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California encouraging ILC charters as fintechs increasingly seek bank charters

As financial technology companies seeking bank charters evaluate their options, California is proposing a law that could make it easier to charter industrial loan companies, or ILCs, in the state.

The proposal is seen as an effort to encourage California-based fintechs to stay in the state instead of applying for an ILC charter in another state, such as Utah. California regulators say they simply want to provide a path for fintechs in the state who are interested in obtaining an ILC charter.

"They have all these fintech companies in California, and the state is noticing that they are interested [in an ILC charter]," said Chris Cole, executive vice president and senior regulatory counsel for the Independent Community Bankers of America. "This is the governor's way of trying to keep the fintechs from going to Utah."

Currently, only seven states allow ILC charters. Most industrial banks prefer Utah because there is no restriction on how much a holding company's business must be related to financial activity, Cole said in an interview. In contrast, industrial bank holding companies in California must be solely engaged in financial activities under current law. The proposal would amend the current requirement to allow applications from companies if 85% of their business is related to financial activity.

"Because California's current industrial bank structure restricts ownership to shareholders solely engaged in financial activities, digitally native companies will continue looking outside of California unless a practical bank-chartering pathway can be provided here at home," Manuel Alvarez, commissioner of the California Department of Business Oversight, wrote in an email.

California Gov. Gavin Newsom unveiled plans to overhaul the state's current financial regulator in the state and model the new agency after the federal Consumer Financial Protection Bureau. If approved by California's legislature, the overhaul will "modernize laws relating to industrial banks to enable fintech companies to operate nationwide with a single DBO registration," according to the proposal.

"The push to see companies remain in California seemed to motivate several of the recommendations," David DePillo, president of Irvine, Calif.-based First Foundation Bank, wrote in an email.

Recent hints that the Federal Deposit Insurance Corp. is looking to approve ILCs charters could also have been motivation for California's proposal, Cole said. Currently, there are five pending ILC charter applications.

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"California thinks that the FDIC may be on the edge or ready to approve an ILC. They figure once they've approved one or two then that might encourage a whole bunch more to come in," he said.

The FDIC's comments did not factor in to the proposal, according to Alvarez.

But the proposal may not be enough to encourage fintechs to apply for a charter in California, Cole and DePillo said. Regulations and the cost of living in California are reasons companies prefer other states such as Utah.

"Utah is more favorable tax and living expenses-wise," Cole said. "Fintechs will still want to be in Utah rather than California."

DePillo agreed that there are many reasons why a fintech may leave California, including tax incentives and labor costs.

Alvarez acknowledged that the proposal itself will not guarantee fintechs interested in an industrial bank charter will apply in the state. "We cannot compel interested groups to apply in California," Alvarez wrote. "But we can certainly provide a glidepath."

While many factors play into where an industrial bank decides to charter, the biggest consideration is people, according to Utah Bankers Association President Howard Headlee. Industrial banks prefer Utah because the state has a lot of experienced banking professionals and regulators who are familiar with ILC charters, he said in an interview.

"Industrial banks are here for a reason," Headlee said.

Overall, the Utah Bankers Association is not worried the proposal could take industrial banks from the state.

"There's a lot of demand out there for innovative banking products, and we are just encouraged that people are recognizing the value of industrial bank charter," Headlee said.