Reasons To Be Concerned About Act 72 Pledges

In 1971, the Pennsylvania Legislature enacted Act 72 (72 Pa.Stat.Ann. § 3836-1 et seq.) to enable financial institutions to pledge collateral on a pooled basis to secure public deposits in excess of the FDIC insurance limits. Here are some reasons to be concerned about Act 72 pledges:

Collateral Valued at Face Value

The collateral is valued at face value, not market value. Of course, the face value of a security has no relation to its market value. Some institutions will pledge collateral with a face value much higher than its market value. If the institution goes under, the public depositors will only get a portion of their deposit back. Public depositors should require banks to use market value.

Eligible Collateral is Broad

A broad range of securities may be pledged as collateral. The permissible securities are listed in United States Treasury Circular No. 92 (as of November 1, 1971). Typically, banks will pledge U.S. Government and federal agency securities which are secure and capable of valuation. But the list of eligible collateral is quite broad and includes municipal bonds and corporate securities. Public depositors should require that only federal securities be pledged.

Verify Collateral at Daily Market Value

Although Act 72 requires the collateral value to be constantly maintained, there may be banks which do not undertake daily valuations. Public depositors should receive confirmation that the collateral is being marked to market daily.

Disclose Who Holds Collateral

Public depositors need to know who holds the collateral. Under Act 72, the custodian of the collateral may be either another Pennsylvania financial institution or the depositary/pledgor's own trust department. The public depositor should make sure it is comfortable with the custody arrangement. Obviously, an independent, third party custodian is the safest structure. If the depositary is serving as its own custodian, the public depositor should check that the collateral is being held in a separate Act 72 account in the depositary's trust department.

Public Depositor Should Request Reports

Most public depositors never check the collateral in the bank's Act 72 account. Act 72 permits the public body to request periodic reports from the depositary and the custodian on the status of the public deposits and the collateral. Every public depositor should request such reports on a monthly basis.

Verify Perfection of the Pledge of Assets

Act 72 provides that a depositary "may pledge assets to secure public deposits on a pooled basis." It does not discuss perfection of the pledge. 72 Pa.Stat.Ann. § 3836-2 and § 3836-7.

The federal savings and loan bailout statute (known as the Financial Institutions Reform, Recovery and Enforcement Act of 1989, as amended) provides in 12 U.S.C. § 1823(e) that a collateral pledge agreement will not be valid against the FDIC if it does not meet three specific requirements. Many Act 72 pledges probably do not meet the three federal requirements, which are:

  1. the agreement is in writing;
  2. the pledge is approved by the board of directors or loan committee of the depositary, and such approval is reflected in the minutes; and
  3. the approval is kept continuously as an official record of the depositary.


All of the weaknesses in Act 72 cited above cry out for a written agreement among the depositary, the custodian and the public depositor, but most public bodies rely on Act 72 with no written agreement. The Government Finance Officers Association's Committee on Cash Management has developed two sample security agreements to satisfy the Section 1823(e) requirements: the first ("long form") for those public depositors that either do not have a state collateralization statute or that wish to develop separate agreements; the second ("short form") for depositors with established state collateralization statutes which can be incorporated in the agreement by reference. Public depositors in Pennsylvania should consider using written agreements for Act 72 pledges.