Fiduciary Risk Management: OCC Perspective 2015 Delaware Trust Conference October 27, 2015

Disclosure The views and opinions expressed in this presentation are my own, and do not necessarily represent those of the Office of the Comptroller of the Currency or of the Chief National Bank Examiner. I will periodically refer to national bank and federal savings association regulations and guidance. Although I generally refer to Regulation 9 citations, Regulations 9 and 150 apply to national banks and federal savings associations, respectively. These regulations are in most respects identical. 2

AM Risk Management OCC Expectations & Guidance

OCC – National Bank and Federal Savings Association AM Supervision  OCC regulates over 1,600 national banks, federal savings associations, and federal branches and agencies.  They range from large complex banks with global footprints to local community banks.  Includes 62 limited purpose national trust banks and 19 trust only thrifts.  Approximately 44% of all national banks and 27% of Federal savings associations have Asset Management (AM) activities, which include fiduciary and custody services & retail brokerage services. 4 OCC AM Supervision Source: Call Report 6/30/2015

OCC AM Supervision Over 150 examiners with specialized Asset Management expertise perform ongoing supervision both on and off bank premises. Large Banks – Resident Examiner Program Midsize/Community Banks – Field Office Staff Program National Trust Banks – Focus on limited purpose trust banks OCC AM Policy Group in D.C. works extensively with OCC’s examiners on policy guidance for the industry, internal training, and addressing specific bank issues, including potential violations and matters requiring attention (MRAs). AM Policy also works closely with OCC Legal and other internal and external groups on matters including Dodd Frank (Volcker Rule); FSOC issues (including identification of systemically important entities and activities); and interpretations of the fiduciary and recordkeeping regulations. 5

OCC Regulation and Guidance OCC Handbooks provide both examiners and the industry with core OCC expectations for each subject area. HBs include background on the product line and identify risks posed by the specific activities discussed. Specific examination procedures provide guidance to field examiners regarding many of the issues that warrant particular scrutiny. Most OCC Handbooks have either recently been or are in the process of being revised. – Safety and Soundness – Asset Management – Consumer Compliance – Securities Compliance Comptroller’s Handbooks 6

OCC Handbook Updates – Asset Management Asset Management (update projected 2015) Investment Management Services (update projected 2016) Personal Fiduciary Activities (February 2015) Conflicts of Interest (January 2015) Retail Sales of Non-Deposit Investment Products (January 2015) Collective Investment Funds (May 2014) Retirement Plan Products and Services (February 2014) Unique and Hard to Value Assets (August 2012) AM Operations and Controls (2011)/Custody Services (2002) Where possible, older guidance (e.g., remaining Trust Banking Circulars and AM Bulletins and Circulars) has been rescinded and is now incorporated into revised HBs so that examiners and the industry may focus on most recent guidance. OCC Guidance 7

Conflicts of Interest HB OCC Guidance 8 Details conflict regulations for NB and FSA fiduciaries Clarifies longstanding guidance relating to traditional conflicts (e.g., BHC stock; purchase of fiduciary assets by related parties and interests). Broadens the discussion of conflicts of interest to address current business practices – Use of proprietary products (e.g., mutual funds, hedge funds, structured notes) in discretionary fiduciary accounts. – Business referral arrangements, including delegation of fiduciary activities back to referring entity. Rescinds BC 218 (Sweep Fees); BC 233 (Acceptance of Fin’l. Benefits by Bank Trust Depts.), and TBC-19 (Fiduciary Purchases of Banks when Bank Participates in Underwriting Syndicate), and incorporates relevant principles into the HB.

Conflicts of Interest HB OCC Guidance 9 Handbook includes series of appendices that drill down into specific scenarios where conflicts are likely to crop us. – Use of Material Nonpublic Information – Transactions between Fiduciary Accounts and Related Parties and Interests – Brokerage Allocation and Securities Trading – Soft Dollars and Brokerage Commission Arrangements – Use of Mutual Funds as Fiduciary Investments – Mutual Funds and Collective Funds – Late Trading and Market Timing – Unique Situations Posing Potential Conflicts of Interest – Reasonable Compensation

Personal Fiduciary Activities HB OCC Guidance 10 Details the applicable regulatory structure for NBs and FSAs acting as fiduciaries. Describes a variety of fiduciary accounts (trusts), roles a bank typically acts in, and responsibilities imposed upon a bank fiduciary. Recognizes evolving state trust laws. – Directed trustees/excluded fiduciaries – Trust decanting – Trust protectors/trust advisors – Virtual representation Reinforces core fiduciary obligations under Parts 9 and 150 even when responsibilities are bifurcated between a bank trustee and an investment manager.

