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What percentage of earnings can a bank distribute to shareholders each year via dividends? This is an important question that nobody really knows the answer to right now.

The answer in 2011 seemed to be no more than 30%. But fast-forward to today, and many healthy banks exceed this, including Wells Fargo (NYSE:WFC), U.S. Bancorp (NYSE:USB), and BB&T (NYSE:TFC). This suggests that the original 30% target may no longer govern banks' capital allocation decisions.


2015 Payout Ratio



Wells Fargo


U.S. Bancorp


JPMorgan Chase (NYSE:JPM)


PNC Financial Services (NYSE:PNC)


Data source: Fourth-quarter earnings releases for BB&T, JPMorgan Chase, PNC Financial, U.S. Bancorp, and Wells Fargo.

Even when the Federal Reserve flirted with the 30% cap in the first comprehensive capital analysis and review process five years ago, it never made it a hard-and-fast rule. It was more akin to a guideline -- albeit one that applies only to banks with more than $50 billion in assets.

"Capital Plans with dividend payout ratios above 30% of net income under the baseline scenario in 2011 received particularly close scrutiny," the Fed explained in its overview of the inaugural CCAR process. The Fed would look at banks that exceeded this threshold more closely, in other words, but not stop them from doing so as a matter of course.

This nevertheless led analysts and commentators, myself included, to presume that the 30% figure may be a hard cap. The CCAR process, after all, is the second step in the annual stress tests. These are designed to ensure that banks have enough capital to survive an economic downturn akin to the financial crisis. Any capital paid out to shareholders would be of no use to a bank if another crisis materialized.

But this assumption now appears to be wrong. Wells Fargo, U.S. Bancorp, and BB&T passed this mark in 2014. And multiple banks are poised to do so this year, including JPMorgan Chase and PNC Financial. JPMorgan Chase paid out 28.7% of its earnings last year, while PNC Financial distributed 27.2% of its net income.

This helps explain why the 30% threshold hasn't reappeared in any of the CCAR instructions since 2011. It's also why the CEO of one of the nation's biggest banks recently described it to me as a "soft" cap as opposed to a hard one.

None of this is to say that the Federal Reserve no longer cares about bank payout ratios. When New York Community Bancorp (NYSE:NYCB) reports earnings on Jan. 27, we're likely to see that the central bank does indeed still care very much.

New York Community Bancorp has long been one of the highest yielding bank stocks in the industry, earning this distinction as a result of its unusually high payout ratio. From 2010 through 2014, it paid out 89% of its earnings to shareholders. This is unmatched by any of its competitors, as far as I know.

Data source: New York Community Bancorp's 2014 10-K, page 41. Chart by author.

But this is about to change. New York Community Bancorp's recent acquisition of Astoria Financial brings the combined banks above $50 billion in assets. This means it must now submit to the CCAR process. Soft or not, in turn, the 30% cap will almost certainly require New York Community Bancorp to reduce its dividend lest it fail the second step in the annual stress test.

As the New York City-based bank noted in its 2014 10-K:

The [Federal Reserve] has issued a policy statement regarding the payment of dividends by bank holding companies. In general, the FRB's policies provide that dividends should be paid only out of current earnings and only if the prospective rate of earnings retention by the bank holding company appears consistent with the organization's capital needs, asset quality, and overall financial condition.

I believe that the language about the "prospective rate of earnings retention" all but guarantees that New York Community Bancorp will have to cut its payout. This is particularly true when you consider that its expenses will increase as it integrates Astoria Financial's operations. Doing so will reduce New York Community Bancorp's earnings and, in the absence of a dividend cut, probably push its payout ratio above 100%.

Fortunately, shareholders of other banks don't have to worry about this, as it seems reasonable to assume that banks with lower payouts such as JPMorgan Chase, Wells Fargo, U.S. Bancorp, PNC Financial, and BB&T will be allowed to inch their quarterly distributions up come this year's CCAR process in March. There's no reason for the Fed to stop them from doing so, as all five of these banks have proved to be more than equipped to survive through both good times and bad.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.