Rarely do corporate officers remain with a single employer for their entire careers, and that is true in banking as well. Relationship managers often move to competitors, and naturally they hope that “their” book of business follows them. Most of these bankers play by the rules governing the relationship with their employer, but not all do. A banker’s former employer historically has been able to resort to civil litigation for relief when the rules are not followed, usually for money damages (sometimes indemnified by the banker’s new employer) but also injunctive relief to recover stolen records. The banker is then free to carry on with his new employer. His former employer is obligated to file a suspicious activity report with the regulators if theft of bank records or other fraud is involved, but the regulatory agency acts on its own, secretly, and oftentimes the bank is left to wonder what, if anything, ever came of it. However, a recent decision from the Board of Governors of the Federal Reserve System enforcing current law demonstrates how severe the penalties can be for bankers who breach obligations owed to their former employer. (Issued March 24, 2021.)

Mark Kiolbasa and Frank Smith were officers of Central Bank and Trust in Wyoming. Kiolbasa was a loan officer and president of Central’s Cheyenne branch. Smith was Central’s chief financial officer. Central is a state-chartered bank that is not a member of the Federal Reserve, but as a depository institution it is regulated by the Federal Deposit Insurance Corporation.

While they were employed by Central, Kiolbasa and Smith plotted to acquire Farmers State Bank, a competing bank in Wyoming that is a Federal Reserve member. They solicited prospective investors, and there was evidence that, while still employed by Central, they even recruited some of Central’s customers to follow them to Farmers. Kiolbasa and Smith were coordinating secretly with Farmers, keeping their plans from Central. As consciousness of guilt, Smith emailed Kiolbasa that: ‘I don’t want to get caught with my pants down on this.”

Kiolbasa resigned from Central and joined Farmers. The Central customers that Kiolbasa had managed paid off their mortgage loans at Central and sent their business to Kiolbasa at Farmers. Smith, who still was at Central, violated Central’s policies by enabling these customers to pay off their loans by circumventing Central’s protocols. Kiolbasa had taken confidential records from Central despite his acknowledgment as a Central employee that he would comply with the bank’s confidentiality policies.

While Smith was still employed by Central, he and Kiolbasa acquired stock in Farmers and a change in control application was filed with the Federal Reserve. A director on Central’s board discovered the application through a Google search and confronted Smith, who resigned immediately and joined Kiolbasa at Farmers. Smith became Farmers’ president and chief executive officer, and a member of the board. Smith also took important Central records with him for use at Farmers.

Central sued Kiolbasa and Smith along with other Farmers personnel. Central claimed (1) misappropriation of trade secrets, (2) breach of fiduciary duty, and (3) tortious interference with contract or prospective economic advantage. The jury found in favor of Central, awarding the bank $1 million in damages. The jury also awarded punitive damages for willful, wanton, and malicious conduct — $25,000 against Kiolbasa and $50,000 against Smith. The parties settled post-trial under undisclosed terms.

After the civil trial, the Federal Reserve brought a proceeding against Kiolbasa and Smith under section 8 of the Federal Deposit Insurance (FDI) Act, alleging they had engaged in unsafe or unsound practices and breaches of fiduciary duties. After an administrative trial, the administrative law judge (ALJ) issued a recommended decision prohibiting the two respondents “from further participation in any manner in the conduct of the affairs of any financial institution or organization.” The Federal Reserve’s Board of Governors considered the record evidence in deciding whether the ALJ’s recommendation was justified under the FDI Act.

Under section 8 (e) (1) of the FDI Act, “the Board has jurisdiction to prohibit ‘any institution-affiliated party (‘IAP’) who has violated ‘any law or regulation,’ ‘engaged or participated in any unsafe or unsound practice in connection with any insured depository institution or business institution,’ or ‘engaged in any act….which constitutes a breach of such party’s fiduciary duty.’” 12 USC 1818 (e) (1). The Board was required to prove (1) an improper act (2) that had an impermissible effect and (3) was accompanied by a culpable state of mind.

The Board concluded that the ALJ’s recommendation was appropriate. The Board found that Smith and Kiolbasa were culpable of misconduct by acting in their own self-interest to the detriment of their former employer Central, which constituted a breach of fiduciary duty of loyalty and care. The Board explained that such breach of fiduciary duty also constituted an unsafe or unsound banking practice, which the Federal Reserve regulated under its jurisdiction in the protection of consumers and other depositors: “Fiduciary duties define standards of prudent operations and thus an act in violation of such duties is by its nature imprudent and unsafe.”

In addition to that first prong of the test, the Board concluded that the misconduct also satisfied the effects element of that test as Smith’s and Kiolbasa’s conduct benefited themselves while hurting Central. The third prong of culpability was likewise satisfied because their conduct involved “personal dishonesty or a willful or continuing disregard by such party for the safety and soundness of such insured depository institution.”

It is better to head off such breaches of fiduciary duty before they are committed than to seek to mitigate the harm after the fact; by then, simple monetary relief may not be sufficient to make the victim bank whole.

Some individual bankers, including mortgage bankers, seem to view the bank’s customers as their own rather than as customers of their employers — especially if the banker had a prior relationship with the customer. Annual training (video is fine) and possibly written training materials would be a good practice in an effort to prevent such breaches of fiduciary duty. Perhaps unenlightened or overly ambitious bankers will refrain when they learn that they can be forever barred from the industry for such misconduct.