LAW ON SECRECY OF BANK DEPOSITS Rationale for Exemption of PDIC1

1. What is the Law on Secrecy of Bank Deposits?

The law on secrecy of bank deposits or Republic Act (R.A.) No. 1405 declares that all
types of deposits2 in banking institutions including investments in bonds issued by the
Philippine government and its political subdivisions and instrumentalities are considered
of absolutely confidential nature. As provided, deposits may not be examined, inquired or
looked into by any person, government official, bureau or office. It is also unlawful for
any official or employee of a bank to disclose to any person any information concerning
deposits. Violation against this law subjects the offender to certain penalties.3

2. Why was the Law enacted?

After World War II, capital and credit facilities for agricultural and industrial
development in the country were lacking. Rehabilitation of the banking and financial
system became a major government thrust because of its pivotal role in financing
developmental endeavors. However, private hoarding of money was rampant because
people feared government inquiry or investigation into their bank deposits and bond
investments for tax purposes. The prevailing policy that provided for examination of
books, assets and general condition of banks (Act No. 52 in 1900) was amended by the
Law to exclude deposit records from coverage of bank examination to protect and
encourage depositors and investors.

Members of Congress at that time recognized the possible dangers of the Law such as
providing a climate conducive to tax evasion. However, the Law was still passed with the
belief that the benefits accruing to the economy would counterbalance immeasurably the
losses of the Government from such tax evasion. The Law declared a policy to discourage
private hoarding and encourage people to deposit money in banks to be utilized in
authorized loans to assist in the economic development of the country (Viray, 1998).

3. What exemptions were provided in the Law?

As stated in the Law, deposit records may be disclosed only (a) upon written permission
of the depositor, (b) in cases of impeachment, and (c) upon order of a competent court in
the case of bribery or dereliction of duty of public officials or when the money deposited
or invested is the subject matter of the litigation.

Additional exemptions were introduced since then as contained in other laws: (a) the
Courts were authorized to examine bank deposits of spouse and unmarried children of
government officials found to have unexplained wealth under the Anti-Graft and Corrupt
Practices Act of 1960; (b) the Commissioner of Internal Revenue was granted powers to
inquire into bank deposits of a decedent for estate tax purposes under the amended
National Internal Revenue Code of 1985, and (c) the Ombudsman was allowed to
examine and have access to bank accounts and records of government officers and
employees under the Ombudsman Act of 1989. The Law also retained the right of the
Treasurer of the Philippines under the Unclaimed Balances Act of 1932, to receive
depositor information from banks on all deposits on behalf of persons known to be dead.

In 1981, Presidential Decree (P.D.) No. 1792 was issued to include bank examiners
authorized by the Monetary Board from the existing exemptions to conduct special or
general bank examinations upon establishment of a reasonable ground for irregularities.
The amendment was premised on the realization that existing prohibitions adversely
limited the examining authority of the Central Bank. It was claimed that such limitation
was contrary to effective supervision of banks and endangered the safety of deposits.

However, P.D. No. 1792 was repealed in 1992 with the passage of R.A. No. 7653 or The
New Central Bank Act. Aside from encouraging domestic savings, R.A. No. 7653 sought
to uphold the right of citizens to privacy. Members of Congress during that time generally
believed that relaxed disclosure rules were not conducive to healthy competition among
banks and other financial institutions (Suratos and Sale, Jr., 1994). (For details of laws
cited, refer to Attachment A).

4. Will there be flight of deposits if the Law is relaxed again to exempt bank
examiners?

Based on historical trends, deposit flights or declines in deposit levels were noted during
the years when bank examiners were provided access to individual deposit records (Chart
1). (Since the operation of Central Bank in 1949, bank examiners were allowed to
examine individual deposit records from 1949 to 1955, and were provided access to these
records on selective basis from 1981 to 1992). During this period, demand deposits
contracted in 1951, 1954, 1982, 1984, 1985, and 1987. Savings deposits declined in 1950,
1951 and 1954. Time deposits dropped sharply in 1986.

However, deposits contracted even during the full enforcement of the Law with negative
growth rates recorded for demand deposits in 1957, 1964 and 1966; and time deposits in
1956, 1964, 1968 and 1969. This implied that existence of Law shielding deposit records
from examination of bank examiners was not enough reason for depositors to maintain
their deposits in banks. Deposits in banks increase when there is economic growth,
expansion of banking infrastructure, lower inflation rates, higher interest rates and higher
deposit insurance coverage (PC, forthcoming).
5. In countries where confidentiality of deposit records of an individual is also
protected by Law, are bank examiners exempted from having access to individual
deposit records?

In a survey of twenty (23) countries4, the relationship between banks and their individual
clients has always been bound by an obligation of secrecy, i.e., non-disclosure of
information on the accounts or about individual clients to any third party (Table 1).
However, there are exemptions to this rule which vary across countries. A common
exemption is the right accorded to bank examiners to access all available information,
including individual client information, to obtain a true and fair view of the financial
condition of the bank and the profitability of its business.

