The $1.2-billion asset Radius Bank recently applied to the Massachusetts Division of Banks to convert from a federal savings association to a state-chartered trust company.

At first glance, the move comes across as an odd decision, considering Radius Bank is an almost entirely digital bank that seeks to build a national presence.

But a closer look shows that Radius Bank is switching charters to escape the qualified thrift lender test, which it has now failed to pass since the last quarter of 2016, according to application documents obtained by Banker & Tradesman from the DOB.

The qualified thrift lender test is a legal – although somewhat outdated – requirement that separates federal savings, or thrift, institutions from national banks. In order to pass the test, financial institutions must maintain 65 percent of their portfolio’s assets in qualified investments, or residential mortgages, in at least nine months out of each one-year period.

In addition, the bank is subject to a consumer loan lending limit of 35 percent of total assets and a lending limit of 20 percent of assets for commercial loans, at least 10 percent of which must be in small business loans.

Considering Radius Bank’s model over the past few years, it’s no surprise the bank failed to pass the test.

The bank was acquired in 2016 by four private equity funds and bank executives embarked on a national campaign to pursue consumer deposits with a virtual banking platform. Radius is now comprised of four main lines of business: Commercial lending in the Boston market and three national lending groups including high net worth marine lending, equipment finance and U.S. Small Business Administration loans.

Radius’ residential loan volume was just over $186 million out of its more than $880 million loan book as of June 30, according to the FDIC.

“Thrifts that are becoming more sophisticated and want to get into commercial lending are finding that it is really hard to qualify for the qualified thrift lender test and be a bank,” said Kevin Handly, a Boston-based banking lawyer and teacher at Boston University Law School’s graduate program in banking and financial law. “The money is in commercial loans and that is also where the safety is because most commercial loans are set at a floating rate and protected from interest rate risk.”

Bram Berkowitz

Thrifts Versus Banks

The qualified thrift lender test was first created when thrifts were more prevalent in the U.S. and had their own insurance fund, the Federal Savings and Loan Insurance Corporation. The goal was to encourage affordable home ownership.

After the savings and loan crisis in the 1980s, the FSLIC was insolvent and federal savings and thrifts were prohibited from transitioning to national banks because they were in poor financial shape and would harm the stability of the FDIC.

The qualified thrift lender test created a clear divide between commercial banks and thrifts. Being a thrift did come with advantages, including several tax benefits such as greater loan loss deductions than national banks. And back in the 1990s, when federal law separated commercial and investment banking activities, non-banks could acquire thrifts, but not national banks.

But these advantages would go away after the Glass-Steagall Act was repealed and when the FSLIC recovered, became solvent again and was eventually absorbed by the FDIC.

Still, even today, there are some advantages that thrifts have over banks, according Handly, including some grandfathered tax advantages and the ability to participate in residential joint ventures.

Why a State Charter?

Given its business strategy it makes sense for Radius Bank to abandon a federal savings charter, but it is still unclear why the bank chose to pursue a state charter instead of a national bank charter.

Bank executives declined to speak with Banker & Tradesman about their decision to pursue a state charter; the bank issued a statement saying that “this conversion is strictly for internal accounting purposes and will have no impact on its business plan, daily operations or customers.”

Radius Bank is not the first financial institution to run into the qualified lender test issue. In the modern era, most banks are focusing more of their efforts on commercial business and less on the residential mortgage side of things – the U.S. Office of the Comptroller of the Currency was losing federal thrifts under its jurisdiction due this growing trend.

The agency recently found a way to make it easier for federal savings banks to escape the qualified lender test without switching charters.

Baked into the Dodd-Frank rollback bill is a provision that will allow federal savings banks with less than $20 billion in assets to operate as a covered savings association. These associations would have the same rights and privileges as national banks and therefore be able to avoid the qualified lender test.

Although there are some advantages of being a state-chartered trust company, such as better retirement benefits for employees, Handly said the process of changing charters is also much more expensive and laborious than if the bank were to become a covered savings association.