View original document

The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.

federal

R eserve Bank

OF DALLAS
W ILLIAM H. W ALLACE

September 15 , 1987

FIR S T V ICE P R E S ID E N T

Circular 87-65

TO:

The Chief Executive Officer of all
member banks, bank holding companies
and others concerned in the
Eleventh Federal Reserve District
SUBJECT

Slip sheet with amendments to Regulation Y —
Bank Holding Companies and Change in Bank Control
DETAILS
The Board of Governors of the Federal Reserve
System has published amendments in slip-sheet form to
Regulation Y, effective July 1987. The new slip sheet
should be inserted in Volume 2 of your Regulations
Binders.
ATTACHMENTS
Attached is a slip-sheet to Regulation Y.
MORE INFORMATION
For more information, please contact Dean A.
Pankonien of this Bank's Legal Department at (214)
651-6228.
Sincerely yours,

For additional copies of any circular please contact the Public Affairs Department at (214) 651-6289. Banks
and others are encouraged to use the following incoming WATS numbers in contacting this Bank (800)
442-7140 (intrastate) and (800) 527-9200 (interstate).

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

ad l a s
l

Board of Governors of the Federal Reserve System

Amendments to Regulation Y
Bank Holding Companies
and Change in Bank Control
July 1987*

1. Effective November 7, 1986, section
225.25(b)(8) is revised to read as follows:
(8) Insurance agency and underwriting.
(i) Credit insurance. Acting as princi­
pal, agent, or broker for insurance (in­
cluding home mortgage redemption in­
surance) that is—
(A ) directly related to an extension of
credit by the bank holding company or
any of its subsidiaries; and
(B ) limited to ensuring the repayment
of the outstanding balance due on the
extension of credit7 in the event of the
death, disability, or involuntary unem­
ployment of the debtor.
(ii) Finance company subsidiary. A ct­
ing as agent or broker for insurance di­
rectly related to an extension of credit by
a finance company8 that is a subsidiary of
a bank holding company, if—
(A ) the insurance is limited to ensur­
ing repayment of the outstanding bal­
ance on such extension of credit in the
event of loss or damage to any proper­
ty used as collateral for the extension
of credit; and
(B ) the extension of credit is not more
than $10,000, or $25,000 if it is to fi­
nance the purchase of a residential
manufactured home9 and the credit is
secured by the home; and
7 “Extension of credit” includes direct loans to borrow ­
ers, loans purchased from other lenders, and leases o f real
o r personal property so long as the leases are nonoperating
and full-payout leases that meet the requirem ents of para­
graph (b ) (5 ) o f this section.
8 “ Finance company" includes all non-deposit-taking fi­
nancial institutions that engage in a significant degree of
consumer lending (excluding lending secured by first m o rt­
gages) and all financial institutions specifically defined by
individual states as finance companies and th at engage in a
significant degree o f consumer lending.
9 These limitations increase at the end o f each calendar
year, beginning with 1982, by the percentage increase in the
Consumer Price Index for U rban W age Earners and Cleri­
cal W orkers published by the Bureau o f L abor Statistics.
• The complete regulation, as amended effective June 16,
1987, consists of—
• the pamphlet dated February 1984 (see inside cover)
and
• this slip sheet.
Item 5 is new. All other items were included in the previous
slip sheet, dated November 1986.

(C ) the applicant commits to notify
borrowers in writing that (7) they are
not required to purchase such insur­
ance from the applicant; (2) such in­
surance does not insure any interest of
the borrower in the collateral; and ( i )
the applicant will accept more compre­
hensive property insurance in place of
such single-interest insurance.
(iii) Insurance in sm all towns. Engag­
ing in any insurance-agency activity in a
place where the bank holding company
or a subsidiary of the bank holding com­
pany has a lending office and that—
(A ) has a population not exceeding
5,000 (as shown in the preceding de­
cennial census); or
(B) has inadequate insurance agency
facilities, as determined by the Board,
after notice and opportunity for
hearing.
(iv) Insurance-agency activities conduct­
ed on M ay 1, 1982. Engaging in any
specific insurance-agency activity10 if the
bank holding company, or subsidiary
conducting the specific activity, conduct­
ed such activity on May 1, 1982, or re­
ceived Board approval to conduct such
activity on or before May 1, 1982.11 A
bank holding company or subsidiary en­
gaging in a specific insurance-agency ac­
tivity under this clause may—
10 N othing contained in this provision shall preclude a
bank holding company subsidiary that is authorized to en­
gage in a specific insurance-agency activity under this
clause from continuing to engage in the particular activity
after merger with an affiliate, if the merger is for legitimate
business purposes and prior notice has been provided to the
Board.
11 F o r purposes o f this paragraph, activities engaged in
on M ay 1, 1982, include activities carried on subsequently
as the result of an application to engage in such activities
pending before the Board on M ay 1, 1982, and approved
subsequently by the Board or as the result of the acquisi­
tion by such company pursuant to a binding written con­
tract entered into on o r before M ay 1, 1982, of another
company engaged in such activities at the time of the
acquisition.