The Philippines stands out as the only country where bank examiners' access to bank
information was restricted to exclude deposit records of individuals. In Switzerland,
where banking practice has earned a reputation of having the strictest secrecy rules on
client information, bank examiners are given the right to access all information.
Developing countries that have relatively larger banking systems than the Philippines
indicated by ratio of deposits to total domestic output like Malaysia, Cyprus, Kuwait and
Thailand allowed bank examiners to access individual deposit records. Even in India,
Indonesia, Tanzania and Thailand, where credibility of government personnel was lower
as measured by the corruption perception index (TI, 2000), government regulators are not
barred from examining the records of bank clients.

Table 1. Characteristics of Selected Countries with Secrecy Law and

Bank Examiners’ Access to Deposit Records
Has Law on Bank Examiners
Deposits/GDP Corruption Indexb
Country Secrecy of Client Access Deposit
(1999,%)a (1999, 0 to 10)
Info Records
Advanced Economies
Australia Yes Yes 32.0 8.7
Belgium Yes Yes 82.0 5.3
 Canada Yes Yes 28.7 9.2
France Yes Yes 262.2 6.5
Germany Yes Yes 66.1 8.0
Japan Yes Yes 57.3 6.0
New Zealand Yes Yes 45.9 9.4
Singapore Yes Yes 118.8 9.1
South Korea Yes Yes 66.9 3.8
Switzerland Yes Yes 72.3 8.9
United States Yes Yes 27.0 7.5
Developing Economies
Cyprus Yes Yes 101.8 -
India Yes Yes 45.9 2.9
Indonesia Yes Yes 58.4 1.7
Kuwait Yes Yes 97.3 -
Malaysia Yes Yes 111.4 5.1
Nepal Yes Yes 33.3 -
Philippines Yes No 63.4 3.6
Tanzania Yes Yes 6.7 1.9
Thailand Yes Yes 98.3 3.2
Economies in Transition
Lithuania Yes Yes 31.4 3.8
Estonia Yes Yes 55.4 5.7
Hungary Yes Yes 40.1 5.2
a
Except for Germany, Singapore, Cyprus, India, Indonesia, Kuwait and Tanzania data were for 1998;
Belgium for 1997; and Hungary for 1996.
b
Relates to perceptions of the degree of corruption as seen by business people, risk analysts and the general
public and ranges between 10 (highly clean) and 0 (highly corrupt);
- Not available
Sources: Central Banks of listed countries; IMF; Transparency International.

6. How can confidentiality of bank client information be preserved if bank

examiners are provided access to individual deposit records?

Although market participants should have access to correct and timely information, there
are certain types of sensitive information like those related to individual customer
accounts that should be held confidential. Those with access to these sensitive
information like bank employees and bank examiners should be bound by strict duty of
confidentiality. As banks guarantee the right to privacy of bank clients, banks need to be
assured that such information will be held confidential by those with same access like
bank examiners (Basle Committee on Banking Supervision, 1997).

Bank supervisors in countries included in an extended survey recognized the legitimate

cause for confidentiality of information on individual clients of banks (Annex B). Bank
examiners were bound by professional secrecy restricting them from divulging to any
person or authority confidential information which they may receive in the course of their
duties. Confidential information can be used only for supervisory purposes towards
strengthening bank monitoring and supervision which may be shared to other regulators
in the financial system. In countries with strictest secrecy laws like Singapore and
Switzerland, these information are not released to tax authorities unless ordered by a
court.

The confidence of bank depositors will be sustained in a regulatory environment allowing

only competent and trustworthy bank examiners to access individual client information
while exercising their regular functions. The selection of bank examiners should be
judiciously done following strict standards of screening complemented with continuing
training. Should there be violations against confidentiality rules, stiff penalties should be
imposed, commonly by imprisonment and fines. The Philippines already imposes the
maximum length of imprisonment of 5 years, while Switzerland sets the maximum fine
of ,447.00. In the US, civil suits are filed against violators of the financial privacy law to
claim for damages.

7. Why should PDIC seek exemption from the Law?

For the same purposes recognized and practiced in other countries, PDIC should be
allowed access to all information transacted by banks, including deposit records of
individuals, to effectively fullfill its mandated functions:

A. Effective Monitoring and Supervision of Bank Performance

This requires an accurate assessment of financial condition of banks. However,

the Law prohibits bank examiners from investigating deposits, a major component
of liabilities, thus, hampering bank supervisors from ascertaining the true state of
the bank's financial condition. Certified financial statements submitted by some
banks to bank supervisors may not necessarily provide reliable information
regarding the financial condition of banks.

B. Implementation of Prompt Corrective Actions Against Erring Banks

Granting bank supervisors unlimited access to bank records during bank

examinations enable them to institute prompt corrective actions against banks
committing unsafe and unsound practices or to establish cases of fraud or serious
irregularity against unscrupulous bank owners and officers. Unfortunately, the
Law makes it difficult for bank examiners to detect unsafe and unsound practices5
and establish bank fraud specifically those done through or against bank deposits.

