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federal

Reser ve Ban k o f D allas
DALLAS. TEXAS

75222

C i r c u la r No. 77-20
F e b r u a r y 3, 1977

IN T E R P R E T A T IO N OF R E G U L A TIO N Y
A c q u is itio n of S hares P u rs u a n t to Section 4 (c ) (6)
O f the B a nk Holding Com pany A ct

T O A L L MEMBER B A N K S ,
BANK HO LDING C O M P A N IE S ,
AND OTHERS CONCERNED IN TH E
E LE V E N TH FEDERAL RESERVE D IS T R IC T :
T h e B oard of G o v e rn o rs of the F e d e ra l R e s e rv e System has issued an
in te r p r e ta tio n of its R egulatio n Y , "B a n k H o ld in g C o m p a n ie s ," in connection w ith
a proposal u n d e r w h ic h a n u m b e r of b a n k h o ld in g companies w ould each p u rc h as e
a stock in te re s t re p r e s e n tin g less than 5 p e rc e n t of the vo tin g shares of an in s u r ­
ance company that w o u ld engage in u n d e r w r it in g or r e in s u r in g c r e d it life and
c r e d it acciden t and health in s u ra n c e sold in connection w ith extensions of c r e d it
by each s to c k h o ld e r. T h e Board has d e te rm in e d that a b a n k h o ld in g company
w is h in g to become a s to c k h o ld e r in th e company w ould be r e q u ir e d to obtain the
B o a rd 's p r i o r a p p r o v a l to do so, and th a t the e xem ption from such a p p ro v a l p r o ­
v id e d by section 4 (c ) (6) of the Bank H o ld in g Com pany A c t was intended to be
lim ited to p a ss iv e in v es tm e n ts .
Enclosed is a copy of the in te r p r e t a t io n . A n y in q u ir ie s thereon may
be d ir e c te d to o u r Regulations D e p a rtm en t at (214) 6 51-6169. A d d itio n a l copies
of the in te r p r e ta tio n w ill be fu r n is h e d upon re q u es t to the S e c r e ta r y 's O ffice of
this B ank (214) 6 51 -6 26 7 .
S in c e r e ly y o u r s ,
R o b e rt H . B oy k in
F ir s t V ic e P re s id e n t
E nclosure

This publication was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (FedHistory@dal.frb.org)

BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM

BANK HOLDING COMPANIES
IN TER PR ETA TIO N OF R E G U LA TIO N Y
SECTION 225.137 — ACQUISITIONS
OF SHARES PURSUANT TO §4(c) (6)
OF TH E BANK HO LDING COMPANY ACT
(a) The Board has received a request for an
interpretation of §4 (c) (6) of the Bank Holding
Company Act (“Act” )* in connection with a
proposal under which a number of bank holding
companies would purchase interests in an insur­
ance company to be formed for the purpose of
underwriting or reinsuring credit life and credit
accident and health insurance sold in connection
with extensions of credit by the stockholder bank
holding companies and their affiliates.
(b) Each participating holding company would
own no more than 5 percent of the outstanding
voting shares of the company. However, the in­
vestment of each holding company would be rep­
resented by a separate class of voting security, so
that each stockholder would own 100 percent of
its respective class. The participating companies
would execute a formal “Agreement Among
Stockholders” under which each would agree to
use its best efforts at all times to direct or recom­
mend to customers and clients the placement of
their life, accident, and health insurance directly
or indirectly with the company. Such credit-related
insurance placed with the company would be
identified in the records of the company as having
been originated by the respective stockholder. A
separate capital account would be maintained for
each stockholder consisting of the original capital
contribution increased or decreased from time to
time by the net profit or loss resulting from the
insurance business attributable to each stock­
holder. Thus, each stockholder would receive a
return on its investment based upon the claims
experience and profitability of the insurance busi­
ness that it had itself generated. Dividends de­
clared by the board of directors of the company
would be payable to each stockholder only out of
the earned surplus reflected in the respective
stockholder’s capital account.
(c) It has been requested that the Board issue
an interpretation that §4(c) (6) of the Act pro­
vides an exemption under which participating
bank holding companies may acquire such interests
in the company without prior approval of the
Board.

