In those first few weeks, money gushed out of Treasury and into the tarp pipeline at a torrential rate. After giving $125 billion to the big banks, Treasury moved on to the second round, wiring $33.6 billion to 21 other banks on November 14 in exchange for preferred stock. A week later it sent $2.9 billion to 23 more banks. As noted, by the time Barack Obama took office, the tarp tab totaled more than a quarter of a trillion dollars. In its first six months, the new administration disbursed an additional $125 billion to banks, mortgage companies, A.I.G., and the big auto manufacturers.
To the public, the bailout looked like a gold rush by banks competing for tarp money. It was indeed partly that, but the reality is more complex. While some banks lobbied aggressively for tarp money, many others that had no interest in the money were pressured to take it. Treasury’s explanation is that regulators knew which banks were strongest and wanted to get more capital into their hands in order to free up credit. But it’s also true that spreading the money around to a large number of small and medium-size banks helped create the impression that the bailout wasn’t just for a few big boys on Wall Street.
It’s impossible to overstate how casual the process was, or how little Treasury asked of the banks it targeted. Like most bankers, Ray Davis, the C.E.O. of Umpqua Bank, a solid, respectable local bank in Portland, Oregon, followed with great interest all the news out of Washington last fall. But he didn’t see that tarp had much relevance to his own bank. Umpqua was well run. It wasn’t bogged down by a portfolio of bad loans. It had healthy reserves.
Then he got a call from a Treasury Department representative asking if Umpqua would like to participate in the Treasury program and suggesting it would be a good thing for Umpqua to do. Davis listened politely, but the fact was, he says, that Umpqua “didn’t need the funds. Our capital resources were very high.”
The next day, Davis was in his office when another call came through from the same Treasury representative. “Basically what he said was that the secretary of the Treasury would like to have your application on his desk by five o’clock tomorrow afternoon,” Davis recalls.
The “application” was the paperwork for a capital infusion, and Davis was told it would be faxed over right away. By now he was sold on participating. “Here was somebody from the secretary of the Treasury calling,” Davis says, “and complimenting us on the strength of our company and saying you need to do this, to help the government, to be a good American citizen—all that stuff—and I’m saying, ‘That’s good. You’ve got me. I’m in.’”
The most urgent task was to complete the application and get it back to Treasury the next day, and this had Davis in a sweat: “I pictured this 200-page fax that would take me three weeks of work crammed into one evening.” Imagine Davis’s surprise when a staff member walked in soon afterward with the official “Application for tarp Capital Purchase Program.” It consisted of two pages, most of it white space.
If tarp accomplishes nothing else, it has struck a mighty blow for simplicity in government. The application was only 24 lines long, and asked such tough questions as the name and address of the bank, the name of the primary contact, the amount of its common and preferred stock, and how much money the bank wanted. Anyone who has filled out the voluminous federal forms required in order to be eligible for a college loan would die for such an application. Davis recalls that, when the two faxed pages were brought to him, all he could say was “Really?” As soon as Umpqua’s application was approved, Treasury wired $214 million to Umpqua’s account.
What happened in Portland happened elsewhere across the country. Peter Skillern, who heads the Community Reinvestment Association, a nonprofit group in North Carolina, describes a conference he attended where bankers explained that they had been “contacted by their regulators and told by them that they would be taking tarp.”
One policy that tarp did decide to adopt was to keep confidential the name of any bank that was denied tarp funds—but it never had to invoke this rule. In those early months, with billions being wired all across the country, no financial institution that asked for tarp money was turned away.
With few restrictions or controls in place, bailout money found its way not only to banks that didn’t really need it but also to banks whose business practices left much to be desired. On November 21, $180 million in tarp money wound up in the affluent seaside community of Santa Barbara, California. The tarp dollars flowed mostly into the coffers of a beige, Spanish-style building on Carrillo Street, home to the Santa Barbara Bank & Trust.
This might appear to be just the kind of regional bank that Treasury had in mind as an ideal beneficiary of tarp. The bank has been a fixture in Santa Barbara for decades, serving small businesses as well as wealthy individuals. It sponsors Little League teams, funds scholarships to send local kids to college, and takes an active role in community groups. It plays up its “longstanding commitment to giving back to the communities we serve.”
How much tarp money made its way through S.B.B.&T.; and into the local community is not known. But, as it happens, the bank also operates a little-known and controversial program far from the lush enclaves of Santa Barbara. Like an absentee landlord, the community bank with the “give back” philosophy in Santa Barbara turns out to be a big player in poor neighborhoods throughout the country. And not in a nice way. Outside Santa Barbara, S.B.B.&T.; peddles what are known as refund-anticipation loans (rals)—high-interest loans to the poor that are among the most predatory around.
A ral is a short-term loan to taxpayers who have filed for a tax refund. Rather than waiting one or two weeks for their refund from the I.R.S., they take out a bank loan for an amount equal to their refund, minus interest, fees, and other charges. Banks operate in concert with tax preparers who complete the paperwork, and then the banks write the taxpayer a check. The loan is secured by the taxpayer’s expected refund. rals are theoretically available to everyone, but they are used overwhelmingly by the working poor. Ordinarily, the loans have a term of only a few weeks—the time it takes the I.R.S. to process the return and send out a check—but the interest charges and fees are so steep that borrowers can lose as much as 20 percent of the value of their tax refund. A recent study estimated that annual rates on some rals run as high as 700 percent.
