Today, let’s talk about how owning a bank is different from owning other kinds of companies, and unique bank ownership responsibilities. Owning a bank generally provides more stability than many other industries. However, being a shareholder in a bank requires significantly more care and planning.
“Profitability does not guarantee dividends. Just because a bank is profitable does not mean it will distribute dividends.”
Dividends Are Not Guaranteed
One of the major differences is that profitability does not guarantee dividends. This is critical for both tax and cashflow planning. Just because a bank is profitable does not mean it will distribute dividends.There are two key reasons for this:
- Banking is heavily regulated.
- A bank may be overseen by two, three, four, or even more regulators, each looking at different aspects of the organization.
- Typically, there will be at least two regulators, with one serving as the primary regulator who periodically visits the institution.
- Regulators have the authority to suspend dividends if the bank faces significant issues—such as serious regulatory violations or financial problems. In such cases, dividends can be halted for an extended period of time.
- Capital requirements.
- Banks are required to maintain specific levels of capital.
- Falling below these ratios can place the bank in “troubled” status with regulators, or even lead to failure.
- If paying dividends would jeopardize capital ratios, the bank cannot make distributions, regardless of shareholders’ tax liabilities.
Because of this, bank owners must pay close attention to capital planning and their bank’s regulatory compliance.
Limited Activities
Unlike most companies, banks are restricted in the types of activities they can pursue.
- In other industries, a company might quickly decide to purchase land or start a new line of business. Banks, however, are limited in the types of real estate investments they can make. If a purchase looks speculative, it may not be permitted.
- Banks are generally restricted to financial-related activities such as lending, payments, deposits, insurance, and certain securities activities.
- Activities outside this scope—such as running a construction company or real estate investment firm—are not allowed.
- A bank holding company may hold a venture capital fund, but even that comes with restrictions.
For shareholders who own other commercial entities (such as real estate or operating businesses), it’s critical to maintain clear separation between banking activities and non-banking activities. The ownership hierarchy of the bank and other companies must not overlap in ways that cause regulatory conflicts.
There are a few limited exceptions—such as industrial bank charters and industrial loan charters—but those are difficult to obtain and often controversial.
Shareholders’ Requirements and Background Checks
If you hold a significant interest in a bank (e.g., 10% or 25%), you will likely be required to submit biographical information to regulators. This means a background check.
- Not just anyone can hold a controlling interest in a bank. Regulators will review your background, banking or financial services experience, and history with regulated industries.
- If you lack direct banking experience, that may still be acceptable—but regulators will scrutinize your management team and directors. They will want assurance that qualified leaders are directing the bank’s operations, rather than leaving control solely in inexperienced hands.
This makes owning a bank very different from taking a controlling stake in most other companies.
The Bank Holding Company Act
Another critical factor is the Bank Holding Company Act.
- If a group—whether a corporation, partnership, trust, or association—holds 25% or more of a bank, it must apply with the Federal Reserve to be recognized as a bank holding company.
- The application process is extensive and similar to forming a bank itself. Regulators will review how the holding company intends to operate and ensure it contributes stability to the bank.
- Once approved, bank holding companies face reporting requirements, including financial reports, ownership changes, and other filings with the Federal Reserve.
This can create challenges for families or groups of shareholders. For example, a family trust or partnership may unintentionally be classified as a bank holding company, subjecting it to these requirements.
Shareholder agreements, voting blocs, and other arrangements that consolidate control can also trigger notice or application requirements. Failing to comply can result in significant penalties.
Notices of Change in Control
Bank shareholders must also comply with change in control notices.
- If you acquire or sell a significant interest (10%, 25% or more), you will likely need to submit advance notice to regulators.
- These requirements extend into estate planning and family gift planning. It is very easy to overlook a required notice or application when transferring ownership interests.
The consequences of noncompliance are severe: fines can accrue daily, reach tens of thousands of dollars quickly, and even exceed a million dollars in serious cases.
Conclusion
Owning a bank is not like owning shares in other corporations. It requires:
- Careful tax planning
- Ongoing capital planning to ensure the bank’s strength
- Attention to regulatory compliance to preserve the ability to pay dividends
- Strategic estate and ownership planning to avoid penalties
That said, because banks are regulated and operate methodically, they often provide more stability as investments than companies in many other industries.
Farley Law specializes in working with both community banks and small businesses. If you are interested in learning more about these or any other income-generating activities for banks, please feel free to contact us at Farley Law, where we help our client financial institutions develop new products and financial services.