Regulation Y

(A ) engage in such specific insuranceagency activity only at locations—
( 1) in the state in which the bank
holding company has its principal
place of business (as defined in 12
USC 1842(d));
(2) in any state or states immedi­
ately adjacent to such state; and
(5) in any state in which the specif­
ic insurance-agency activity was
conducted (or was approved to be
conducted) by such bank holding
company or subsidiary thereof or by
any other subsidiary of such bank
holding company on May 1, 1982;
and
(B) provide other insurance coverages
that may become available after May
1, 1982, so long as those coverages in­
sure against the types of risks as (or
are otherwise functionally equivalent
to) coverages sold or approved to be
sold on May 1, 1982, by such bank
holding company or subsidiary.
(v) Supervision o f retail insurance agents.
Supervising on behalf of insurance under­
writers the activities of retail insurance
agents who sell—
(A ) fidelity insurance and property
and casualty insurance on the real and
personal property used in the opera­
tions of the bank holding company or
its subsidiaries; and
(B) group insurance that protects the
employees of the bank holding compa­
ny or its subsidiaries.
(vi) S m all bank holding companies.
Engaging in any insurance-agency activi­
ty if the bank holding company has total
consolidated assets of $50 million or less.
A bank holding company performing in­
surance-agency activities under this para­
graph may not engage in the sale of life
insurance or annuities except as provided
in paragraphs (i) and (iii) of this sec­
tion, and it may not continue to engage
in insurance-agency activities pursuant to
this provision more than 90 days after
the end of the quarterly reporting period
in which total assets of the holding com­
pany and its subsidiaries exceed $50
million.
2

(vii) Insurance-agency activities con­
ducted before 1971. Engaging in any in­
surance-agency activity performed at any
location in the United States directly or
indirectly by a bank holding company
that was engaged in insurance-agency ac­
tivities prior to January 1, 1971, as a con­
sequence of approval by the Board prior
to January 1, 1971.
2. Effective November 7, 1986, paragraph (9)
o f section 225.25(b) is removed and reserved.
3. Effective November 7, 1986, footnotes 8, 9,
and 10 (in section 225.25(b)(10) and (11))
are redesignated 12, 13, and 14, respectively.
4. Effective December 15, 1986, section
225.25(b) is am ended by revising paragraph
(13) and adding new paragraphs (19), (20),
(21), (22), (23), and (24) to read as follows:
(13) R eal estate and personal property ap­
praising. Performing appraisals of real es­
tate and tangible and intangible personal
property, including securities.
*

*

*

*

*

(19) Investm ent advice on financial futures
and options on futures. Providing invest­
ment advice, including counsel, publica­
tions, written analyses and reports, as a
futures commission merchant (FC M ) au­
thorized pursuant to paragraph (18) of this
subsection or as a commodity trading advi­
sor (C T A ) registered with the Commodity
Futures Trading Commission, with respect
to the purchase and sale of futures con­
tracts and options on futures contracts for
the commodities and instruments referred
to in paragraph (18), provided that the
FCM or CTA—
(i) does not trade for its own account
except for the purpose of hedging a cash
position in the related government securi­
ty, bullion, foreign currency, or money
market instrument; and
(ii) limits its advice to financial institu­
tions and other financially sophisticated
customers that have significant dealings

