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F ederal Reserve Bank OF DALLAS Dallas, Texas, September 22, 1943 RULING RELATING TO ABSORPTION OF EXCHANGE CHARGES To the Member Banks of the Eleventh Federal Reserve District: There is attached a copy of a ruling of the Board of Gover nors of the Federal Reserve System with respect to the ques tion whether the absorption of exchange charges by a member bank in the circumstances of a particular case constitutes a payment of interest on demand deposits. This ruling appears on page 817 of the September, 1943 issue of the Federal Reserve Bulletin, but it is being called to your special attention in this manner. Yours very truly, R. R. GILBERT President .VICTORY BUY UNITBO STATKS WAR 'BONDS AND STAMPS This publication was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (FedHistory@dal.frb.org) ABSORPTION OF EXCHANGE CHARGES AS A PAYMENT OF INTEREST ON DEPOSITS The Board of Governors has been presented, in a specific case, with the question whether the absorption of exchange charges by-a particular member bank constitutes a payment of interest on demand deposits in violation of section 19 of the Federal Reserve Act and of the Board’s Regula tion Q. The last report of examination of the member bank in question indicated that during the year 1942 this bank absorbed exchange charges in the amount of $18,576.22 out of $25,187.15 exchange charges paid, and that during 1943 up to the date of the examination such charges were absorbed in the amount of $4,615.80 out of $5,506.81 paid. It appears that the bank has absorbed exchange charges in hundreds of instances and for numerous depositors, principally with respect to balances maintained by correspondent banks; and that the practice has existed over a period of years. A previous report of examination of this bank indicated that during 1937 the bank had absorbed exchange charges in the amount of $14,953.68 out of $16,721.85 exchange charges paid; that such charges had been absorbed in amounts ranging from 10 cents to $160 for more than 250 correspond ent banks; and that, in some instances, the exchange absorbed for particular banks amounted to as much as 2 or 3 per cent of their balances with the subject bank. The Board’s Regulation Q defines interest as “ any payment to or for the account of any deposi tor as compensation for the use of funds constituting a deposit.” This definition is intended merely as a declaration of the general law. Accordingly, the questions to be determined in the present case are first, whether the absorption of exchange charges by the subject bank, as above described, constitutes a “ payment,” and, second, whether such payment is made as compensation for the use of funds constituting a deposit. There can be no doubt that the absorption of each exchange charge by the bank results in a “ payment.” In any such case, the depositor receives a pecuniary benefit which he would not other wise receive. For example, if a check for $1,000, drawn on a nonpar bank which imposes an exchange charge of 1/10 of 1 per cent for paying checks drawn upon it, is deposited with the subject bank, and is forwarded to the drawee bank for collection, the nonpar bank would remit to the subj ect bank $999 in payment of the check. If the subject bank then credits its depositor in the amount of $1,000, thus absorbing the $1 exchange charge, the depositor clearly receives a “ payment” in an amount equivalent to the exchange charge. From the facts in the present case it appears that the “ payments” resulting from absorption of exchange charges are made by the subj ect bank for the purpose of soliciting and augmenting its demand deposit accounts; in other words, as “ compensation” for the use of funds constituting deposits. No other reason for the absorption of such charges is apparent. The bank’s correspondent bank deposits, with respect to which exchange is regularly absorbed, have increased from less than 7 million dollars at the end of 1941 to nearly 18 million in June 1943. It is significant that during this period the ratio of this bank’s correspondent bank deposits to its total demand deposits has been much higher than at Reserve city banks as a whole, both in its district and throughout the country, notwithstanding the fact that the city in which it is located is only a short distance from_____________________ , which is a much larger financial center. That the absorption of exchange charges for depositing banks is in consideration for balances maintained by them is further indicated by the fact that in at least one instance the subject bank has advised a depositing bank that, since the bank’s balance in a particular month was negligible, exchange charges could not be absorbed for such bank because the subject bank would “have no way of making it back.” Moreover, it appears that the subject bank, on occasion, has written to its corre spondent banks suggesting that they par items sent to such banks in return for the parring by the subject bank of items received from such banks. While the practice exists principally with respect to deposits of correspondent banks, it is under stood that, in at least one instance, a corporate account formerly carried with a competing member bank was obtained by the subject bank because of its absorption of exchange charges. In the circumstances, the Board of Governors expressed the opinion that, on the basis of the facts here presented as outlined above, the absorption of exchange charges by the member bank in question constitutes a “ payment of interest” within the meaning of the general law and is therefore a payment of interest on demand deposits in violation of section 19 of the Federal Reserve Act and of the provisions of the Board’s Regulation Q.
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