Audit of DOS Coordination of Examinations with State Banking Authorities in the Kansas City Region

(Audit Report No. 98-089, November 19, 1998)

The Office of Inspector General (OIG) has completed an audit of the Federal Deposit Insurance Corporation's (FDIC) coordination of safety and soundness examinations with state banking authorities in the Kansas City region. The Kansas City regional office has supervisory responsibility for approximately 1,600 banks within the seven states in the region.

The objectives of the audit were to (1) determine whether FDIC is complying with the examination frequency requirements contained in section 10(d) of the Federal Deposit Insurance Act (FDI Act), (2) assess the process used by FDIC for relying on state examinations, and (3) assess FDIC's procedures for coordinating safety and soundness examinations with state banking authorities in the Kansas City region.

We concluded that the Division of Supervision (DOS) Kansas City Regional Office closely coordinates examinations with the seven state banking authorities. However, we found that DOS did not always comply with the examination frequency requirements contained in the FDI Act. We found 80 instances where examination frequency requirements were exceeded mainly due to lack of staffing (both FDIC and state) and at times to accommodate state requests to delay examinations for various reasons, such as pending mergers. We also found three instances where examinations were delayed due to a pending merger. Of particular concern were instances of non-compliance pertaining to banks with assets over $250 million. In reviewing the examination history of all 40 banks in the region with assets of $250 million or more, we found 12 instances where the elapsed time between exams exceeded 12 months between January 1, 1995 through March 31, 1997. In two of these instances, the banks had a composite CAMEL rating of "4" and two other banks had a rating of "3."

We also found that the process used to rely on state exams could be improved by reconciling composite examination ratings to composite CAEL ratings where differences exist. For example, we found instances where the state had assigned a composite rating of "2" while the CAEL off-site monitoring system indicated a composite "3" rating. The examination files did not address the difference in ratings, and current DOS policy does not require any reconciliation of CAMELS and CAEL ratings for "1" or "2"-rated banks. However, we believe that this type of information should be documented in the file for all "1" or "2"-rated banks when the CAEL rating is "3" or worse.

While the regional office is satisfactorily coordinating examinations with the state banking departments, the Cooperative Examination Agreements with the seven states have not been formally updated to reflect changes in examination frequency requirements. In addition, we found that differences between federal laws and Iowa state laws can lead to inefficiencies and increased regulatory burden as some financially sound banks are being examined by state examiners as soon as 6 months after FDIC completes an examination.

We recommended that the Director, DOS and the Kansas City Regional Director, take the following actions:

In a letter dated October 15, 1998, the Director, DOS provided a written response to the draft report. Management generally agreed with three of the four recommendations contained in the report and has begun or has already taken corrective actions.

Regarding our recommendation to expand current policy to require reconciliation of CAMELS with CAEL ratings for those banks that are "1"or "2"-rated when CAEL shows a "3" or worse rating, the Director agreed that CAEL ratings should be reviewed prior to reviewing a report of examination prepared by state authorities, but believes that current DOS policies and procedures are adequate. The OIG continues to believe that an expanded policy would provide the necessary controls to ensure that CAEL ratings are reviewed and reconciled with state examination ratings. However, we do not consider the disagreement to be significant. The OIG will review this issue further as part of a nationwide review of DOS's reliance on state examination reports.

The Corporation's response to the draft report provided the elements necessary for management's decisions on the report's recommendations.