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F ederal reserve Ba n k DALLAS, TE X A S of Dallas 75222 Circular No. 81-186 September 24, 1981 REGULATION Q - INTEREST ON DEPOSITS Final NOW Account Eligibility Rules TO ALL MEMBER BANKS IN THE ELEVENTH FEDERAL RESERVE DISTRICT: The Board of Governors of the Federal Reserve System has issued an interpretation of Regulation Q, Interest on Deposits, to clarify the rules concerning the class of depositors eligible to maintain NOW accounts at member banks. The interpretation was effective September 16, 1981. The interpretation was originally issued August 14, 1981, to become effective September 1, 1981. On August 31, 1981, the Board suspended the effective date pending resolution of litigation involving the interpretation. The litigation was resolved on September 15, 1981, when the United States District Court for the D istrict of Columbia issued its order upholding the Board's interpretation. NOW accounts permissible under the previous eligibility standards that do not qualify under the new interpretation may continue in effect if those accounts were established prior to September 1, 1981. Printed on the following pages are copies of the Board's press release, a copy of the material submitted for publication in the Federal Register, and a copy of relevant sections of the Internal Revenue Code. Member banks and others who maintain Regulations Binders should file the interpretation in Vol. II of their binders. Questions regarding the Regulation Q interpretation should be directed to this Bank's Legal Department, Extension 6171. Requests for additional copies of this circular should be made to the Department of Communications, Financial and Community Affairs, Extension 6289. Sincerely yours, William H. Wallace First Vice President Banks and others are encouraged to use the following incoming W A T S numbers in contacting this Bank; 1-800-442-7140 (intrastate) and 1-800-527-9200 (interstate). For calls placed locally, please use 651 plus the extension referred to above. This publication was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (FedHistory@dal.frb.org) FEDERAL RESERVE press release For immediate release September 15, 1981 The Federal Reserve Board today set September 16 as the effective date of an interpretation of its rules announced August 14 to clarify what depositors are eligible to hold interest-bearing checking accounts at member banks. effective date of the interpretation — previously September 1 — The was suspended August 31 in view of litigation concerning NOW account eligibility rules that has been concluded in the Board's favor. The interpretation affects eligibility for Negotiable Order of Withdrawal (NOW) accounts authorized nationwide by the Consumer Checking Account Equity Act of 1980. The interpretation of Regulation Q permits the following depositors to establish NOW accounts at member banks: 1. All individuals, including businesses operated as sole proprietorships. (Only these individuals and sole proprietorships will continue to be eligible to hold Automatic Transfer Service (ATS) accounts.) 2. Non-profit organizations described in specified sections of the Internal Revenue Code. 3. Government units, if the funds are in the name of or are used for the purposes of schools, colleges, universities, libraries, hospitals or other medical or educational facilities. As previously announced, NOW accounts that would no longer qualify under the revised eligibility standards, and that were established before September 1, 1981 are permanently grandfathered. - 0 - FEDERAL RESERVE SYSTEM Regulation Q [12 CFR PART 217] [Docket No. R-0356] INTEREST ON DEPOSITS Depositors Eligible to Maintain NOW Accounts AGENCY: Board of Governors of the Federal Reserve System. ACTION: Final interpretation. SUMMARY: The Board of Governors has determined to place into effect immediately its interpretation of Regulation Q— Interest on Deposits (12 CFR Part 217), announced on August 14, 1981, clarifying the rules concerning the class of depositors eligible to maintain NOW accounts at member banks. DATE: September 16, 1981. FOR FURTHER INFORMATION CONTACT: Gilbert T. Schwartz, Associate General Counsel (202/452-3625), or Paul S. Pilecki, Senior Attorney (202/452 3281), Legal Division, Board of Governors of the Federal Reserve System, Washington, D.C. 20551. SUPPLEMENTARY INFROMATION: The Consumer Checking Account Equity Act of 1980 (Title III of Pub. L. 96-221) ("Act") authorized depository institutions nationwide (except credit unions which are authorized to offer share draft accounts) effective December 31, 1980, to permit the owner of a deposit or account on which interest or dividends are paid to make withdrawals by negotiable or transferable instruments for the purpose of making transfers to third parties (12 U.S.C. § 1832(a)(1)). Under the statute, NOW accounts are available only to individuals and to certain qualifying organizations (12 U.S.C. § 1832(a)(2)). On August 14, 1981, the Board announced an interpretation to clarify the rules concerning the class of depositors eligible to maintain NOW accounts (46 Fed. Reg. 42060). The Federal Home Loan