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BANKER BUILDERS

Will regulatory changes turn U.S. banks into real estate developers?

By Curt Hazlett

The federal agency that regulates the banking industry has allowed two large banks to get more involved in real estate development, a move observers say has implications for retail developers.

Without fanfare, the Office of the Comptroller of the Currency (OCC) posted some “interpretive letters” on its Web site in December in which it approved requests by the banks to develop commercial properties near their headquarters. The documents did not name the banks, but analysts later identified them as PNC Financial Services Group and Bank of America, based on details in the documents, together with facts already in the public domain.

PNC will build a mixed-use project next to its Pittsburgh offices that includes ground-level retail, a hotel, office space and condominiums, while Bank of America is planning a 15-story Ritz-Carlton hotel on its property in Charlotte, N.C.

All of this relaxes a long-standing rule that prohibits banks from owning and developing commercial properties unless these are for use primarily by bank employees.

“This allows them to engage in real estate development for properties that are next door to their headquarters, and these projects could include ground-level retail, condos and hotels,” said Jaret Seiberg, a financial analyst in the Washington, D.C., office of Stanford Washington Research Group, a policy research firm.

The prohibition against developing real estate, created by the National Banking Act of 1863, is intended to protect the banking system from large losses that may result from a sharp downturn in real estate. In an 1878 ruling, the U.S. Supreme Court upheld the restriction as a way to keep banks from “embarking in hazardous real estate speculations, and to prevent the accumulation of large masses of such property in their hands.” Those concerns have continued to this day. When Congress passed the Gramm-Leach-Bliley Act in 1999 to allow bank subsidiaries to engage in nonbanking activities, both real estate development and real estate investment were specifically excluded.

Analysts say the OCC’s ruling, while limited in scope, is important because it chips away at that prohibition. Yet Seiberg says he sees no immediate threat to retail developers, because the OCC moves slowly, and it could be years before the regulations are broadened further. But the action “certainly lays the groundwork for banks to start thinking about real estate development, and that could include retail,” Seiberg said. “Is it likely that a bank will try to build something like the Mall of America? I don’t think so, but you might see something on a more limited scale.”

In requesting the OCC’s permission to develop the hotel on an adjacent parking lot, Bank of America said the project would meet a pressing need for additional lodging for employees, customers and vendors visiting Charlotte. More than half the rooms will be used for its own purposes, the bank said.

PNC’s project will feature ground-level retail and restaurant space, a 158-room hotel and 32 condominiums. The building will include 12 floors of office space, of which the bank will occupy only a small portion. PNC said combining uses will make the project economically feasible and help rejuvenate the downtown area.

Federal Financial Analytics, a Washington, D.C.-based consulting firm that assesses the impact of government policies on businesses, said in an analysis that the ruling sets a precedent for “a wide range of development and investment activities by national banks that could enhance profitability, maximize the value of owned property and promote local development.” It also noted that the action is likely to provoke critics and “raise serious policy concerns” about the role of the banking industry.

The most vocal opponent of the change so far is the National Association of Realtors, which said it would file a Freedom of Information Act request to determine if the OCC has authorized any other banks to develop real estate, though at press time it had not specified when it would do so. The group also said it would ask Congress to block the change.

“These regulatory approvals bring banks closer to controlling commercial real estate projects from top to bottom,” said Tom Stevens, the realtors’ association president. If banks are “allowed to use their cheaper capital and control of credit to bring about the same consolidation in real estate brokerage that they have already brought to their own business, consumers will surely suffer,” he said.

There has been no such reaction from the retail development industry. “I don’t think it’s on the radar screen yet,” said Glenn J. Rufrano, CEO of New York City-based New Plan Excel Realty Trust.

While noting that the full meaning of the change is still unclear, Rufrano says he doubts that banks will try to move aggressively into the retail development business.

“I don’t get the sense that they are just going to go freely making investments in office buildings and hotels on a purely speculative basis just because they have nothing else to do with their capital,” said Rufrano. “At the end of the day, it’s not their business, and they don’t have the infrastructure.”

Still, Herb Tyson, ICSC’s staff vice president of state and local government relations, says the OCC decision warrants scrutiny. “We don’t have an interpretation of what it might mean to retail, but we’re watching it like everyone else,” Tyson said. “There is the potential for this to be a slippery slope. It could potentially change the landscape, but no one knows for sure.”

In his analysis, Seiberg said the OCC would defend the decision as a narrow one with limited impact. Indeed, John C. Dugan, the U.S. comptroller of the currency, issued a written statement in January saying that the interpretive letters “were not intended to expand, and do not expand, the authority of national banks to hold real estate.”

Seiberg says the importance of the decision lies in its vagueness. “The agency answers questions not broadly, but narrowly,” said Seiberg. “The answer becomes the basis for the next bank to come in and seek something similar. That’s how agency law gets developed, not by broad pronouncements of what is or isn’t allowed.”

Seiberg wonders how the OCC will now respond to a bank that wants to build a large branch and make it more economically viable by developing a retail project around it. “One would expect that banks could expand this to building other buildings to put branches in, then leasing out space,” he said.

Tyson says retail developers work closely with banks. “On an ongoing basis, I think the relationship has been positive,” he said. But banks “should know their levels of competency in terms of what their core business is, and one would suspect they’ll stick to their business.”

While acknowledging that the ruling could have ramifications for retail down the road, Rufrano says retail developers should not be concerned, because banks are unlikely to want the risks associated with retail development. “The development business is so speculative and so out of the mainstream for banks that I don’t think anyone should be too worried about this,” he said. “There’s no way a bank is going to compete with a competent developer.”