Iowa Banking Law Blog

Carbon Credit / Offset Primer

Carbon credits and offsets have been in the news a lot lately and have been a speaking point for many of the presidential candidates.  In the not too distant future, your bank may encounter a customer seeking to partially finance a project through carbon offsets.  Furthermore, as markets develop, carbon credits may become a more prevalent investment.  Following is a very brief, very basic primer on carbon credits and carbon offsets.

Carbon Credits: carbon credits are tradeable permits to emit greenhouse gases. Carbon credits are generally issued as part of a government mandated cap-and-trade system.

Cap-and-Trade: a regulatory scheme under which a government sets a cap on harmful emissions. Companies that are subject to the scheme must meet the cap. If a company emits less than cap, it will receive carbon credits that can then be traded for a profit. If a company exceeds the cap, it must purchase carbon credits to meet the cap.

Carbon Offsets: carbon offsets are financial instruments representing a reduction in greenhouse gas emissions. Carbon offsets generally arise in the voluntary carbon market. Note: the terms “carbon credit” and “carbon offset” are often used interchangeably. However the terms are used, the distinction between credits/offsets in a mandatory cap-and-trade market and credits/offsets in the voluntary market should be noted.

Voluntary Carbon Offset Market: the voluntary carbon offset market generally consists of bilateral, over-the-counter transactions between a party who has instituted a project or practice that has proven to capture, sequester, or otherwise reduce greenhouse gas emissions. Organizations are emerging that verify and register voluntary carbon offsets.

     The United States has not instituted a cap-and-trade system. The U.S. has not ratified the Kyoto Protocol and has not developed a domestic system. The Kyoto Protocol caps the emissions of ratifying, non-developing countries. Countries exceeding the cap can purchase credits from countries who emitted less than the cap, or can purchase credits from projects that capture, sequester, or otherwise reduce greenhouse gas emissions, similar to the voluntary carbon offset market. Regional initiatives to cap major emitters are emerging in the U.S., but a unified system has yet to be established. There are currently bills before Congress seeking to establish a cap-and-trade system.

     Lacking a cap-and-trade system, the voluntary market has developed in the U.S. In the voluntary market companies, governments, and individual buy carbon offsets to mitigate their own greenhouse gas emissions arising from energy use, waste, transportation, and other sources. A the rationale for the purchase, purchasers cite care for the environment, customer goodwill, positive press, gaining valuable early experience in an emerging market, and the inevitable institution of higher emissions regulations, be it a cap-and-trade system or a straight emissions tax. Offsets can be generated from projects such as wind energy, the capture or sequestration of agricultural gas, renewable energy, and forestry. Generally, to obtain voluntary offsets for a project, strict protocol of the body verifying and registering the project must be followed. One key requirement in the voluntary market is additionality. Although there are different definitions of additionality, the gist is that the project must reduce emissions over and above “business as usual” and would not have gone forward without carbon offset funding. Although difficult to grasp and prove, this concept is intended to ensure that purchasers are buying a true reduction in emissions and are not merely padding the pockets of a project, and emission reduction, that would have occurred anyway.

Eight Circuit Confirms Blanket Bankers Bond Does Not Cover Bank's Losses

In a recent case, Ohio Savings Bank (“OSB”) sought indemnity for losses under a bankers blanket bond issued by Progressive Casualty Insurance Co. (“Progressive”).  OSB incurred losses after buying loans which went into default as the result of the actions of the party who had sold the loans to OSB.    The Eighth Circuit confirmed this month that the blanket bond did not cover the losses.

The bond did not cover losses resulting from normal lending activities, but there were two exceptions to the exclusion.  OSB argued that the losses were covered under a rider entitled, “Fraudulent Mortgages Insuring Agreement (‘FMIA’),” and that the losses were covered by “Insuring Agreement (E).”  The Eighth Circuit rejected both arguments.

Regarding FMIA, the Eighth Circuit limited application of FMIA to cover losses from a mortgage “defective by reason of the signature thereon,” which failed to provide a security interest because the mortgagor was tricked or defrauded as to the nature of the document signed.  As the borrowers admitted that they understood they were signing mortgages to encumber their property, the mortgages were not defective.  Thus, OSB was not covered for losses which resulted simply by the borrowers’ refusal to pay their mortgage notes.

