BankUnited FSB's failure Thursday represented the end of an era, as the last of the large savings and loan institutions that forayed heavily into mortgages that allowed borrowers to pick what they wanted to pay on a monthly basis during the housing boom was shut down.

BankUnited FSB, which was acquired by a private equity consortium after being closed by regulators on late Thursday, was a subsidiary of BankUnited Financial ( BKUNA). The lender had a heavy exposure to option-payment adjustable-rate mortgages, which had earlier spelled doom for other big lenders like the failed Washington Mutual and troubled Countrywide Financial and Wachovia, both of which were acquired last year.

Option-ARMs typically featured three monthly payment options. The lowest option was usually for such a small amount that not only was no portion of the loan's principal balance paid, the previous month's interest wasn't covered and the loan balance increased. This phenomenon is known as negative amortization.

With negative amortization along with a low initial down payment, a likely second mortgage and declining home prices, the major players in this area of specialty mortgage lending either failed or sold themselves for a cut-rate price before failing.

Because of myriad accounting problems, BankUnited Financial had not filed a 1-Q or 10-K since October, when they filed an amended report for the quarter ended March 31, 2008. As of that quarter, option-ARMs represented 59% of BankUnited's total loans, or $7.4 billion.

Countrywide Bank FSB avoided failure when its parent, Countrywide Financial, was acquired by Bank of America ( BAC) in July 2008.

Washington Mutual -- by far the largest failed bank or thrift, with total assets of $307 billion -- failed in September 2008, with the Federal Deposit Insurance Corp. selling the thrift's branches, deposits and nearly all assets to JPMorgan Chase ( JPM).

Wachovia had inherited its portfolio of option-ARMs through its ill-advised purchase of GoldenWest Financial in October 2006. After being pressured by regulators to sell, Wachovia first made a deal to sell to Citigroup ( C), which was trumped by a superior offer from Wells Fargo ( WFC), which completed its acquisition of Wachovia at the end of 2008.

The Office of Thrift Supervision allowed BankUnited FSB to keep operating, even though the institution was critically undercapitalized since Dec. 31, when the thrift's Tier 1 leverage ratio was 1.37% and its total risk-based capital ratio was 3.60%. These ratios need to be at least 5% and 10% for a bank or thrift to be considered well-capitalized under ordinary circumstances. BankUnited FSB's capital ratios were actually negative as of March 31. Clearly the OTS was doing everything it could to allow the thrift extra time to raise capital and avoid another failure.

BankUnited FSB had 86 offices and nearly $13 billion in assets when it failed. With the thrift reporting $2.4 billion in uninsured deposits as of March 31, the FDIC had clear motivations to make a deal with the private equity investors to acquire all of the thrift's retail deposits. Ratings had assigned BankUnited, FSB an E-minus (very weak) financial strength rating in December based on September 2008 financial information, downgrading the rating from a D- (weak) the previous quarter.

The Return of John Kanas

After a four-month bidding process, a group of private equity investors, headed by former North Fork Bancorp CEO John Kanas, acquired most of the failed institution's assets and deposits, investing $900 million in a newly chartered BankUnited, which reopened Friday morning as branches of the new federally chartered savings bank.

Kanas had left Capital One Financial ( COF) after a transition period following the MacLean, Va., holding company's Dec. 2006 purchase of North Fork.

The FDIC entered into a loss-sharing agreement with the new BankUnited, with the agency to share in losses on $10.7 billion in assets acquired by the new thrift. This is a good indication of just how troubled BankUnited's loan portfolio was, since it is such a large percentage of the failed thrift's $12.8 billion in total assets.

In a Thursday night conference call, Kanas expressed confidence in his team's ability to "create a very interesting franchise" in south Florida, as the local economy and real estate markets recover. He also pointed out that since the FDIC was granted warrants as part of the loss-sharing agreement, taxpayers will have an opportunity to make up some of the government's losses, if eventually the new BankUnited is sold.

BankUnited's $2.4 billion in uninsured deposits reported as of March 31 could have been a disaster for depositors. As it turned out, depositors lost nothing, since the investor group agreed to purchase all of BankUnited FSB's retail deposits.

