LC Implications from the Fallout of the SVB, Signature Bank Failures

The abrupt mid-March 2023 closures of Silicon Valley Bank (SVB) and Signature Bank sent shockwaves through the US banking system and financial services community overall. The aftereffects of these bank failures are still being felt and unfolding, including announcements that Flagstar Bank, a subsidiary of New York Community Bancorp, has agreed to buy the former Signature Bank and First-Citizens Bank & Trust has agreed to purchase the former Silicon Valley Bank.

As of year-end 2022, Silicon Valley Bank was 12th and Signature Bank 31st in outstanding letter of credit values among US banks according to DCW’s quarterly LC statistics (see p. 33).

Following the bank collapses, the US Federal Deposit Insurance Corporation (FDIC) announced in news releases that it was appointed receiver and established bridge banks for Signature Bank and Silicon Valley Bank as temporary measures. In so doing, the FDIC also transferred all “qualified financial contracts” of each failed bank to the bridge banks. Although not explicitly stated, it is has been understood by some attorneys that this means the bridge banks assumed responsibility for all loan positions and commitments to advance undertaken by the failed banks, which include letters of credit.

One real estate attorney contacted by DCW indicated they had spoken directly with a regional SVB representative about the FDIC’s statutory right to repudiate under the “FDIC Law, Regulations, Related Acts 1000(e)(1)” and were informed that although an LC is usually treated as a contract that can be repudiated if burdensome, instead, SVB Bridge Bank had taken full responsibility for the former SVB’s LCs.

Another attorney suggested to DCW that “since the FDIC took a big discount in the sale of SVB loans to First Citizens, kept questionable loans, and provided a huge line of credit to First Citizens, we should expect First Citizens to honor the outstanding LCs it inherited from SVB. As for those LCs which are part of questionable loans retained by the FDIC, I would worry if I were a beneficiary.”

In the past, the FDIC has repudiated the LCs of failed banks, prompting lawyers to urge beneficiaries of LCs issued by SVB or Signature Bank to pursue replacement of those LCs.

In Lexon Insurance Co. v. FDIC, the US Court of Appeals for the Fifth Circuit disagreed with a beneficiary’s contention that letters of credit are not contracts or leases under relevant provisions and that the FDIC lacked the authority to repudiate the LCs. This case is summarized in DCW at p. 18.

An Office of the National Association of Insurance Commissioners (NAIC) has issued a statement summarizing how it views SVB’s and Signature Bank’s LCs issued by these financial institutions that have been or will be removed from its List of Qualified U.S. Financial Institutions. The memo portion of this document appears in DCW at p. 16.