With the California state legislature still working out ways to close a $26-billion budget deficit, and the government likely to issue almost $3 billion worth of interest-bearing IOUs this month, the community banks find themselves in a "no-win" situation.

For most of the banks, the honoring of the state-issued IOUs will either add the state's debt to their balance sheets or might bring about a loss of depositors.

While the big US banks - like Wells Fargo and Bank of America - intend to stop exchanging the registered warrants for cash after July 11, the smaller banks with offices in California alone cannot neither meet the expense of cutting off depositors nor run the risk of losing business.

Voicing the concerns of most of the California banks, Kevin McPhaill - Executive VP of the Porterville-based Sierra Bancorp which has 23 branches in California - said: "It's an unfair position to put banks in where we're allowing the state Legislature to go on and we're financing it," "If you don't take the warrants then you have the risk of losing customers."

Nonetheless, Sierra has said that it would be accepting the registered warrants from its current customers for an indefinite period, and would keep an eye on the overall amount. In addition, Citibank and Bank of the West also announced Friday that they would continue to accept the IOUs.