Since the investor group didn't purchase $348 million in brokered deposits, the FDIC was to pay these funds directly to the brokers, a process that can take several weeks. These depositors will then need to find a new parking place for their cash, likely at lower rates than the ones they had locked-in with BankUnited, FSB.

A Troubled Regulator

BankUnited FSB is the ninth thrift to fail during 2008 and 2009. While the number of failed thrifts has been relatively small vs. the total number of failed banks, the total assets of the failed thrifts were $368.1 billion, while the total assets for the failed banks were $36.5 billion.

The failure of IndyMac bank in July 2008 was the most costly bank or thrift failure during the current crisis. The FDIC estimated the cost to its deposit insurance fund from the Pasadena, Calif., thrift's failure to be $10.7 billion, as of Feb. 29.

BankUnited FSB is second on the list, with an estimated $4.9 billion cost to the FDIC's insurance fund.

The OTS is been embroiled in investigations of backdating of capital infusions by several thrifts under its supervision. In a terse announcement made on March 26, the agency said it was placing Acting Director Scott Polakoff on leave, "pending a review by the Department of the Treasury of the OTS's August 2008 actions related to post-period capital contributions."

The Treasury's inspector general released a report Thursday on its review of the OTS's "involvement in the backdating of capital contributions by six thrifts, including the failed IndyMac Bank FSB." In the report, the inspector general confirmed that the OTS authorized IndyMac FSB to backdate a May 2008 capital infusion of $18 million from its holding company to March 31, 2008, thus making it appear the thrift was well capitalized at the end of the first quarter of 2008, when it, in fact, wasn't.

The thrifts involved in the five other back-dated capital infusions discussed in the report were not identified, but apparently BankUnited, FSB was one of them, since its holding company transferred $80 million to the institution in August, but the capital was included in BankUnited FSB's June 30, 2008 thrift financial report.

While the inspector general's report didn't specifically mention BankUnited, it said that the OTS directed one of the thrifts to backdate an August capital infusion to June 30.

In another instance of backdating described in the report, the report said the OTS "objected" to one instance but took no further action when the thrift backdated a capital contribution anyway. The report said the agency discovered the other three instances of backdating after they had taken place, but took no action against the thrifts.

Looking back, it is apparent that the agency was taking steps earlier this year to address this problem, announcing on Feb. 26 "new initiatives" to "enhance supervision of large thrifts and to ensure timely corrective actions."

Free Financial Strength Ratings for Banks and Thrifts

Although Thursday was another costly day for the FDIC, there were no losses to depositors when BankUnited FSB failed, despite the high total of uninsured deposits. Still, customers with brokered deposits will be inconvenienced and are likely facing lower CD rates as they make decisions on where to deposit the money next.

The FDIC has temporarily increased the basic individual deposit insurance limit to $250,000 on non-retirement balances and has waived insurance limits on non-interest-bearing checking accounts, but the waiver of is also set to expire at the end of the year, with most other balances reverting to their usual $100,000 limit.

Another thing to consider is that even if your personal deposits are under FDIC insurance limits, you or someone you know are probably associated with a business, organization or government entity (such as a school district) with large deposits of somebody else's money in a local bank. In this environment, it is a very good idea to look into the health of your bank. Ratings issues independent and very conservative financial strength ratings on each of the nation's 8,500 banks and savings and loans which are available at no charge on the Banks & Thrifts Screener. In addition, the Financial Strength Ratings for 4,000 life, health, annuity, and property/casualty insurers are available on the Insurers & HMOs Screener.
Philip W. van Doorn joined Ratings., Inc., in February 2007. He is the senior analyst responsible for assigning financial strength ratings to banks and savings and loan institutions. He also comments on industry and regulatory trends. Mr. van Doorn has fifteen years experience, having served as a loan operations officer at Riverside National Bank in Fort Pierce, Florida, and as a credit analyst at the Federal Home Loan Bank of New York, where he monitored banks in New York, New Jersey and Puerto Rico. Mr. van Doorn has additional experience in the mutual fund and computer software industries. He holds a Bachelor of Science in business administration from Long Island University.

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