Personal Fiduciary Activities HB OCC Guidance 11 Regardless of state trust law, the trust instrument, or a court order, the following requirements apply to all NB and FSA fiduciaries: – Grant of fiduciary powers from OCC – Fiduciary powers managed by, or under direction of Board of Directors – Self-dealing and conflicts of interest policies and procedures – Annual or continuous fiduciary audit – Pre-acceptance reviews of all accounts – includes consideration of bank’s ability to administer fiduciary relationship under the terms of the fiduciary arrangement which includes physical custody or adequate safeguards and controls over all fiduciary assets (12 CFR 9.13(a)) – Dual control over all fiduciary assets – Physical separation of all fiduciary assets from those of the bank

Third-Party Risk Management Guidance 12 OCC Bulletin – “Third-Party Relationships: Risk Management Guidance” Issued October 2013 Provides OCC Expectations for – Risk management practices for third-party relationships involving critical activities. – Risk management practices throughout the lifecycle of a third-party relationship. – Board and senior management oversight. Sets general risk-based baseline standards for oversight of third party relationships. Some relationships, such as delegated fiduciary activities are subject to higher and/or specialized standards. OCC Bulletin Highlights

OCC expects more rigorous and comprehensive oversight of critical activities. Applies to oversight of service providers that support significant bank functions, significant shared services, or other activities that – Could cause a bank to face significant risk if the third party fails to meet expectations. – Could have significant customer impact. – Require significant investment in resources to implement the third- party arrangement and manage the risk. – Could have major impact on bank operations if the bank has to find an alternate third party or if the outsourced activity has to be brought in-house. Oversight of Critical Activities – 3 rd Parties 13 Third-Party Risk Management Guidance

14 Banks should practice effective risk management regardless whether the bank performs the activity internally or through a third party. Management must be knowledgeable of the outsourced activity. Bank must: – Adopt risk management practices that are commensurate with the level of risk and complexity of the third-party relationship. – Ensure robust oversight and risk management of relationships involving critical activities. – Adopt an effective risk management process that follows the third-party relationship through its lifecycle. – Ensure periodic independent review of bank’s third-party risk management process. Key Takeaways Third-Party Risk Management Guidance

Key Risks & Asset Management Examination Focus

Risk Considerations Market Volatility/Low Interest Rate Environment Impact on earnings Strong correlation between AM earnings and performance of the domestic and global equity markets Investment Management Product selection, suitability, and need for heightened investment risk management Potential conflicts of interest Use of bank and affiliate funds and products Use of third-party funds and products which provide incentives to the trustee bank Contractual relationships and outsourcing arrangements with affiliates and third parties in which bank trustee is incented to refer business or make investments with those entities AM Operations Internal and external processes Third party vendor oversight Cyber threats Regulatory Change Resources to manage regulatory change and implement necessary platform and process changes. 16

Key Risks Investment Management Risks Government Policies and Politics will Heavily Influence Markets Markets feel Impact of Economic Uncertainty Investment Opportunities/Returns Use of increasingly complex products Reaching for yield Potential conflicts of interest Need for Heightened Investment Risk Management Initial and ongoing due diligence Investment selection, retention and disposition process Analytical tools and systems, with an emphasis on credit and interest rate risk Valuation practices 17

Key Risks Conflicts of Interests Use of bank and affiliate mutual funds, ETFs, alternative funds, structured funds and other proprietary products Use of funds and products that provide incentives to the trustee bank Contractual relationships and outsourcing arrangements with affiliates and third parties in which bank trustee is incented to refer business or make investments with those entities 18

