FDIC sets repayment pecking order for creditors

By Reuters
Posted March 15 at 10:59 a.m.

Creditors who help authorities liquidate a troubled financial firm would be among those paid off first among unsecured creditors, according to a proposal issued by the Federal Deposit Insurance Corp.

Bank and financial services groups have complained that more clarity is needed about how unsecured creditors will be treated under the U.S. government’s new authority to seize large, failing companies.

“This is an important step in providing certainty for the market in this new process,” FDIC Chairman Sheila Bair said Tuesday.

The liquidation authority is designed to prevent a repeat of 2008, when the Bush administration bailed out American International Group and other firms, but not Lehman Brothers. Lehman’s bankruptcy virtually froze capital markets.

It was a major part of last year’s Dodd-Frank financial reform law and the FDIC would be responsible for carrying out the liquidation.

The rule will be out for 60 days of public comment.

At the top of the list for who or what will be paid off first are any debts the FDIC or receiver took on as part of the cost of seizing a firm, administrative expenses, money owed the Treasury and money owed to employees for such things as retirement benefits.

Further down the list are general creditors.

The lower an unsecured creditor sits on the priority list the less likely they will receive any of what they are owed by the failed firm.

Bank and financial services groups want the new authority to resemble the bankruptcy process as much as possible because creditors are familiar with that.

The rule also would allow, as required by the Dodd-Frank law, the government to “clawback” any compensation senior executives or directors received in the two years before an institution was seized, if it is determined they are “substantially responsible” for the failure.

If it is determined that the executive or director was engaged in fraud, the government could seek more than two years worth of compensation.

The proposal also lays out how a creditor could contest any decisions about whether, or how much, they get paid during a liquidation and ultimately they could take their case to federal court.

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