With regard to Insuring Agreement (E), this provision was held to cover losses resulting when an instrument is lost or stolen from its rightful owner and then used to persuade a bank to extend credit.  As the mortgages in question were the borrowers’ mortgages, and the original documents were not lost until after OSB relied on what was assigned in extending credit to the borrowers, OSB’s losses were not covered.  The Eighth Circuit held that losing collateral documents after a loan was made is precisely the sort of practice that is excluded from coverage by a bankers blanket bond.

FDIC Home Ownership Preservation Loan Proposal

The FDIC has recently proposed that Congress allow the Treasury Department to make loans to borrowers with unaffordable mortgages to pay down up to 20% of principal, with the repayment and financing costs to be borne by mortgage investors and borrowers in an effort to stabilize mortgage and home prices and reduce foreclosures.

Under the proposal, borrowers would have to repay their restructure mortgage and the loan made under the program.  Mortgage investors would pay Treasury's financing costs and agree to certain concessions on the mortgage.  Treasury would have a superior lien to the mortgage investor's interest for the amount of its loan from any proceeds.

Also, mortgages in the program would be restructured into fully-amortized, fixed rate loans for the balance of the original term and the new interest rate would be capped at Freddie's 30-year fixed rate.  A maximum 35% debt-to-income ratio for all housing related expeneses would have to be met, and prepayment penalties, deferred interest, or negative amortization would not be allowed.  For the first five years, interest due on the loans would be paid by the mortgage investors, and thereafter borrowers would begin repaying at fixed Treasury rates.  Servicers would be required to agree to period special audits by bank regulators.

To fund the program, Treasury would offer $50 billion in public debt, which Treasury believes would fund modifications of approximately 1,000,000 loans.

The program would apply o those owner-occupied residential loans that had front-end debt-to-income ratios that exceeded 40% at origination, are below the FHA conforrming loan limit and were originated between January 1, 2003 and June 30, 2007.

For further information, contact Allyn Dixon at 515.246.4520.

State Bank Acquistion of Interest in Wind Energy

On May 1, 2008, the Governor signed Senate File 2405 into law.  SF 2405 provides for state bank acquisition of an equity interest in wind energy production facilities and eligibility for production tax credits.  It also permits manufacturing facilities to acquire such credtis for on-site consumption of wind energy.  The new Act will amend Chapter 476B and 476C of the Iowa Code.

A bank's ability to take a financial position in a wind facility is subject to some conditions: 1) creditworthiness review; 2) the bank may not participate in the operation of the facility or the production or sale of energy; 3) if the facility does not perform as projected the bank may sell its interest or liquidate; 4) the bank may not share in any appreciation in value of its interest or in the customer's assets; 5) at the end of the maximum 10 year holding period, the bank must sell at book value. 

In Interpretive Letters 1048 and 1048a the OCC approved a bank's acquisition of an equity interest with similar conditions.  The OCC concluded that a bank's acquisition of such interests was an integral part of an authorized banking activity.

For a copy of S.F. 2405, click here (redirect to Iowa Legislature site).

If you have any questions regarding this law, contact Paul Horvath at Dickinson Mackaman Tyler & Hagen, P.C.

OTS Authorizes Establishment of Foreign Subsidiary; Employment Articles

I neglected to post a link to the January / February Community Bank Brief.  Click here for a pdf of the newsletter, which contains an article on the OTS's approval of a federal savings bank's application to establish an operating subsidiary in China, among others. 

Also, here is a link to the labor and employment law newsletter, Hire Perspectives.  It contains articles on email policies, pre-employment testing, and FMLA absences for substance abuse treatment. 

Iowa LLC Blog

As you may know, Iowa is one of the first states to adopt the Revised Uniform Limited Liability Company Act.  Effective January 1, 2009 the new Iowa Code Chapter 489 will take effect.  Marc Ward, who chaired the LLC Committee of the Iowa State Bar Association, has started a blog with insights into the new law.  The new law will have implications on how banks handle LLC customers and how banks handle their own LLC subsidiaries.  Visit the site here: www.iowallcblog.com.