What does the Wells Fargo scandal mean for community banks?

Earlier this month, Wells Fargo entered into a consent order with the CFPB and OCC after regulators discovered that bank employees had opened more than 1.5 million fake deposit and credit card accounts. The scandal involved more than 5,000 employees who opened the fake accounts in order to pad sales numbers and meet quotas the bank used as part of an incentive compensation plan.  In the aftermath of the scandal, Congress and the regulators have begun to scrutinize what went wrong and what steps can be taken to prevent these problems going forward. Although big banks are the focus of this scrutiny, it is important for community banks to pay attention to possible regulatory changes that may impact banks of all sizes.

Wells Fargo entered the consent order on September 9, 2016, agreeing to pay total fines of $185 million. According to the consent order:

Thousands of Respondent’s employees engaged in Improper Sales Practices to satisfy sales goals and earn financial rewards under Respondent’s incentive-compensation program. During the Relevant Period, Respondent terminated roughly 5,300 employees for engaging in Improper Sales Practices. . . .

Respondent’s analysis concluded that its employees opened 1,534,280 deposit accounts that may not have been authorized and that may have been funded through simulated funding, or transferring funds from consumers’ existing accounts without their knowledge or consent.

In the days after the consent order, Congress held investigative hearings and heard testimony from Wells Fargo executives as well as the Comptroller of the Currency and the CFPB Director. Testimony from the regulators makes clear that incentive compensation programs will now be subject to increased scrutiny. For example, Comptroller Thomas Curry testified, “I have directed our examiners to review the sales practices of all the large and midsize banks the OCC supervises and assess the sufficiency of controls with respect to these practices.” And CFPB Director Richard Cordray told reporters, “I believe we’re putting the entire industry on notice.”

Although these comments are mainly directed at large banks, there is some concern that increased regulatory scrutiny will also affect community banks. Recognizing this concern, the ICBA released the following statement:

The ICBA and the nation’s nearly 6,000 community banks are outraged that any financial institution would betray the trust of its customers by opening bank accounts without their knowledge. . . . Not only is this conduct appalling and harmful to American consumers and communities, it also contributes to the growth of excessive regulation that needlessly burdens the local community banks that do right by their customers.

In light of potential increased scrutiny from the OCC and other regulators, community banks should be proactive in examining any incentive-based compensation programs that they use. The Wells Fargo consent order and recent regulatory guidance provides some insight into what the regulators may be scrutinizing.  For example:

  • Incentive compensation programs that emphasize sales targets should not be overly aggressive. Banks should meet with employees regularly to ensure that sales goals are realistic and that employees are not feeling excessive pressure to meet unrealistic goals.
  • Banks should closely monitor employees’ sales tactics to ensure that they are consistent with bank policy. Banks also should verify sales to prevent employees from using simulated or fake accounts, as was the case in the Wells Fargo scandal.
  • Sales employees should be extensively trained regarding acceptable sales tactics, both at the beginning of their employment and at regular intervals throughout their career.
  • Banks should establish a confidential channel such as an ethics hotline for employees to report sales-integrity issues. Employees should be informed of the existence of this reporting channel and assured that it is confidential.
  • Larger community banks should consider establishing an in-house position or hiring an independent consultant to administer any incentive compensation programs and to monitor sales employees.
  • Banks should ensure that their compensation programs are consistent with the new proposed compensation rule issued jointly by the regulators (before the Wells Fargo scandal), which (a) prohibit incentive programs that provide excessive compensation, (b) require appropriate balance of risk and reward, and (c) must be supported by effective risk management and governance. This new rule has not yet gone into effect and only applies to banks with assets of $1 billion or more, but it provides a good benchmark for all banks that use incentive-based compensation.

In the near future, the regulators may issue a new rule to address the problems that occurred at Wells Fargo. Until then, banks of all sizes should take stock of their compensation programs and ensure that they appropriately balance the goals of incentivizing employees while also protecting customers and bank safety and soundness.