Santa Barbara is one of three banks that dominate this obscure corner of the banking market—the other two being J. P. Morgan Chase and HSBC. But unlike the two big banks, for which rals are but one facet of a broad-based business, Santa Barbara has come to rely heavily for its financial well-being on these high-interest loans to poor people. Interest earned from rals accounted for 24 percent of the banking company’s interest earnings in 2008, second only to income generated by commercial-real-estate loans. Under pressure from consumer groups, some banks, including J. P. Morgan Chase, have lowered their ral fees. Not Santa Barbara. Chi Chi Wu, of the National Consumer Law Center, in Boston, calls Santa Barbara Bank & Trust “a small bank with sharp teeth.”
The U.S. Department of Justice and state authorities in California, New Jersey, and New York have taken action against tax preparers with whom S.B.B.&T.; works, charging them with deceptive advertising and with preparing fraudulent returns. Santa Barbara later took a $22 million hit on its books because of unpaid refund-anticipation loans.
The bank insists that its tarp money didn’t go to finance ral. “The capital received by Santa Barbara Bank & Trust under the U.S. Treasury Department’s Capital Purchase Program was not intended nor is it being used to fund or provide liquidity for any Refund Anticipation Loans,” according to Deborah L. Whiteley, an executive vice president of Pacific Capital Bancorp, Santa Barbara’s parent company. Other banks that have received tarp money have made similar statements, contending that money received from Washington simply became part of their capital base and was not earmarked for any specific purpose. But in a conference call with analysts on November 21, Stephen Masterson, the chief financial officer of Pacific Capital Bancorp, admitted that tarp “obviously helps us .… We didn’t take the tarp money to increase our ral program or to build our ral program, but it certainly helps our capital ratios.”
Indeed, the infusion from Treasury may well have been a lifeline for Santa Barbara. The Community Reinvestment Association of North Carolina, which has been tracking S.B.B.&T.;’s finances and its ral program for years, concluded in 2008 that S.B.B.&T.; would be losing money if it weren’t putting the squeeze on poor people around the country.
KeyBank of Cleveland is another institution that was given the nod by Treasury officials—and another bank whose lending practices prompt the question: What were they thinking?
Last fall KeyBank received $2.5 billion in tarp money. Its parent company is KeyCorp, a major bank holding company headquartered in Cleveland. With 989 full-service branches spread across 14 states, KeyCorp describes itself as “one of the nation’s largest bank-based financial services companies,” with assets of $98 billion. It also ranks as the nation’s seventh-largest education lender. In the summer of 2008, as banks and Wall Street firms were unraveling faster than they could count up their losses, KeyCorp delivered a decidedly upbeat report on its condition to investors. “Our costs are well controlled,” the company stated. “Our fee revenue is strong.…Our reserves are strong.…We remain well capitalized.”
What the report did not mention was a host of other problems. KeyCorp was in the midst of negotiations with the I.R.S. over questionable tax-leasing deals, and had had to deposit $2 billion in escrow with the government—forcing it to raise emergency capital and slash dividends after 43 consecutive years of annual growth. Meanwhile, consumer advocates had KeyBank in their sights because of the way it conducted its student-loan business, which they described as nakedly predatory. The Salt Lake Tribune reported that “KeyBank not only funds unscrupulous schools, it seeks them out, strikes up lucrative partnerships, and, in the process, suckers students into thinking the schools are legitimate.”
Over the years, thousands of students have secured education loans from KeyBank to attend a broad range of career-training schools—schools offering instruction in how to use or repair computers, how to become an electronics technician or even a nurse. One of the schools was Silver State Helicopters, which was based in Las Vegas and operated flight schools in a half-dozen states. During high-pressure sales pitches, people looking to change careers were encouraged to simultaneously sign up for flight school and complete a loan application that would be forwarded to KeyBank. Once approved, KeyBank, in keeping with long-standing practice, would give all the tuition money up front directly to Silver State. If a student dropped out, Silver State kept the tuition and the student remained on the hook for the full amount of the loan, at a hefty interest rate.
The same rule applied if Silver State shut itself down, which it did without warning on February 3, 2008. “Because the monthly operating expenses, even at the recently streamlined levels, continue to exceed cash flow,” an e-mail to employees explained, “the board has elected to suspend all operations effective at 5 p.m. today.” More than 750 employees in 18 states were out of work. More than 2,500 students had their training (for which they had paid as much as $70,000) cut short.
Silver State Helicopters was a flight school, but it might more accurately be thought of as a Ponzi scheme, according to critics. As long as there was a continual source of loan money, keeping the scheme afloat, all was well. KeyBank bundled the loans into securities, just as the subprime-mortgage marketers had done, and sold them on Wall Street. But when Wall Street failed to buy at an adequate interest rate, the money supply evaporated. As KeyBank dryly put it, “In 2007, Key was unable to securitize its student loan portfolio at cost-effective rates.” Without the loans—in other words, without the cooperation of Wall Street—the school had no income.
In February 2009, Fitch Ratings service, which rates the ability of debt issuers to meet their commitments, placed 16 classes of KeyCorp student-loan transactions totaling $1.75 billion on “Ratings Watch Negative,” signaling the possibility of a future downgrade in their creditworthiness.