Regulation Y

or holdings in the underlying commodi­
ties, securities, or instruments.
(20) Consumer financial counseling. Pro­
viding advice, educational courses, and
instructional materials to consumers on in­
dividual financial management matters, in­
cluding debt consolidation, applying for a
mortgage, bankruptcy, budget manage­
ment, tax planning, retirement and estate
planning, insurance and general investment
management, provided—
(i) educational materials and presenta­
tions used by the counselor may not pro­
mote specific products and services;
(ii) the counselor advises each customer
that the customer is not required to pur­
chase any services from affiliates; and
(iii) the counselor does not obtain or
disclose confidential information con­
cerning its customers without the cus­
tom er’s written consent or pursuant to le­
gal process.
This paragraph does not authorize the
provision of advice on specific products or
investments or the provision of portfolio in­
vestment advice or portfolio management,
which are authorized under paragraphs (3)
and (4) (iii) of this subsection subject to
certain fiduciary standards. If consumer fi­
nancial counseling is offered by a company
that also offers securities-brokerage services
pursuant to paragraph (15) of this subsec­
tion, the brokerage and counseling services
must be provided by different personnel and
in separate offices or in separate and dis­
tinctly marked areas.
(21) Tax planning and preparation. P ro­
viding individuals, businesses, and nonprof­
it organizations tax-planning and tax-preparation services, including advice and
strategies to minimize tax liabilities, and the
preparation of tax forms, provided—
(i) the materials used by the tax planner
or preparer do not promote other specific
products and services; and
(ii) the tax planner or preparer does not
obtain or disclose confidential informa­
tion concerning its customers without the
customer’s written consent or pursuant
to legal process.
(22) Check-guaranty
services. A uthor­
izing a subscribing merchant to accept per­
sonal checks tendered by the m erchant’s
customers in payment for goods and serv­
ices and purchasing from the merchant val­

idly authorized checks that are subsequent­
ly dishonored, provided that the check
guarantor does not discriminate against
checks drawn on unaffiliated banks.
(23) Operating collection agency. Coll­
ecting overdue accounts receivable, either
retail or commercial, provided the collec­
tion agency—
(1) does not obtain the names of custom­
ers of competing collection agencies from
an affiliated depository institution that
maintains trust accounts for those agen­
cies; and
(ii) does not provide preferential treat­
ment to an affiliate or a customer of such
affiliate seeking collection of an outstand­
ing debt.
(24) Operating credit bureau. Main­
taining files on the past credit history of
consumers and providing that information
to a credit grantor who is considering a bor­
rower’s application for credit, provided that
the credit bureau does not provide preferen­
tial treatment to a customer of an affiliated
financial institution.
5. Effective June 16, 1987, section 225.43(a),
(c)(2), and (d) is revised to read as follows:
( a ) (1 ) Filing notice. A notice required
under this subpart shall be filed with the
appropriate Reserve Bank and shall con­
tain the information required by para­
graph 6 of the Change in Bank Control
Act (12 USC 181 7 (j)(6 )), or prescribed
in the designated Board form. W ith re­
spect to personal financial statements re­
quired by paragraph 6(B ) of the Change
in Bank Control Act, an individual may
include a statement of assets and liabili­
ties as of a date within 90 days of filing
the notice, a brief income summary, and
a description of any subsequent material
changes, subject to the authority of the
Reserve Bank or the Board to require ad­
ditional information.
(2) Acceptance o f notice. The 60-day
notice period specified in section 225.41 of
this subpart shall commence on the date
all required information is received by the
appropriate Reserve Bank or the Board.
The Reserve Bank shall notify the person
or persons submitting a notice under this
subpart of the date all such required infor3

Regulation Y

mation is received and the notice is ac­
cepted for processing.
(3) Publication, (i) Newspaper announce­
ment. A person(s) filing a notice un­
der this subpart shall publish, in a
form prescribed by the Board, an an­
nouncement soliciting public comment
on the proposed acquisition. The an­
nouncement shall be published in a
newspaper of general circulation in the
community in which the head office of
the state member bank to be acquired
is located or, in the case of a proposed
acquisition of a bank holding compa­
ny, in the community in which its head
office is located and in the community
in which the head office of each of its
subsidiary banks is located. The an­
nouncement shall be published no ear­
lier than 10 calendar days prior to the
filing of the notice with the appropriate
Reserve Bank and no later than 10 cal­
endar days after acceptance of the no­
tice by the Reserve Bank. A copy of
the announcement and the publisher’s
affidavit of publication shall be provid­
ed to the appropriate Reserve Bank.
(ii) Contents o f newspaper announce­
ment. The newspaper announcement
shall state—
(A ) the name of each person identi­
fied in the notice as a proposed ac­
quiror of the bank or bank holding
company and the percentage of
shares proposed to be acquired;
(B) the name of the bank or bank
holding company to be acquired, in­
cluding, in the case of a bank hold­
ing company, the name of each of its
subsidiary banks; and
(C ) a statement that interested per­
sons may submit comments on the
notice to the Board or the appropri­
ate Reserve Bank for a period of 20
days or such shorter period as may
be provided pursuant to paragraph
( a ) ( 3 ) ( v ) of this section.
(iii) Federal Register announcement.
The Board will, upon filing of a notice
under this subpart, publish announce­
ment in the Federal Register of receipt
of the notice. The Federal Register an­
nouncement will contain the informa­
tion
required under paragraphs
( a ) ( 3 ) ( ii) ( A ) and ( a ) ( 3 ) ( ii) ( B ) of
this section and a statement that inter­
ested persons may submit comments on