Bank Board issued an interpretation on August 13, 1981, that provides for a broader class of eligibility for NOW accounts (46 Fed. Reg. 42250). On August 18, 1981, the American Bankers Association brought suit in the United States District Court for the District of Columbia challenging the interpretations of both agencies (American Bankers Association v. Federal Hone Loan Bank Board, et al. (Civil Action NO. 81-1933, U.S. District Court for the District of Columbia)). On August 31, 1981, the Board suspended the effective date of the interpretation in view of the pending litigation as a matter of convenience to member banks. The U.S. District Court issued an order on September 15 upholding the Board's interpretation and invalidating the interpretation on NOW account eligibility issued by the Federal Home Loan Bank Board. In view of the court's decision, the Board has determined to implement its interpretation effective immediately. Under the Board's interpretation, all organizations, partner ships, corporations, and associations that are not operated for profit and are described in section 501(c)(3) through (13) and (19) and section 528 of the Internal Revenue Code (26 U.S.C. (I.R.C. 1954) § 501(c)(3) through (13), (19) and § 528) will be eligible to maintain NOW accounts at a member bank. In this regard, the Act extends NOW account eligibility to organizations not operated for profit if they are operated primarily for religious, philanthropic, charitable, educational or for other similar purposes. The Board believes that virtually all nonprofit organizations described in the cited Internal Revenue Code provisions can be regarded as being operated primarily for purposes that are similar in nature to religious, philanthropic, charitable, or educational purposes and that such provisions are comprehensive with respect to describing such organizations. The Board believes that this interpretation will facilitate compliance by depository institutions and will reduce greatly the need for individual rulings on NOW account eligibility. All sole proprietorships and other businesses operated by individuals will continue to be eligible to maintain NOW accounts at member banks. However, the class of depositors eligible to hold NOW accounts will continue to exclude other entities organized or operated to make a profit regardless of whether they are corporations, partner ships, associations, or any other organization. Because states and political subdivisions are regarded as primiarily serving governmental purposes, the Board believes that governmental units generally should not be permitted to maintain NOW accounts. However, under the Board's interpretation, governmental units will be eligible to maintain NOW accounts if the funds are in the name of or are to be used exclusively by schools, libraries, colleges, universities, and hospitals or other educational or medical facilities. The Board believes that funds used for such purposes should be permitted to be placed in NOW accounts in order to accord equal treatment to public entities that perform functions similar to nonprofit entities in the private sector. Thus, if a governmental unit is organized for any one of the listed purposes or maintains an account exclusively for one of those purposes, such funds may be placed in a NOW account. (These purposes are regarded as illustrative and not exhaustive.) This approach will also eliminate the need for a determination of whether a particular governmental entity is independent or separately constituted as is required under current interpretations. In order not to disadvantage any current NOW account customers that qualify under existing eligibility criteria but that would no longer be eligible under the Board's interpretation, the Board determined to grandfather existing NOW accounts that would not qualify under the revised eligibility criteria. All NOW accounts that meet the current NOW account eligiblity criteria may continue in effect if they were established on or before August 31, 1981. NOW accounts opened after that date will be limited solely to the new class of eligible depositors. It should be noted that the Board has not changed the existing policy concerning eligibility for traditional passbook and statement savings accounts. Effective September 16, 1981, pursuant to its authority under section 19(a) of the Federal Reserve Act (12 U.S.C. § 461(a)), the Board amends Regulation Q (12 CFR Part 217) by adding a new section 217.157 as follows: S 217.157 — Eligibility for NOW Accounts (a) Background. (1) Effective December 31, 1980, the Con sumer Checking Account Equity Act of 1980 (Title III of the Depository Institutions Deregulation and Monetary Control Act of 1980; P.L. 96 221; 94 Stat. 146) authorizes depository institutions nationwide to offer interest-bearing checking (NOW) accounts to depositors where the "entire beneficial interest is held by one or more individuals or by an organization which is operated primarily for religious, philanthropic, charitable, educational, or other similar purposes and which is not operated for profit." (12 U.S.C. 1832(a)(2)). The purpose of the Act is to extend the