http://www.ajc.com/business/risky-loans-fuel-banks-142083.html Risky loans fuel bank's fast fall Practice common among state's failed banks 4:13 p.m. Saturday, September 19, 2009 By Russell Grantham The Atlanta Journal-Constitution When federal regulators rolled into the parking lot of Alpha Bank & Trust last October to seize the bank, it became one of the quickest bank failures in the nation in recent years, losing almost half its assets after only 29 months in business, by regulatorsâ estimates. But the risky â and possibly illegal â operating methods the Alpharetta bank used to fuel its rapid rise and fall arenât unique at all, according to some industry experts. Alpha greatly increased its chances of failure by doubling up its high-risk loans to real estate developers and home builders â often in apparent violation of state and federal banking regulations, according to a recent post-mortem of the bankâs failure by federal auditors. The auditors also criticized state and federal regulators for not demanding an end to the bankâs risky behavior before it was too late to save it. It was a pattern that was repeated by many banks, according to some industry players. Federal audits that have been done on five of the 23 Georgia banks that have failed in the past 13 months also indicate that regulators were slow to act and improper lending practices were common at the most troubled banks. The prevalence of risky and improper lending practices at small banks in Georgia, including a technique called âloan stacking,â prompted state regulators to tighten regulations governing lending limits earlier this month. Three weeks ago, the Federal Deposit Insurance Corp. also tightened rules on required capital levels, and extended its extra monitoring of new banks from the first three years of operation to seven years. Risky practices Industry representatives and some regulators say relatively few of Georgiaâs 300-plus banks skirted state and federal banking rules. Most of the stateâs banks operated properly but still suffered heavy losses because they didnât anticipate the sudden collapse of metro Atlantaâs real estate market in 2006 and 2007, they say. âDid [some banksâ] violating that law contribute significantly to their failures? Probably not,â said Steve Bridges, with the Community Bankers Association of Georgia. They would have failed anyway, he said, because âthe whole [real estate development] industry fell off the wagon.â But others in the industry say loan stacking and other risky practices became widespread in Georgia in recent years, exacerbating many banksâ losses when the economy tanked. At banks that failed, the directors could find themselves personally liable to the FDIC for losses if the institutions violated legal lending limits or other regulations. Loan stacking, or financing several separate subdivisions or other projects controlled by one developer, became common in Georgia, Florida, California and other booming regions as banks made loans to fast-growing real estate developers and home builders, said Jerry Blanchard, an Atlanta banking lawyer with Bryan Cave Powell Goldstein. Georgia banking law has long barred institutions from lending more than 25 percent of their capital â or funds available to absorb losses â to any single borrower. But most developers incorporate each project as a separate company. Many banks reasoned that each project was a separate borrower, even though they may all be owned by one individual. âIt was very common because most of these developers didnât have just one subdivision. They might be working a dozen different subdivisions,â said Blanchard. But in a deep recession, a developer can default on most or all of those loans, said Blanchard. Bending limits Two weeks ago, new state banking rules went into effect that clarify that such lending arrangements are barred. But the new rule also gave banks âa free pass, so to speakâ on a related issue, said Blanchard. Because many banksâ capital has shrunk from continuing losses, they might violate the revised rule if they renew large loans, even if the borrowers are making payments on time. The revised rule allows loan renewals in those cases. The risks of loan stacking were magnified by the fact that some developers and builders also borrowed from several or even dozens of other banks as well, said Blanchard. The latter issue is illustrated by the case of two Jonesboro construction companies controlled by developer Brandon Robertson. Robertsonâs companies, R&B Construction and Joy Built Homes, borrowed more than $91 million from 40 financial institutions, including Alpha Bank & Trust, to finance 35 subdivisions around metro Atlanta. Robertsonâs firms filed Chapter 11 bankruptcy petitions early last year after the real estate market collapsed. They owed $2.3 million to Alpha Bank & Trust and millions more to 10 other Georgia banks that have since failed. Auditors with the FDICâs Office of Inspector General also cited some of those failed banks, including Integrity Bank in Alpharetta, FirstBank Financial Services in McDonough and The Community Bank in Loganville, for exceeding federal and state regulatorsâ lending limit rules, among other issues. The audit report on Alpha Bank & Trust, however, highlights how an aggressive growth strategy and alleged bending of lending limits and other banking regulations quickly backfired and led to the small bankâs spectacular failure. Recipe for disaster When it was launched in May 2006, the state-chartered bank was the largest new Georgia institution, with $36 million in initial capital. Bank examiners from the FDICâs regional office in Atlanta and the Georgia Department of Banking and Finance initially gave the bank high marks as they alternately inspected the bank in 2006 and 2007. But the bank quickly went off track with a âhigh-riskâ growth plan, and bank regulators were slow to take action despite recognizing at least some of the risks, according to the auditorâs report. âVirtually from its inception, the institution did not fully adhere to its approved business plan or loan policy, pursuing high [construction and development] loan growth without adequate diversification or sound controls and risk management practice,â the audit report stated. Auditors said the bankâs management quickly decided to ramp up its growth plans by borrowing through high-cost brokered deposits and heavily concentrating its lending to developers and home builders. The bank didnât inform regulators of changes to its business plan, as required for new banks. By the end of its first year in business, Alpha Bank had far outstripped its five-year growth plan, with $278 million in assets at mid-2007 and 75 percent of its loan portfolio invested in the real estate construction and development business. The bank later grew to $383 million in assets. By mid-2007, the bank already had lent five times its capital to the boom-and-bust real estate development industry, despite warnings in 2006 by the FDIC and other regulators that a 300 percent concentration was considered excessively risky. Action âtoo lateâ Alpha Bank bent several rules along the way, according to auditors. The bank ignored a state regulation by making loans to nine individual customers that each exceeded 25 percent of its capital. A search of property deeds by the Atlanta Journal- Constitution showed that Alpha Bankâs loans to only six of those customers totalled at least $58 million. That was more than double its capital, which continued to dwindle because of the bankâs losses. Auditors also cited multiple violations of an FDIC regulation barring no-money-down loans to builders and developers and apparent attempts to mask loan losses through accounting maneuvers. The rule requires that land developers have at least a 35 percent down payment to obtain a loan, for instance. The FDIC began pressing the bank in mid-2007 to explain its evolving business strategy, but auditors faulted the federal and state bank examiners for not boosting supervision or acting quickly enough to avert a failure, given the âextraordinary risk associated with Alphaâs business strategy.â With its losses mounting, the bank fired its CEO in early 2008, and state banking regulators issued a cease-and-desist order five months later requiring the bank to make improvements, but by then it was âtoo late,â according to the audit report. Alpha failed on Oct. 24 last year, costing the FDICâs insurance fund an estimated $158 million, or about half the bankâs loan portfolio. How we got this story The AJC reviewed audit reports of Georgia banks that were conducted by the Federal Deposit Insurance Corp.âs Office of Inspector General after the banks failed. Audits have not been completed on most of the 23 Georgia banks that have failed in the past 13 months. The audits, known as âmaterial loss reviews,â are available at www.fdicoig.gov. We reviewed recent policy revisions and guidance statements by the FDIC and Georgia Department of Banking and Finance related to the problems cited in the audits. We also searched for county property deeds related to large loans and foreclosures of real estate developments financed by Alpha Bank & Trust, an Alpharetta bank that failed last October.