U.S. Federal Housing Finance Agency Acts to Prohibit Federal Home Loan Bank Membership by Captive Insurance Companies

The Federal Housing Finance Agency (FHFA or Agency) on January 12, 2016 finalized a portion of the proposed rule that it had issued on September 12, 2014 redrawing the criteria for Federal Home Loan Bank (FHLBank) membership. Much of the 168-page preamble and final rule addresses points made in the many comments that were filed. Dechert submitted a comment letter on the proposal. 

While relenting on the 1 percent/10 percent mortgage asset requirements that had been proposed, which had garnered significant industry and political opposition, the FHFA went ahead and made good on its promise to prohibit captive insurance companies from FHLBank membership. The final rule, which becomes effective 30 days after publication in the Federal Register, unless enjoined, would: 

1. Prohibit captives from FHLBank membership by reengineering the statutory definition of “any insurance company”; 
2. Grandfather captives that were FHLBank members prior to September 12, 2014 for a period of five years from publication of the final rule in the Federal Register, at which point their membership would have to be terminated by the FHLBank; 
3. Limit the advances that such captives could receive in that five-year period to 40% of their assets, with a maturity date no later than the end of the five-year period; and 
4. Allow captives that had been admitted to membership on or after September 12, 2014 to remain as FHLBank members, without any new borrowing capacity, for a period of one year after publication of the final rule. 

The final rule’s statement of basis and purpose lays out the Agency’s analysis and defenses, which we believe inadequately support the final rule or the FHFA’s legal authority to adopt it. In that regard, the Agency lays out three basic defenses: 

1. As a matter of policy, captives should not have access to FHLBank System borrowing irrespective of their mission or profile; 
2. The Agency has the ability to intuit what Congress meant when it authorized “insurance companies” to be eligible for FHLBank membership in light of the changed financial characteristics of the insurance business; and 
3. Gramm-Leach-Bliley’s 1999 prohibition on FHFA terminations of FHLBank members may be superseded by an FHFA rule that requires the FHLBanks to terminate members. 

Whether captives are in the five-year, one-year or yet-to-be-admitted category, responsive strategies are likely to fall into one of four options: (i) legislative, (ii) litigation, (iii) restructuring, or (iv) a combination of each. The fact that this is an election year adds significant complexities and options to the choice of strategies. 

This action by the FHFA is meant to exclude captives and the REITs that have formed them, among others, from taking advantage of FHLBank borrowing advantages that the Agency believes were statutorily reserved for regulated banks, thrifts and multi-line insurance companies. The federal courts and their application of the Administrative Procedure Act may ultimately decide the Agency’s ability to take these actions.