Financial Reform: What’s in it?

The President signed the Dodd-Frank Act (Financial Reform) this week, and we wanted to share what we know about what’s in it.

Many of the provisions still require what I’d call “implementation planning” — exactly how is this going to work? — but here’s what we know so far.   The law is primarily focused on avoiding future systemic banking system failure, and includes provisions that affect consumers, businesses, banks, investors, and investment advisors.

Here are some of the highlights:

For consumers:

• A new regulatory body, the Consumer Financial Protection Bureau, will be responsible for writing new rules on financial consumer products.
• New mortgage rules requiring those granting loans to verify applicants’ credit history, income, and employment status (establishing that you can actually pay back what you’re borrowing) may be helpful to those whose appetites are bigger than their paychecks.  And rules that require lenders to hold onto a certain percentage of the loans they write should limit lending to people at a high risk of default.
• New credit card rules may benefit consumers — card minimums now cannot exceed $10, and limits to the “interchange fees” that banks can charge merchants may lead to better prices for consumers.
• Got a complaint about a financial institution?  This act creates a national consumer complaint hotline to report problems with financial products and services.
• You’ll now be entitled to a free look at your credit score, not just your credit report, if it affects whether you get credit you’ve applied for.
• And if one of those “too big” financial companies needs to be liquidated, taxpayers will bear no cost.  FDIC can borrow only the amount of funds to liquidate a company that it expects to be repaid from the assets of the company being liquidated.

For businesses:

• Finally, the suspense over SOX 404 is over for smaller public companies.  For “non-accelerated filers,” (those with less than $75 million in market cap), the act amends Sarbanes-Oxley to make permanent the exemption from its section 404(b) requirement.  It  also requires the SEC to study (within 9 months) how to reduce the burden of 404(b) compliance for companies with market caps between $75 million and $250 million.
• New rules limiting the interchange fees that credit care issuers can charge merchants may help small businesses.

For investors:

• The bill addresses the conflict of interest created when banks and financial institutions pay a credit rating agency to evaluate their securities.
• It gives shareholders of publicly traded companies a vote on executive pay, though the vote is nonbinding.
• Executives of public companies who are paid based on their financial performance will have to pay back up to three years worth of compensation if the financial reporting that was used to calculate the pay turns out to be inaccurate and is restated.
• The  U.S. Commodity Futures Trading Commission and the Securities and Exchange Commission will have authority to regulate over-the-counter derivatives.  Banks will be prohibited from trading certain forms of derivatives, and most of the trading must occur on transparent exchanges.

Regarding financial institutions:

• The “Volker Rule” prohibits banks from engaging in proprietary trading (trading the bank’s money for profit), which some perceive as creating conflicts of interest.
• Banks’ relationships with hedge funds and private equity funds will also be limited, and they will be prohibited from trading certain types of derivatives.
• A new council will be watching.  The “Financial Stability Oversight Council,” will monitor the U.S. economy for underlying systemic risks and make recommendations to the Federal Reserve on issues created by firms that are deeply interconnected within the financial system.   The council will also monitor and advise Congress and the SEC regarding domestic and international accounting standards developments.
• Liquidation authority. The Federal Deposit Insurance Corporation will have a mechanism to unwind “failing systemically significant financial companies,” with no financial impact to taxpayers.

Regarding investment advisors:

• Regulation of more registered investment advisors will move from the SEC  to the states.  The threshold requiring registration with the SEC will be raised from $30 million in assets under management to $100 million, with smaller advisors regulated by the states.  Some exceptions apply.
• Private advisers are no longer exempt from registering with the SEC.  Advisers to venture capital funds remain exempt, as do those who only advise private funds and have U.S. assets under management below $150 million.  Family offices are also exempt.

There are more provisions (the bill is 2,300 pages).  We’ll keep an eye on developments as the new rules are  implemented.