(d)
On the basis of a careful review of the
documents submitted, in the light of the purposes
and provisions of the Act, the Board has con­
cluded that §4(c) (6) of the Act is inapplicable to
this proposal and that a bank holding company
must obtain the approval of the Board before par­
ticipating in such a proposal in the manner de­
scribed. The Board’s conclusion is based upon the
following considerations:
(1)
Section 2 ( a ) ( 2 ) ( A ) of the Act provides
that a company is deemed to have control over
a second company if it owns or controls “25 per
centum or more of any class of voting securities”
of the second company. In the case presented, the
stock interest of each participant would be evi­
denced by a different class of stock and each
would, accordingly, own 100 percent of a class
of voting securities of the company. Thus, each
of the stockholders would be deemed to “control”
the company and prior Board approval would be
required for each stockholder’s acquisition of
stock in the company.
The Board believes that this application of
§ 2 ( a )( 2 ) (A ) of the Act is particularly appro­
priate on the facts presented here. The company
is, in practical effect, a conglomeration of separate
business ventures each owned 100 percent by a
stockholder the value of whose economic interest
in the company is determined by reference to the
profits and losses attributable to its respective class
of stock. Furthermore, it is the Board’s opinion
that this application of § 2 ( a ) ( 2 )( A ) is not in­
consistent with §4(c) (6). Even assuming that
§ 4 (c)(6 ) is intended to refer to all outstanding
voting shares, and not merely the outstanding
shares of a particular class of securities, §4(c) (6)
must be viewed as permitting ownership of 5 per­
cent of a company’s voting stock only when that
ownership does not constitute “control” as other­
wise defined in the Act. For example, it is entirely
possible that a company could exercise a con­
trolling influence over the management and pol­
icies of a second company, and thus “control”
that company under the Act’s definitions, even
though it held less than 5 percent of the voting
stock of the second company. To view § 4 (c )(6 )
as an unqualified exemption for holdings of less
than 5 percent would thus create a serious gap
in the coverage of the Act.

'"Section 4(c) (6) of the Act provides an exemption from the Act’s prohibitions on ownership of shares in
nonbanking companies for “shares of any company which do not include more than 5 per centum of the out­
standing voting shares of such company.”
1 2 -2 2 -7 6

(2)
The Board believes that § 4 (c )(6 ) should
properly be interpreted as creating an exemption
from the general prohibitions in §4 on ownership
of stock in nonbank companies only for passive
investments amounting to not more than 5 per­
cent of a company’s outstanding stock, and that
the exemption was not intended to allow a group
of holding companies, through concerted action,
to engage in an activity as entrepreneurs. Section
4 of the Act, of course, prohibits not only owning
stock in nonbank companies, but engaging in ac­
tivities other than banking or those activities per­
mitted by the Board under § 4 (c )(8 ) as being
closely related to banking. Thus, if a holding
company may be deemed to be engaging in an ac­
tivity through the medium of a company in which
it owns less than 5 percent of the voting stock it
may nevertheless require Board approval, despite
the §4(c) (6) exemption.
(e)
To accept the argument that § 4 (c )(6 )
an unqualified grant of permission to a bank
holding company to own 5 percent of the shares
of any nonbanking company, irrespective of the
nature or extent of the holding company’s par­
ticipation in the affairs of the nonbanking com­
pany would, in the Board’s view, create the poten­
tial for serious and widespread evasion of the Act’s
controls over nonbanking activities. Such a con­
struction would allow a group of 20 bank holding
companies — or even a single bank holding com­

pany and one or more nonbank companies — to
engage in entrepreneurial joint ventures in busi­
nesses prohibited to bank holding companies, a
result the Board believes to be contrary to the
intent of Congress.

(f) In this proposal, each of the participating
stockholders must be viewed as engaging in the
business of insurance underwriting. Each stock­
holder would agree to channel to the company
the insurance business it generates, and the value
of the interest of each stockholder would be de­
termined by reference to the profitability of the
business generated by that stockholder itself. There
is no sharing or pooling among stockholders of
underwriting risks assumed by the company, and
profit or loss from investments is allocated on the
basis of each bank holding company’s allocable
underwriting profit or loss. The interest of each
stockholder is thus clearly that of an entrepreneur
is rather than that of an investor.
(g) Accordingly, on the basis of the factual
situation before the Board, and for the reasons
summarized above, the Board has concluded that
§4(c ) (6 ) of the Act cannot be interpreted to ex­
empt the ownership of 5 percent of the voting
stock of a company under the circumstances de­
scribed, and that a bank holding company wishing
to become a stockholder in a company under this
proposal would be required to obtain the Board’s
approval to do so.


Federal Reserve Bank of St. Louis, One Federal Reserve Bank Plaza, St. Louis, MO 63102