Breaking Up is Hard to Do

Banks enter relationships with third parties for a variety of reasons, including the ability to provide products and services and to expand customer relationships more quickly and efficiently. Much of the recent regulatory attention has focused on the enforcement activity surrounding relationships which, according to regulators, lacked sufficient controls to appropriately address and manage their risks. The result of this enforcement activity has been for many banks to wind down these relationships or exit these types of programs altogether.

Successfully winding down or terminating relationships with partners involves careful planning, and banks should consider the implications of exiting a particular relationship from the outset. A key feature of effective partnerships is clarifying the obligations of both parties and understanding the consequences of non-compliance. Contracts should clearly define the obligations of both the partner and the bank to mitigate any confusion or uncertainty about the assignment of risk controls. If a partner fails to meet their obligations, the contract should spell out mechanisms for temporary suspension, timelines for remediation and, ultimately, the process for termination.

The Interagency Guidance on Third Party Relationships: Risk Management outlines key contractual considerations regarding default, term and termination. Effective contracts should address:

1. A clearly defined term, including the commencement and expiration dates.
2. A right to terminate without cause, right to terminate for cause and costs for early termination. Contracts should define events that constitute contractual default and provide a list of acceptable remedies and opportunities for curing a default.
3. The ability of the bank to terminate the relationship without prohibitive expense and that termination and notification provisions allow for conversion to another third party, if applicable.
4. Termination and notification requirements with reasonable time frames to allow for the orderly transition of the activity, when desired or necessary, without prohibitive expense.
5. A mechanism for the timely return or destruction of the bank’s data, information and other resources as soon as practical once the contract between the bank and partner has terminated. The bank should require proof from the partner that the information or documentation has been destroyed or deleted, including the method and date.
6. All costs and obligations associated with transitions and termination, including the party responsible for such costs.
7. A mechanism for the bank to terminate the contract upon reasonable notice and without penalty if a regulator formally directs the bank to terminate the relationship.

The bank should develop a plan when they enter the relationship with a partner to determine the appropriate steps for winding down the program and transitioning any customer relationships. The process for termination and transition will vary depending on the following vectors:

• The type of relationship between the parties and the type of products offered through the bank.
• Relationship size and the volume of transactions and accounts associated with the partnership.
• The type of customers utilizing the bank (consumer versus commercial) and the potential for consumer harm.
• The reason for the termination and the risk associated with any involuntary termination.

The process for termination should follow the contractual provisions in the agreement between the partner and the bank. The bank should maintain both termination procedures and partner-specific termination plans to ensure an orderly wind-down. Termination and wind down should generally follow an orderly process:

1. Defining: The bank should document any breaches and provide a timeline for remediation, if applicable. If termination is voluntary, the parties should jointly document their decision to terminate the relationship.
2. Planning: The parties should execute a termination plan that assigns task owners and ensures appropriate completion of all applicable steps. The bank should also prepare a termination memo for management, detailing the factual scenario, the contractual basis for termination, the contractual limitations on the bank’s liability and any additional considerations for wind down and termination.
3. Execution: The parties should execute the termination plan in a timely and orderly fashion.
4. Monitoring and Controlling: To mitigate ongoing risk, the bank should oversee the process and monitor any timelines or legal obligations.
5. Closure: The bank should detail the process of closing all accounts once losses have been accounted for, appropriately documenting the termination of the relationship. The bank should also consider and outline any lingering liabilities and responsibilities for ongoing documentation and indemnification obligations.

Although bank relationships with partners are still an economical and successful option, the need for a wind down or termination may arise. Effective planning of relationships with partners includes contingency planning for all circumstances. Banks that enter these relationships should consider the importance of an orderly wind down and termination at the start of the relationship.