availability of NOW accounts throughout the nation. Previously, as an experiment, NOW accounts were authorized to be offered by depository institutions only in New England, New York, and New Jersey. (2) The NOW account experiment established by Congress in 1973 did not specify the types of customers that could maintain NOW accounts. As a result, the rules of the Federal Reserve and Federal Deposit Insurance Corporation specified the types of depositors eligible to maintain NOW accounts at member and insured nonmember banks. In enacting the NOW account provision in 1980, Congress adopted virtually the same language concerning NOW account eligibility that previously had been adopted by the Board and the Federal Deposit Insurance Corpora tion with regard to the types of customers permitted to maintain NOW accounts in institutions located in the NOW account experiment region. (12 CFR 217.1(e)(3) and 12 CFR 329.1(e)(2)). This definition was based upon longstanding regulatory provisions concerning eligibility criteria for savings deposits. (3) In response to many requests for rulings since the new law was enacted, the Board has determined to clarify the types of entities that may maintain NOW accounts at member banks. (b) Individuals. (1) Any individual may maintain a NOW account regardless of the purposes that the funds will serve. Deposits of an individual used in his or her business may be held in a NOW account, since it is impracticable to distinguish between funds used by an individual in his or her business and funds used for personal purposes. However, 4- other entities organized or operated to make a profit may not maintain NOW accounts regardless of whether they are corporations, partnerships, associations, business trusts, or other organizations. (2) Under current provisions, funds held in a fiduciary capacity (either by an individual fiduciary or by a corporate fiduciary such as a bank trust department), including those awaiting distribution or investment, may be held in the form of NOW accounts if the beneficiaries are individuals. The Board believes that such a classification should continue since fiduciaries are required to invest even temporarily idle balances to the greatest extent feasible in order to responsibly carry out their fiduciary duties. The availability of NOW accounts provides a convenient vehicle for providing a short-term return on temporarily idle trust funds of individuals. (3) Pension funds, escrow accounts, security deposits, and other funds held under various agency agreements may also be classified as NOW accounts if the entire beneficial interest is held by individuals. The Board believes that these accounts are similar in nature to trust accounts and should be accorded identical treatment. Therefore, such funds may be regarded as eligible for classification as NOW accounts. (c) Nonprofit Organizations. (1) Under the Act, a nonprofit organization that is operated primarily for religious, philanthropic, charitable, educational, or other similar purposes may maintain a NOW account. The Board regards the following kinds of organizations as eligible for NOW accounts under this standard if they are not operated for profit; (i) organizations described in section 501(c)(3) through (13), and (19) of the Internal Revenue Code (26 U.S.C. (Z.R.C. 1954) S 501(c)(3) through (13) and (19)); and (ii) homeowners and condominium owners associations described in section 528 of the Internal Revenue Code (26 U.S.C. (I.R.C. 1954) S 528), including housing cooperative associations that perform similar functions. (2) All organizations that are operated for profit are not eligible to maintain NOW accounts at member banks. (3) The following types of organizations described in the cited provisions of the Internal Revenue Code are among those not eligible to maintain NOW accounts: (i) credit unions and other mutual depository institutions described in s 501(c)(14); (ii) mutual insurance companies described in § 501(c)(15); -5 - (iii) crop financing organizations described in § 501(c)(16); (iv) an organization created to function as part of a qualified group legal services plan described in § 501(c)(20); (v) farmers' cooperatives described in s 521; or (vi) political organizations described in § 527. (d) Governmental Units. Under the Act, governmental units generally may not maintain NOW accounts. The Board believes that some governmental units are operated primarily for philanthropic, educational, or charitable purposes, and that such entities should be regarded as eligible to maintain NOW accounts. For example, a governmental unit, regardless of form of organization, may maintain a NOW account if the funds are in the name of or are used solely for schools, universities or colleges, libraries, hospitals, or other educational or medical facilities. (e) Grandfather Provision. In order to avoid unduly disrupting account relationships, a NOW account established at a member bank on or before August 31, 1981, that represents funds of a nonqualifying entity that previously qualified to maintain a NOW account may continue to be maintained. By order of the Board of Governors, September 16, 1981. (signed) William