The extent of “irregular loans” contributing to “an extraordinarily high estimated loss rate” at a failed Texas bank last year has led the inspector general of the federal insurer of bank deposits to issue a rare “in-depth review” for a failure under $50 million, the agency watchdog said Thursday.
The report also places some responsibility on the agency for not properly dealing with warning signs of the bank’s insolvency.
In its report of the failed Enloe State Bank (ESB) of Cooper, Texas – which has cost the Federal Deposit Insurance Corp.’s (FDIC) Bank Insurance Fund (BIF) $21 million to cover losses – the agency’s Office of Inspector General (OIG) noted it typically issues an in-depth review (IDR) report only for failures resulting in losses of $50 million or more.
However, the OIG said, the failure of ESB on May 31, 2019, and circumstances surrounding that (particularly the unusual loans and loss rates) prompted the IDR.
Following the failure of the bank last year, the OIG issued a report (in September 2019) tagging insider abuse and fraud by former officers as the cause of the bank’s failure, the first in nearly 18 months for a bank insured by the FDIC.
In that report, the OIG said the $37 million-bank’s board of directors also failed to establish adequate corporate governance to monitor and control bank management’s activities, “including those of a dominant bank president.”
“The inadequate governance structure resulted in the origination of a large number of irregular loans (allegedly fraudulent and fictitious),” the OIG said in its “Failed Bank Review” report last year. “The losses associated with these loans depleted Enloe’s capital levels and the Board was unable to obtain additional capital to restore the Bank to health.”
However, at that time, the FDIC also said that “a deeper look at the bank’s failure is warranted.”
Thursday’s report offers a glimpse of that “deeper look,” with the OIG pointing a finger at the FDIC itself for deficiencies in supervising the bank.
The OIG said it found that the FDIC did not:
- Identify the existence and impact of a dominant official in a timely manner;
- Consistently identify and follow up on weaknesses in the bank’s audit program;
- Conduct additional testing to address unusual loan-related activity, which may have helped identify the fraudulent activity sooner than 2019; and
- Perform additional procedures to determine the likelihood of fraud once the examination in 2018 identified a dominant official, unsatisfactory Board oversight, and inadequate internal controls and audits. “In the case of ESB, examiners did not identify that fraud might be occurring at the institution until 2019, which was too late to save the bank,” the OIG stated.
The nearly 50-page report also offers some recommendations to the FDIC for address the shortcomings. Those include:
- Clarify criteria the examiners should use to identify an official as dominant;
- Train examiners to perform additional procedures to determine the likelihood of fraud once a dominant official designation is made at a bank with a weak internal control environment;
- Train examiners on the importance of understanding and documenting the independence and qualifications of internal auditor(s), and reviewing internal audit work papers and results;
- Implement guidance and train personnel on monitoring and following up on state-issued Matters Requiring Board Attention;
- Train examiners on indicators of fraud and how individual issues identified during an examination should be considered holistically to facilitate fraud detection.
In June, the former president of ESB, Anita Gail Moody, 57, also of Cooper, pleaded guilty to charges of arson and conspiracy to commit bank fraud. According to federal law enforcement authorities, on May 11, 2019, ESG suffered a fire that was determined to be arson. The federal authorities said the fire was contained to the bank’s boardroom.
“Several files had been stacked on the boardroom table, all of which were burned in the fire,” according to the U.S. Attorney. “Coincidentally, the bank was scheduled for a review by the Texas Department of Banking the next day.”
According to the U.S. Attorney, further investigation into the fire and the bank showed Moody had been creating false nominee loans in the names of several people, including some actual bank customers. The bank president, the law enforcement agency said, eventually admitted to setting the fire in the boardroom to cover up the criminal activity concerning the false loans.
Moody also admitted to using the fraudulently obtained money to fund her boyfriend’s business, other businesses of friends, and her own lifestyle, the agency said. Moody’s actions, which began in 2012, resulted in a loss to the bank of approximately $11 million, the U.S. Attorney said.