Your Bank Has Failed: What Happens Next?

This story was first published on March 8, 2009. It was updated on May 27, 2009.

A lot of people are worried about their banks these days. Devastated giants like Citigroup get bailed out again and again and again. Recent stress tests show some banks need billions more, and many smaller banks are failing. The federal agency that takes over unsound banks is the Federal Deposit Insurance Corporation - the same people who guarantee depositors won't lose their money.

Most every Friday night now the FDIC is seizing several banks. You haven't seen these takeovers happening because they're done secretly at night to make sure there's no needless panic by depositors.

But earlier this year, when this story was first broadcast, 60 Minutes and correspondent Scott Pelley were given extraordinary access to one of these operations because the FDIC wants you to know what happens to your money when your bank has failed.

Cheryl Bates and Arthur Cook are in charge of the operation that had been given the code name "HAPPY," strange considering what they were about to do.

"Do not discuss outside this room, what is going on, what we're here for," Cook instructed team members in a meeting at the hotel. Cook is the receiver-in-charge for the FDIC, who will take control when the bank is shut down. Bates is the closing team manager.

They're there to seize all five branches of Heritage Community Bank, a 40-year-old Illinois bank providing savings, student loans, mortgages and checking. But like so many others recently, it made ruinous bets on real estate.

Sheila Bair, chairman of the FDIC, told Scott Pelley 25 banks had failed in 2008.

Asked how many she expected to fail in 2009, Bair said, "It's going up. There have been 16 already now. And, so our loss projections are going up. We're having to increase premiums on banks to address the loss projections going forward. It's a very distressed environment right now."

"I wonder if you have a number in mind for how much the FDIC is prepared to pay for bank failures in 2009?" Pelley asked.

"We make a five year projection that for the next five years we will lose $65 billion on bank closings," Bair explained.

Some of that was about to be spent on the imminent failure of Heritage Community Bank. It held 12,000 deposits totaling more than $200 million. The FDIC team waited for the last customer to leave, and Cheryl Bates prepared to go in.

Asked what sorts of specialists were part of the FDIC team, Bates said, "We have accountants, we have asset specialists who specialize in loans, we have people who specialize in just the physical facilities. And we have a group of investigators that come in and do a review on the reasons of the bank failure."

Their whole team could run the bank.

Four months earlier, the FDIC and state of Illinois ordered the bank to stop risky lending and increase its cash, but Heritage couldn't find new investors. The night of Feb. 27, no one at the bank knew the end was minutes away.

The FDIC walked into all five branches at once. The chief executive, John Saphir, was told the bank that was his life's work was no longer his. 60 Minutes waited outside as they delivered the news to the employees.

"With Heritage Bank your pay stopped at 6 p.m. At 6:01, you went on a pay which is paid by the FDIC. Unused vacation time, you will be paid for. You will not lose it," Cook reassured the bank's employees.

In that moment, Cook agreed that operation "HAPPY" looked pretty grim. "Because I would say a large majority of the employees don't know that the bank is in trouble and that it's about to close until we walk through the door," he told Pelley.

"We want it to be as seamless as possible for your depositors so no depositor loses any money at all," Bates told employees.

"They reacted with dismay and shock that we were there and it's a very trying period for them," Bates told Pelley. "So it is an end to a whole chapter in their lives."

"When we walk in we appear to be the bad guy," Cook said.

"Some of those people had been there more than 20 years," Pelley pointed out.

"And those are the ones who take it the hardest because they feel that they have put their life into it and now it's no longer there," Cook replied.

The employees now worked for the FDIC. A public notice went up, which was the signal to a team of nearly 80 people to take over the bank.

They took control of the bank Web site, adding a notice that all deposits were safe. Then they started an inventory of all the assets and liabilities.

They broke the news to the media and prepared to reopen the bank Saturday morning as usual. Asked what she expected from the customers, Bates told Pelley, "I think the customers will, some of them will come in with a sense of fear."

Fear created the FDIC in 1933 after the Depression set off a panic that wiped out even healthy banks.

"We've been around for 75 years and nobody's ever lost a penny of insured deposits," FDIC head Sheila Bair told Pelley. "…which is why you need to make sure you are below the insured deposit limits."

Bair told Pelley the insured deposit limit is $250,000 right now.

"When the FDIC comes in and makes depositors whole at a bank that has failed, is that tax money?" Pelley asked.

"No. It is money from our reserves which, and we are funded by insurance premiums that are assessed on banks. So, no it's not taxpayer money," Bair explained.

Bair is a former Treasury official and professor of finance who has written children's books on the wisdom of saving.

"Maybe the CEOs on Wall Street should have read the children's books," Pelley joked.

"Maybe so," Bair replied, laughing. "Maybe so."

Bair warned two years ago that bad mortgages threatened the financial system. Now, she's managing the biggest bank failures in years including the collapse of Washington Mutual and last summer's sudden failure of IndyMac in California.

"When IndyMac failed, you were watching these scenes on television of people lining up outside the bank like it was 1932," Pelley told Bair.

"Yes, it was amazing," she replied.

Asked what she thought of that, Bair said, "I think people forgot that banks do fail and how the FDIC works their money was safe, it was safe, it was probably the safest place in the world to have your money because we were operating the institution at that point."