Key Risks AM Operations Risks Core Operational Processes – Capability/Capacity of Legacy Systems Manual Processes/“Work-Arounds”/User Developed Tools Conversion risks Internal Controls Money Movement; Asset Custody; Reconciliations Cyber threats – Cyber attacks on asset management clientele, particularly private banking – Attacks moving beyond phishing to hacking and outright takeover of accounts – Robust ID and verification procedures (e.g., mandatory callbacks) needed to confirm requested transactions were customer originated Oversight of Internal and Third Party Vendors – System providers – Outsourced operations providers 19

OCC Contact Information Joel Miller Asset Management Group Leader Market Risk Division

Lisa W. Collison Chief Bank Examiner Office of the State Bank Commissioner

Overview  Non-deposit and Limited Purpose Trust Companies  Total Assets Under Management  Examination Staff  Examination Process Office of the State Bank Commissioner

Delaware Code  Title 5 – Banking o Chapters 7, 9, and 11  Title 12 – Decedents’ Estates and Fiduciary Relations o Chapters 33, 35, and 38 Office of the State Bank Commissioner

Directed Trust Office of the State Bank Commissioner  Benefits of Delaware  Trustee Responsibilities  Administrative Reviews

2016 Focus  Fiduciary Growth  Risk Focus  Third Party Vendor Management  Cyber Security (IT)  Bank Secrecy Act (BSA)  Unique and Hard to Value Assets Office of the State Bank Commissioner

Contact Information Office of the State Bank Commissioner 555 E. Loockerman Street, Suite 210 Dover, Delaware Phone: (302) Office of the State Bank Commissioner

Fiduciary Risk Management Becky T. Kelly Fiduciary Education Center, LLC

Fiduciary Risk Management Source of Wealth Analysis 1.Where did the money come from? a.Inheritance b.Earned c.Combination 2.Are there gut concerns? a.Is the source logical? b.Do you need to do additional research?

Fiduciary Risk Management Source of Wealth Analysis 3.Is this a client that you know? 4.One recent target area of concern is Foundations (a Pivot Table can be extremely helpful!) 5.What does the client want to do with the account? Does it depart from the norm? If so…….more research! 6.Don’t forget the OFAC run….

Fiduciary Risk Management Past Due Loans Consistency is key! Typical policy After first week in arrears—send reminder After 20 days in arrears—send more strongly written notice After one month—certified letter announcing issue will go to an attorney in seven days At the end of defined time—send to attorney – If attorney is collecting loan, know fee in advance – Ask attorney for monthly reports/updates

Fiduciary Risk Management Past Due Loans Use your trust system and report “aged loans” through Committee process If your loan is collateralized with real estate, etc.: – Do annual drive by……. – Verify real estate taxes are paid annually – Verify insurance is up to date with proper coverage annually

Fiduciary Risk Management Past Due Loans If this is a “convenience loan” (to a child, family member, friend) be aware of tax ramifications – If interest not paid, can be taxed with unpaid income – If amount is large enough, could generate a gift – Determine if this is truly a gift and how it should be handled at the death of the donor

Fiduciary Risk Management Beneficiary Notice Generally, a trustee has the duty to inform a beneficiary of his or her interests in a discretionary trust. In Delaware, so long as the settlor expressly provides language in the trust, the trustee has no duty to inform a beneficiary of his or her own interest in the trust “for a period of time.”

Fiduciary Risk Management Beneficiary Notice In estates, the beneficiaries have to be notified. Issues to consider from a risk perspective: – What is the rationale behind not informing? Are the beneficiaries minors? When can/should they be informed? Are these beneficiaries able to receive discretionary income and/or principal?

Fiduciary Risk Management Beneficiary Notice – Are the beneficiaries contingent? How far down the line is the contingency? – Will the lack of notification cause the beneficiary to make poor planning decisions in his/her own estate? – Considering this may further aggravate the beneficiary is the trust department willing to assume that role?

Fiduciary Risk Management New Issue—Tax Identity Theft The Targets…. Decedents Wealthy Clients with Extensions How are they doing it? What can you do? Form Important to verify amount received Do not cash check if odd

Fiduciary Education Center, LLC Website: fiduciaryeducationcenter.com