What Is Insider Lending?
Insider lending occurs when a bank makes a loan to one or more of its own officers or directors. Many countries, including the U.S., require that the provisions of these loans match those given to comparable bank customers. This is done to ensure fairness and limit access to bank funds by insiders.
Insider lending should not be confused with insider trading.
Key Takeaways
- Insider lending refers to when an executive or director of a bank is loaned money from the bank that they work for.
- While allowable, insider lending is subject to many restrictions, including limitations on the amount based on the loan's purpose.
- Regulations also stipulate that bank insiders do not get any special treatment, incentive rates, or other benefits not offered to regular bank customers.
- Insider lending is regulated by the Federal Deposit Insurance Corporation (FDIC) under Regulation O.
Understanding Insider Lending
An insider, as defined by the Federal Deposit Insurance Corporation (FDIC), is an executive, director, or principal shareholder of a member bank. Loans made to these individuals are known as insider lending and are regulated by the FDIC under Regulation O.
The Federal Deposit Insurance Corporation Improvement Act of 1991 mandated new restrictions on the loan provisions offered to bank insiders. The restrictions include requiring the same loan rates, repayment terms, and evaluation of the insider borrower's ability to repay the loan as those extended to non-insider, non-employee borrowers, with the exception of special terms that are offered to all non-insider employees of the bank in question.
For example, if a bank offers a special interest rate or waives certain loan fees for all employees, then it may offer that same special consideration to an inside borrower, even though it doesn't offer those same special rates or fee reductions to non-insider, non-employee borrowers.
Banks are limited in the amount of insider credit that they can extend. The amount is 15% of unimpaired capital and unimpaired surplus if the loans are not fully secured. If the loans are fully secured then an additional 10% is allowed. It is advisable that a bank use the same loan limits for insider loans as it does for non-insider loans. Some recourse loans and secured loans may not count toward this limit.
What Is an Insider?
In the financial world, it can be difficult to determine who is an insider, particularly since the terms "director," "executive," and "principal shareholder" can have different meanings in different financial institutions. Furthermore, insider lending would also apply to individuals who hold these positions in affiliate companies.
In general, a person is not a director if they do not have voting rights and are not elected by shareholders. Most financial institutions have the title of "director" for many individuals in the firm. A principal shareholder is anyone who owns more than 10% of the voting rights of a company through shares.
An affiliate would not qualify for insider lending if it has more than 10% of unconsolidated assets in the company that controls the bank and itself is not controlled by another company.
Restrictions on Insider Lending
When an insider loan will bring the combined amount of credit offered to that insider to more than $500,000, or more than the greater of $25,000, or 5% of the bank's unimpaired surplus or unimpaired capital, the bank's board of directors must vote to approve the loan. The insider seeking the loan may not participate in this vote.
A bank can loan money or extend a line of credit to its executive officer if that loan is used to finance or refinance the officer's home or to fund the education of their children. Loans for other purposes cannot be made in an amount in excess of 2.5% of the bank's unimpaired surplus or unimpaired capital, or $25,000, up to $100,000. This limit also applies to partnerships of executive officers, so that if one executive officer borrows $35,000, the other partner may borrow only $65,000.
A bank cannot pay an overdraft on an account at that bank made by the director, the executive officer, or an affiliate without a written plan for the extension of credit or a written transfer of funds from another account at the bank.
FAQs
Insider lending occurs when a bank makes a loan to one or more of its own officers or directors. Many countries, including the U.S., require that the provisions of these loans match those given to comparable bank customers. This is done to ensure fairness and limit access to bank funds by insiders.
What is insider lending? ›
Insider lending includes extensions of credit to individuals, parent companies, subsidiaries, and any other company controlled by an insured depository institution. Stay abreast of promulgated rules and regulations that govern extensions of credit to insiders.
Who must approve an insider loan? ›
Banks should note that, with respect to loans that are subject to Regulation O's “prior board approval” requirement (12 CFR 215.4(b)), a majority of the entire board must approve the loan.
How does the lending system work? ›
The lender—usually a corporation, financial institution, or government—advances a sum of money to the borrower. In return, the borrower agrees to a certain set of terms including any finance charges, interest, repayment date, and other conditions.
What are the conditions for extension of credit to insiders? ›
Regulation O prohibits a member bank from extending credit to an insider that is not made on substantially the same terms as, or is made without following credit underwriting procedures that are at least as stringent as, comparable transactions with persons that are non-insiders and not employees of the bank.
What are the restrictions on insider lending? ›
Restrictions on Insider Lending
A bank cannot pay an overdraft on an account at that bank made by the director, the executive officer, or an affiliate without a written plan for the extension of credit or a written transfer of funds from another account at the bank.
Is insider trading risky? ›
Insider trading is a severe crime that can harm both the companies whose confidential information is leaked and the integrity and efficiency of financial markets where listed companies' shares are traded.
Who is considered an insider? ›
An insider of a company, as defined by the Securities and Exchange Commission (SEC), is an officer, director, or 10% shareholder of a company that has inside information into the company because of their relationship to the company or with an officer, director, or principal shareholder of the company.
Who decides whether a borrower gets the loan? ›
Underwriting is the process by which the lender decides whether an applicant is creditworthy and should receive a loan. An effective underwriting and loan approval process is a key predecessor to favorable portfolio quality, and a main task of the function is to avoid as many undue risks as possible.
Who will approve the loan? ›
The approval procedure is initiated by the lender once you submit the loan application with the necessary documents. Based on the lender you choose, it can take two to three working days to get the approval and may take longer if you fail to submit the right documents.
Capacity. Lenders need to determine whether you can comfortably afford your payments. Your income and employment history are good indicators of your ability to repay outstanding debt. Income amount, stability, and type of income may all be considered.
How does a lender make money? ›
Lenders make money from origination fees, yield spread premiums, discount points, closing costs, mortgage-backed securities (MBS), and loan servicing.
What is insider credit? ›
It covers, among other types of insider loans, extensions of credit by a member bank to an executive officer, director, or principal shareholder of the member bank; a bank holding company of which the member bank is a subsidiary; and any other subsidiary of that bank holding company.
What three things must be disclosed to the borrower prior to extending credit? ›
Some of the most important aspects of the TILA concern the information that must be disclosed to a borrower before extending credit, such as the annual percentage rate (APR), the term of the loan, and the total costs to the borrower.
Which loans to insiders require prior board approval? ›
Specifies that if the aggregate loan amount to an insider of the bank or the bank's affiliate exceeds the higher of $25,000 or 5 percent of the member bank's unimpaired capital and surplus, the loan must be preapproved by the bank's board of directors.
How illegal is insider trading? ›
Insider trading is deemed illegal when the material information is still non-public and comes with harsh consequences, including potential fines and jail time. Material non-public information is defined as any information that could substantially impact that company's stock price.
What are the three types of insider trading? ›
Classic Insider Trading: Buying or selling assets based on important non-public information. Tipper-Tippee Trading: An insider gives others access to confidential information so they can trade using it. Trading During Blackout Periods: Insider trading during times when particular people are barred from trading.
Is insider buying good or bad? ›
Insider buying, when company executives buy their own stock, can signal confidence in a company's future and potential investment opportunities. Legitimate insider buying is legal and publicly disclosed, providing valuable insights into a company's health and prospects.