"What sort of hit was that on your balance sheet?" Pelley asked.

"I think we ended up to, it was over $9 billion for a $33 billion - yes, it was very stiff," she replied.

"The question becomes how many times can the FDIC do that at what point is the FDIC broke?" Pelley asked.

"The FDIC is backed by the full faith and credit of the United States, so if we need to - we try not to and don't want to - but if we need to, we can borrow from the Treasury to make up for any shortfalls," Bair explained. "We don't go broke. We're the government we are backed by the full faith and credit of the United States government."

At IndyMac, some depositors had more than the insured amount in their accounts, and so, hundreds of millions of dollars were lost.

Back at the former Heritage Community Bank outside Chicago, many depositors were worried when the bank reopened Saturday morning.

The FDIC's Rickey McCullough stood at the front door.

Asked what types of questions people were asking him, McCollough told Pelley, "Can I still write checks? Can I access my safe deposit box? Can I use my ATM machine?"

The answer to all those questions, McCollough said, was yes.

But customer Bill Hess showed up on a mission with an empty briefcase. He intended to leave with all of his money.

"We'll be glad to answer any questions for you," McCollough told Hess.

"I don't care anymore," Hess replied, walking into the bank with his briefcase.

"I became a little concerned," McCollough told Pelley. "So, I came inside. And one of the things that he told me as he opened up his briefcase. He said, 'Well, I don't have a gun in here.' So, I said, 'Well, that's good.'"

McCullough explained to Hess and his wife Audrey their savings were safe.

Hess' briefcase was empty when he came in and empty when he came out.

Asked how he felt after talking to the FDIC, Hess told Pelley, "It's fine."

"You had confidence in the FDIC?" Pelley asked.

"The FDIC, right," Hess said. "Now, if they can't pay, then I won't have confidence in them, either," he added with a laugh.

One customer did take most of her money out, but, for many, their concern was for the bank employees.

"We're fine," a teller told a concerned customer. "You just keep coming back to see us."

There are three ways the FDIC takes over a bank: it can close it and pay off depositors, run the bank itself, or, most often it will try to find a buyer.

A few days before the takeover of Heritage Community Bank, 60 Minutes was at the FDIC office in Dallas where they were holding a secret online auction in hopes of finding a buyer for Heritage

The winner was MB Financial, a $9 billion Chicago bank. The night of the takeover, all of Heritage Community's branches became MB banks.

"It's almost as if nothing had happened," Pelley remarked to MB CEO Mitchell Feiger.

"Almost nothing did happen," Feiger replied. "It's the same products, it's the same services, it's the same people, taking care of the same customers."

This was the deal for Feiger: the FDIC paid MB Financial about $3.5 million dollars. MB got all the deposits, customers and loans. If some of those loans go bad, the FDIC will pick up at least 80 percent of the losses. Pelley wondered what Feiger thinks of the health of banking now.

"You have to believe that dozens and dozens and dozens of more banks have to fail. But it's okay," Feiger said. "Because I think the process is smooth. Depositors are fully protected by an industry funded FDIC insurance. And I think that taking out the weak players, and taking some capacity out of the industry is good. It's good for the industry. It's good for the survivors. It will produce, at the end, a much healthier banking system."

"If you can put Heritage Community Bank out of its misery, why can't you do the same with Citigroup?" Pelley asked Bair.

"First of all, I don't talk about open and operating institutions," Bair said. "We can only deal with the resolution of a bank, a federally chartered or state chartered depository institution. And these very large institutions that are creating the headlines now, these are really very large financial organizations. So, they have - it's more than a bank. It's a broker dealer. It's offshore operations. It's foreign deposits."

60 Minutes noticed that while giant banks get bailed out, investors in failed community banks, like Heritage, get wiped out.

"Ben Bernanke, the chairman of the Federal Reserve, says that the system is unfair for smaller banks, and that's just the way it is," Pelley pointed out.

"Well, I think that's true," Bair agreed. "And going forward, I think we need to really review the size of these institutions and whether we should do something about that, frankly."

Bair surprised Pelley when she suggested that maybe the mega banks, those bailed out by taxpayers, shouldn't be allowed to exist in the future.

"I think that may be something that Congress needs to think about," she said.

"Actually limit how big a bank can be?" Pelley asked.

"Yeah. Well, you know, I think taxpayers rightfully should ask that if an institution has become so large that there is no alternative except for the taxpayers to provide support, should we allow so many institutions to exceed that kind of threshold," she explained.

"The idea would be that no bank would grow so large that it posed a systemic risk to the economy," Pelley said.

"Systemic risk, that's right," Bair agreed.

Because Heritage Community Bank was bought by MB Financial, the FDIC didn't have to pay depositors. Even accounts over the insurance limit were safe. For Cheryl Bates it was her fourth closing this year and certainly not her last.

Asked what she wants people to think when she tells people she's from the FDIC, Bates said, "I always want 'em to think that I'm one of the good guys. That we are the people that are insuring their money. And that we want to make sure that they get their money back, should their bank fail. That they are going to be okay. Because the FDIC is there."

Produced by Henry Schuster