Compliance traps when using referral incentives.

Creativity is certainly needed these days to attract new deposit or loan business. One of the most popular ploys is some sort of incentive, given not to the customer opening the new account or closing a new loan. but to the person referring the new customer to the bank. It turns out there are some compliance issues to be aware of when planning these types of incentives.

There are two principal categories of recipients to be concerned with: consumers (whether present customers or not) and your employees. Providing nonemployees with some sort of reward in return for referring friends and family to your bank is permitted in almost all instances, but there are some compliance issues.

Say you want to give a $10 gift card to anyone who refers a new checking account customer to your bank. Since the reward doesn't affect the new customer at all, it need not show up on their disclosures, and doesn't impact the APY if the account is interest-bearing. It also is not reportable on anyone's 1099, since it is not "interest" to either the recipient (since it's not tied to an account) or the account holder (who didn't receive it). The only way a 1099 would be involved is if the incentive is worth more than $600, and in that rare case, the recipient would receive the 1099-MISC for the incentive's fair value.

What about loans? Disclosurewise, the answer is the same: no impact, since your new customer isn't paying for the incentive, or benefiting in any way, and it doesn't affect the APR. Again there is no tax impact--paying the incentive doesn't go on the borrower's 1098, since it's not paid by the borrower in connection with a mortgage loan, nor is it "interest" reported on any 1099 (save for the 1099-MISC threshold, same as above).

However, for RESPA-covered mortgage loans (consumer-purpose loans secured by residential real property), lenders are prohibited from paying referral fees unless the recipient is performing services in connection with that loan. In a straight referral incentive program, that is not the case (a referral is not a compensable service under RESPA) and such payments are prohibited, no matter how small the amount.

There are a few additional issues to consider when the recipient is one of your employees. Although again there is no impact to your new customer (so it need not be disclosed and it doesn't impact the APY for deposit accounts or APR for loans), how does it impact your employee? Depending on the type of incentive and specifics of the program, the incentive may be considered compensation included on the employee's W-2.

Referral payments for mortgage loans can be made to your employees, however, since RESPA's prohibition does not apply to the lender's own employees. But again it could be considered compensation to the employee.

One other caution: If your bank incents employees for non-FDIC insured product referrals, be sure the reward is tied only to referring the prospect to someone in the bank who is properly licensed to discuss such products. Nonlicensed personnel should not make "suitability determinations," or otherwise discuss the specifics of any noninsured product, and the referral program should not encourage nonlicensed personnel to do so.

Carl G. Pry, CRCM, is a vice president and compliance manager in consumer risk management for KeyBank, Cleveland. E-mail: [e-mail]