W. Wiles William W. Wiles Secretary of the Board [SEAL] TITLE 26-INTERNAL REVENUE CODE (SOI. Exemption from Uu on corporations, certain trails, etc. (3) Corporations, and any community chest, tend, or foundation, organized and operated •selusively for religious, charitable, scientific, tasting for public safety, literary, or educa tional purposes, or to foster national or inter national amateur sports competition (but only if no part of its activities involve the pro vision of athletic facilities or equipment), or for the prevention of cruelty to children or animals, no part of the net earnings of which inures to the benefit of any private share holder or individual, no substantial part of the activities of which is carrying on propa ganda, or otherwise attempting, to influence legislation (except as otherwise provided in subsection (h)), and which does not partici pate in, or intervene in (including the pub lishing or distributing of statements), any po litical campaign on behalf of any candidate for public office. (4) Civic leagues or organizations not organtaed for profit but operated exclusively for the promotion of social welfare, or local asso ciations of employees, the membership of which is limited to the employees of a desig nated person or persons in a particular mu nicipality. and the net earnings of which are devoted exclusively to charitable, educational, or recreational purposes. (5) Labor, agricultural, or horticultural organlzations. (8) Business leagues, chambers of com merce, real-estate boards, boards of trade, or professional football leagues (whether or not administering a pension fund for football players) not organized for profit and no part of the net earnings of which Inures to the benefit of any private shareholder or individ ual. (7) Clubs organized for pleasure, recreation, and other nonprofitable purposes, substan tially all of the activities of which are for such purposes and no part of the net earnings of which inures to the benefit of any private shareholder. (8) Fraternal beneficiary societies, orders, or associations— (A) operating under the lodge system or for the exclusive benefit of the members of a fraternity itself operating under the lodge system, and (B) providing for the payment of life, sick, accident, or other benefits to the members of such society, order, or association or their dependents. (9) Voluntary employees' beneficiary associ ations providing for the payment of life. sick, accident, or other benefits to the members of such association or their dependents or desig nated beneficiaries, if no part of the net earn ings of such association inures (other than through such payments) to the benefit of any private shareholder or individual. (10) Domestic fraternal societies, orders, or associations, (ven tin g under the lodge system— (A) the net earnings of which are devoted exclusively to religious, charitable, scientif ic. literary, educational, and fraternal pur poses, and (B) which do not provide for the payment of life, sick, accident, or other benefits. (11) Teachers’ retirement fund aasorlatlnns of a purely local character, if— (A) no part of their net earnings inures (other than through payment of retirement benefits) to the benefit of any private shar eholder or individual, and (B) the Income consists solely of amounts received from public taxation, amounts re ceived from assessments on the teaching salaries of members, and income in respect of investments. (12) Benevolent life insurance associations of a purely local character, mutual ditch or ir rigation companies, mutual or cooperative telephone companies, or like organizations: but only if 85 percent or more of the Income consists of amounts collected from members for the sole purpose of meeting losses and ex penses. (13) Cemetery companies owned and operat ed exclusively for the benefit of their mem bers or which are not operated for profit; and any corporation chartered solely for the pur pose of the disposal of bodies by burial or cre mation which is not permitted by its charter to engage in any business not necessarily inci dent to that purpose and no part of the net earnings of which inures to the benefit of any private shareholder or individual. (19) A post or organization of war veterans, or an auxiliary unit or society of, or a trust or foundation for, any such post or organiza tion— (A) organized in the United States or any Of its possessions, (B) at least 75 percent of the members of which are war veterans and substantially all of the other members of which are individ uals who are veterans (but not war veter ans). or are cadets, or are spouses, widows, or widowers of war veterans or such individ uals. and (C) no part of the net earnings of which ktures to the benefit of any private share holder or individual. S 528. Certain homeowners associations (a) General rule A homeowners association (as defined in sut section (c)) shall be subject to taxation usds this subtitle only to the extent provided in th» section. A homeowners association shall be cca sidered an organization exempt from incow taxes for the purpose of any law which relen to organizations exempt from income taxes.