bank to grow in this market without ever having to put a bank here,” Head said. “The customer is dealing with us and not them. We always tell our customers who we are selling it to.”

Unlike most banks that facilitate participation loans with larger banks that probably do not have branch offices set up in the area, Head said Signature Bank’s correspondent activity is split about even between local participating banks and larger out-of-town banks.

Competition might steer a local bank from participating in a correspondent loan with another local bank, but The Bank of Fayetteville said “why not?”

“Why not keep it in our own area, rather than automatically selling it out,” said Mary Beth Brooks, BOF president and CEO.

Brooks said some local banks think ‘what’s to stop this bank from trying to steal my customer’s business.’

“Both of us have the same approach: it’s that having competition just improves you as a banker,” Brooks said.

Aside from crucial relationships, Brooks said turnaround time also influences the bank’s decision when picking a correspondent partner.

Huston said he relies on local bank’s expertise when considering a participation loan. He said if the bank’s customer meets his underwriting requirements for the loan, he’d like to think the local bank has generally hit its lending limit with the customer, who is more than likely a long-time customer.

He said he turns down deals that don’t meet his underwriting specifications.

Larry Olson, president of Metropolitan National Bank in Washington County, said a normal correspondent loan usually involves two or three banks.

Metropolitan has $100 million in capital and reserves. On an individual basis, they can loan 15 percent of that or $15 million.

But the number of participating banks can stack up to 30 or 40 if the amount is large enough. Olson said that type of activity might happen once a year, if that.

“Let’s say if our legal limit is $50 million,” Olson said. “We can pretty much handle all the loans the customer might have and we don’t have to sell many participations. But if that same customer comes up and has $150 million worth of projects, then we are going to have to sell some [loan amount] off.”

ABB Services Banks Only

On any given day, Arkansas Bankers’ Bank could be doing business with more than 150 different banks.

The Little Rock bank established in 1990 is owned by 83 different Arkansas-based banks, said James Thomason, president of ABB.

Thomason said ABB never originates loans and is strictly a correspondent bank.

“We are never in competition with customer banks,” Thomason said. “We are here to provide services for them.”

Thomason said the banks total footing or assets is in the area of $130 million. It ended the year with about $18 billion in equity capital.

He said a majority of ABB’s assets are in government securities and municipal bonds.

Thomason said AB probably runs through its federal fund pool and other accounts anywhere from $5 billion to $6 billion per day.

About 15 percent of ABB’s total assets are in participation loans. The rest of its correspondent support comes in the form of different services. ABB has a substantial “cash letter” business.

Essentially, ABB helps other banks keep track of what their respective daily intake is while they are waiting for transactions to clear through The Federal Reserve Bank.

Thomason said a bank will have ABB manage its cash letter because it enables the bank to better manage its cash on a daily basis.

At the end of the day, ABB settles with each respondent bank and then sweeps excess funds into the Federal Fund agency pool. Conversely, if the bank lacks liquidity that day, funds from the Federal Fund agency pool are advanced to that bank.

Thomason said ABB settles with 112 banks on a daily basis.