History can have an unpleasant way of repeating itself.

If recent activity by federal banking regulators is anyindication, many bank executives will face a costly rendezvous withhistory within the next few years. For those bank officials,ensuring the strength of their directors and officers liabilityinsurance programs now could be critical in protecting theirpersonal wealth later.

Regulators, once again responding to a crisis in thefinancial institution industry, are beginning to turn to a measurethey invoked in the aftermath of the Savings and Loan meltdown ageneration ago. During that period, more than 1,000 thrifts failed,at a cost of $124 billion to the federal government, according tothe Federal Deposit Insurance Corp.

In an effort to recover a portion of the government's losses,federal agencies sued former directors and officers ofapproximately one-quarter of the failed thrifts–a tactic thatallowed the government to tap the executives' D&O liabilityinsurance.

The government eventually recovered $1.3 billion of D&Oinsurance proceeds.

Now, the FDIC may again be looking at D&O insurance as aresource for replenishing at least a portion of the government'slosses resulting from the recent spate of bank failures.

Since the beginning of the recession in December 2007, hundredsof banks have failed, including 140 in 2009 and 120 through thefirst nine months of this year.

The FDIC already has sent civil demand letters to some formerdirectors and officers, perhaps so they can place their insurers onnotice of an impending claim. In the letters, the FDIC often doesnot list any charges but warns that it might file suit against themat a later date.

The FDIC may be sending the letters now to ensure that thepotential defendants have insurance to draw on if the agencypursues a claim.

Significantly, the former head of litigation at the FDIC haspredicted that up to half of all directors and officers of failedbanks will be sued. That's an observation that should grab theattention of all bank executives because bank failure statisticslikely will deteriorate.

Through the second quarter of this year, the FDIC hadplaced 829 banks on the agency's list of problem facilities.That figure represents more than 10 percent of the nation's 7,800banks and is nearly a 100 percent increase over the total at theend of the second quarter of 2009.

The financial hole that the FDIC, which insures more than $7trillion of bank and thrift deposits, is trying to claw out of wasdeep even before considering the expansion of its problem banklist. At year-end 2009, theagency reported a $20.9 billion deficit in its DepositInsurance Fund. A year earlier, the fund had a nearly $17.3 billionsurplus.

Since 2007, however, the FDIC has sued the executives of onlyone failed bank. In July, the agency filed a $300 million claimagainst four former IndyMac Bank executives.

But current bank directors and officers should not take comfortin the dearth of FDIC litigation in recent years. This is not anindication that the agency has little inclination to pursue bankexecutives.

Like the S&L crisis, the current mayhem in the bankingindustry is evolutionary in nature, advancing from an early stageof great uncertainty to a later period of improved stability.

Bank executives should expect regulators to act now as they didbefore. That means the regulators will focus initially on seizingtroubled institutions and stabilizing the industry, only thenturning to recover government losses through litigation. The FDICcan delay litigation for years under the statute oflimitations.

IndyMac failed two years before the agency filed suit.

Clearly, regulators have more work ahead of them before theindustry stabilizes, despite the recent determination by thenonprofit National Bureau of Economic Research that the recessionended in June 2009.

Significantly, 60 percent of banks continue to boosttheir loss reserves. During the second quarter of this year, banksadded $40.3 billion to reserves, according to the FDIC.

While that addition to reserves is the lowest amount theindustry has reported over the past two years, it is still high byhistoric standards and could be a function of the improvingfinancial condition of large banks.

Small community banks, which have less than $1 billion inassets, account for 90 percent of the nation's banks. They reportedthat loans that are 90 days past due increased 0.3 percent onaverage during the second quarter. Large banks, by contrast,reported a 5.3 percent drop in past-due loans on average during thequarter.

At the end of the third quarter, banks foreclosed on more than95,000 home loans–a record number during the financial crisis and a25 percent increase from August 2009, according to RealtyTracInc.

Another problem looming larger on the horizon for banks is the$1.4 trillion of commercial real estate loans that will maturebetween the end of this year and 2014. Half of those loans are onproperties with values that have fallen below the loan amounts.More than one-third–37 percent–of all U.S. banks are exposed tothose problematical loans, according to a congressional bankingoversight panel.

Given these conditions, bank directors, officers and riskmanagers should closely examine the strength of their D&Ocoverage and consider purchasing Side A coverage as additionalprotection.

If a policy contains a regulatory exclusion, the FDIC mightdecide a lawsuit would not be worth the agency's effort. However,as the former top litigator for the agency has noted, the FDICstill might pursue claims against executives in an effort torecover from them personally.

In addition, those directors and officers whom the FDIC decidesto leave alone still could face shareholder securities class actionclaims.

Purchasing Side A-only insurance would protect executives ifthey were to be sued by the FDIC or shareholders following a bankfailure. Unlike a traditional D&O policy, bankruptcy courts donot freeze Side A policies covering the executives of an insolvententity, since those limits are not deemed assets of the insolvententity and a Side A policy may provide broader coverage in thosecircumstances.

Bank risk managers, however, would have to be careful that thosepolicies do not contain regulatory exclusions.

(Foranother perspective on D&O policy questions raised by aBloomberg report that the FDIC is ready to sue 50 directors andofficers of failed banks, see related article, "FDIC Plan to FileLawsuits Creates D&O Policy Coverage Questions, posted Oct. 18on NU's Online News Service.")

Of course, the FDIC still must prove that bank executivesbreached their fiduciary duties or engaged in unlawful bankingpractices and that the institution did not fail solely because ofgenerally poor economic conditions.

Also, unlike the situation that existed during the S&Lcrisis, the FDIC now must show that executives were grosslynegligent, rather than simply negligent, in order to recoverdamages. That's a tougher standard of proof, which the FinancialInstitutions Reform, Recovery and Enforcement Act of 1989established.

Directors and officers also may take some solace in the factthat in the more than 220 shareholder securities class actionclaims filed over subprime mortgage losses, the dismissal rate ishigher than in other D&O securities class action cases.

However, bank executives should not count on those factors tooheavily. Among the subprime mortgage- or credit-related cases thathave survived, 15 have settled for a total of more than $1.8billion. And the government succeeded for several years under thegross negligence standard in pursuing claims against S&Lexecutives.

Bank executives should count on the FDIC to press for "déjà vuall over again."

Trevor Howard is a senior vice president ofU.S. management liability with Liberty International Underwritersin New York