While the Law provides that records on money deposited or invested which is a
subject matter of litigation may be examined upon order of a court, it first requires
filing of a litigation or a case of fraud. Such exception cannot be pursued by bank
supervisors since there must be a case development on how fraud or serious
irregularity is committed before a case can be filed in court. Given the restriction
for bank examiners to access deposit records, it becomes impossible for bank
supervisors to make a case prosper, file it in court and secure a court order to
grant them access to deposit records.
C. Promotion of Depositor Confidence and Protection.

The cloak of confidentiality afforded to depositors by the Law is a legitimate

concern. However, protection of privacy would be of little benefit to the depositor
if the bank fails because of unsafe and unsound practices committed by bank
owners and employees. This is exacerbated by the helplessness of bank
supervisors in establishing the violations committed and in instituting corrective
actions against violators because of the Law on Secrecy of Bank Deposits.

Without evidence, no action can be taken against erring bank officers and owners
committing malpractices relating to deposits and such may continue to the
detriment of the bank and its depositors. While exempting bank examiners from
the Law infringes on the privacy of depositors, it provides bank supervisors
greater ability to ensure that banks are strong and operate on safe and sound
practices, thereby promoting depositor confidence and protecting depositor rights.

D. Better Servicing of Depositor Claims in Cases of Bank Closures

Bank closures reduce depositor confidence in banking institutions. But an

immediate settlement of insured deposit claims impress an efficient and sound
banking system. A major deterrent in the prompt and accurate payment of insured
deposits is the poor quality of records of deposits in closed banks which are found
to be either not updated, incomplete, tampered or fictitious. Inconsistent record-
keeping systems and formats among bank branches also pose difficulties when
consolidating deposit accounts and offsetting obligations against such deposits to
determine the amount of insured deposits. Because of the Law, individual deposit
records could be examined for the first time only upon bank closure. Problems in
deposit records demand tedious verification of accounts which protract claims
processing by PDIC and delay payments to as long as nine months from date of
closure to the detriment of depositors.

Access to deposit records during examinations will enable PDIC to at least detect
problems on records early enough and require banks to take necessary corrective
actions such that in the event of closure, fast and easy retrieval of deposit and loan
information could be facilitated.

E. Accurate Assessment of Risk Exposure

As insurer of deposits, it is ironic that PDIC has no access to complete deposit

records to accurately assess the extent of its risk exposure. Some banks
anticipating closure split the big deposit accounts to several small accounts to
ensure full insurance coverage which increase the risk exposure of deposit
insurance. The splitting of deposit accounts was documented in the cases of
Unified Savings and Loan Association (SLA) and Fortune SLA closed in 1998,
where total insured deposits increased by P460 million and P128 million,
respectively, representing 45 percent and 51 percent of each bank’s total deposits6.
 Thus, the risk exposure of the deposit insurance fund is increased and PDIC is put
off-tract in estimating the amount of funds needed when a bank is closed.
Granting PDIC exemption from the Law therefore would enhance its risk
assessment capability and provide a more reliable basis for setting aside
provisions for insurance losses.

Moreover, the limited ability of PDIC to verify the extent of its risk exposure
provides an incentive for some banks to understate reported assessable deposits7
to remit lower insurance assessment regarded as operating expense. Banks submit
regular certified statements where deposit insurance assessment was based and
collected. To verify accuracy, PDIC is limited to audit of general ledgers of
deposits only increasing the possibility of underreporting. In the assessment audit
of 30 commercial banks and 20 foreign banks covering for various periods from
1995-1999, the deficiency in payment of assessment premium amounted to P6.25
million8. It is highly probable that more assessment deficiencies would be
uncovered if PDIC will be permitted to examine subsidiary ledgers and individual
deposit records to verify accuracy of assessments remitted.

______________________
1
Highlights of this paper were presented in position paper submitted to the House of Representatives on 24
May 2000 regarding amendments on law on deposit secrecy.
2
The Law was later extended to include deposits in foreign currency deposits (RA No. 6426, 1972) and
deposits in offshore banking units (PD No. 1246, 1977).
3
Violation against RA No. 1405 subjects the offender to imprisonment of not more than five years or a fine
of not more than P20,000.00 or both in the court’s discretion.
4
A questionnaire was sent to 51 central banks with available e-mail addresses. To date, 14 responded
completely while secondary data were obtained for 9 other countries.
5
Some of the indicative findings during PDIC bank examinations were (1) infusion of bank capital through
conversion of deposits, (2) setting interest rates for deposits of DOSRIs higher than interest rates for their
loans, (3) creation of dummy deposit accounts to avail emergency loans, and (4) kiting operations.
6
Based on findings stated in the 1998 Annual Report of PDIC.
7
Aside from demand, savings and time deposits in both domestic and foreign currency, assessable deposits
include accrued interest payable on domestic and foreign currency deposits, due to the Treasurer of the
Philipiines-deposit accounts, float inter-branch deposits and selected items booked under the account "other
liabilities".
8
Data of PDIC Insurance Office as of 31 January 2000.