Proposed FDIC Rule Clarifies Liquidation Process For “Too Big To Fail” Firms

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Proposal would set debt priority and authorize taking compensation in certain cases.

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The Federal Deposit Insurance Corporation (FDIC) issued a notice of proposed rulemaking last month to establish a clear liquidation process for large financial institutions commonly described as “too big to fail.”

The proposed rule, issued under the authority of the new Dodd-Frank Act,  describes how the FDIC would pay expenses and unsecured claims after taking over receivership of a failed financial company. The highest-priority claims would consist of those debts incurred after the financial institution goes into receivership. These would be followed by administrative expenses, debts to the United States, and eight other classes of claims.
The proposed rule would also allow the FDIC to recoup up to two years’ compensation from senior executives whom it considers “substantially responsible” for the failure of the financial institution.
FDIC Chair Sheila C. Bair said that the goal of the proposed rule is to enforce “market discipline on all financial institutions, no matter their size.” Blair argued that the proposed framework would provide “certainty for the market” about the claims and payment processes.

The FDIC is taking public comments on its proposed rule through May 23, 2011.