One of the largest financial scandals in U.S. history, the Savings and Loan Crisis emerged in the late 1970s and came to a head in the 1980s, finally ending in the early 1990s. In the volatile interest rate climate of the '70s, large numbers of depositors removed their funds from savings and loan institutions (S&Ls) and put them in money market funds, where they could get higher interest rates since money market funds weren't governed by Regulation, which capped the amount of interest S&Ls could pay to depositors. S&Ls, which were largely making their money from low-interest mortgages, did not have the means to offer higher interest rates, though they tried to once interest rate ceilings were dropped in the early '80s. As S&L regulations loosened, they engaged in increasingly risky activities, including commercial real estate lending and investments in junk bonds. THE CAUSES
By enacting 26 U.S.C. § 469 (relating to limitations on deductions for passive activity losses and limitations on passive activity credits) to remove many tax shelters, especially for real estate investments, the Tax Reform Act of 1986 significantly decreased the value of many such investments which had been held more for their tax-advantaged status than for their inherent profitability. This contributed to the end of the real estate boom of the early-to-mid-1980s and facilitated the Savings and Loan crisis. Prior to 1986, much real estate investment was done by passive investors. It was common for syndicates of investors to pool their resources in order to invest in property, commercial or residential. They would then hire management companies to run the operation. The government imposed the rules to reduce the value of these investments by limiting the extent to which losses associated with them could be deducted from the investor's gross income. This, in turn, encouraged the holders of loss-generating properties to try to unload them, which contributed further to the problem of sinking real estate values. The deregulation of S&Ls in 1980 gave them many of the capabilities of banks, without the same regulations as banks. Savings and loan associations could choose to be under either a state or a federal charter. Immediately after deregulation of the federally chartered thrifts, state-chartered thrifts rushed to become federally chartered. In response, states such as California and Texas changed their regulations to be similar to federal regulations. However, there was the moral hazard of insuring already troubled institutions with public dollars. In the view of a savings and loan president or manager, the trend line was fatal over the long haul; thus, to get liquid, the institution had to take on riskier assets, particularly land. When the real estate market crashed, the S&Ls went with it. By insuring the risk, the government guaranteed that desperate S&L owners and managers would engage in ever more risky investments, knowing that if they were successful, the institution would be saved, and if unsuccessful, their depositors would still be bailed out. Imprudent real estate lending
In an effort to take advantage of the real estate boom ,outstanding U.S. mortgage loans and high interest rates of the late 1970s and early 1980s, many S&Ls lent far more money than was prudent, and to ventures which many S&Ls were not qualified to assess, especially regarding commercial real estate. L. William Seidman, former chairman of both the Federal Deposit Insurance Corporation (FDIC) and the Resolution Trust Corporation, stated, "The banking problems of the '80s and '90s came primarily, but not exclusively, from unsound real estate lending. Brokered deposits
Deposit brokers, somewhat like stockbrokers, are paid a commission by the customer to find the best certificate of deposit (CD) rates and place their customers' money in those CDs. Previously, banks and thrifts could only have five percent of their deposits...