4

the proposed acquisition for a period of
15 days or such shorter period as may be
provided pursuant to paragraph
( a ) ( 3 ) ( v ) of this section. The Board
may waive publication in the Federal
Register if the Board determines that
such action is appropriate.
(iv) Delay o f publication. The Board
may permit delay in the publication re­
quired under paragraphs (a) (3) (i)
and ( a ) ( 3 ) (iii) if the Board deter­
mines, for good cause shown, that it is
in the public interest to grant such a
delay. Requests for delay of publica­
tion may be submitted to the appropri­
ate Reserve Bank.
(v) Shortening or waiving notice. In
circumstances requiring prompt action,
the Board may shorten the public-comment period required under this para­
graph. The Board may also waive the
newspaper-publication and solicitationof-public-comment requirements of this
paragraph, or it may act on a notice
before the expiration of a public-comment period, if it certifies in writing that
disclosure of the notice, solicitation of
public comment, or delay until expira­
tion of the public-comment period
would seriously threaten the safety or
soundness of the bank or bank holding
company to be acquired.
(4) Consideration o f public comments.
In acting upon a notice filed under this
subpart, the Board shall consider all pub­
lic comments received in writing within
the period specified in the newspaper or
Federal Register announcement, which­
ever is later. A t the Board’s option, com­
ments received after this period may, but
need not, be considered.
(5) Standing. No person (other than
the acquiring person) who submits com­
ments or information on a notice filed un­
der this subpart shall thereby become a
party to the proceeding or acquire any
standing or right to participate in the
Board’s consideration of the notice or to
appeal or otherwise contest the notice or
the Board’s action regarding the notice.
*

*

*

*

*

(c) * * *
(2) Extensions o f tim e period, (i) The
Board may extend the 60-day period in
paragraph (c) (1) of this section for an

Regulation Y

additional 30 days by notifying the ac­
quiring person (s).
(ii) The Board may further extend the
period during which it may disapprove
a notice for two additional periods of
not more than 45 days each if the
Board determines that—
(A ) any acquiring person has not
furnished all the information re­
quired under paragraph (a) of this
section;
(B) any material information sub­
mitted is substantially inaccurate;
(C ) it is unable to complete the in­
vestigation of an acquiring person
because of inadequate cooperation
or delay by that person; or
(D ) additional time is needed to in­
vestigate and determine that no ac­
quiring person has a record of failing
to comply with the requirements of
the Bank Secrecy Act, subchapter II
of chapter 53 of title 31, United
States Code.
(iii) If the Board extends the time
period under this paragraph, it shall
notify the acquiring person(s) of the
reasons therefor and shall include a
statement of the information, if any,
deemed incomplete or inaccurate.
( d )( 1 ) Investigation and report. After re­
ceiving a notice under this subpart, the
Board or the appropriate Reserve Bank
shall conduct an investigation of the
competence, experience, integrity, and fi­
nancial ability of each person by and for
whom an acquisition is to be made. The
Board shall also make an independent
determination of the accuracy and com­
pleteness of any information required to
be contained in a notice under paragraph
(a) of this section. In investigating any
notice accepted under this subpart, the
Board or Reserve Bank may solicit infor­
mation or views from any person, includ­
ing any bank or bank holding company
involved in the notice, and any appropri­
ate state, federal, or foreign governmen­
tal authority.
(2) The Board or the appropriate Re­
serve Bank shall prepare a written report

of its investigation, which shall contain,
at a minimum, a summary of the results
of the investigation.

6. Effective November 3, 1986, appendix A is
am ended to read as follows:

A P P E N D IX A — Capital Adequacy
Guidelines for Bank Holding
Companies and State Member Banks
The Board of Governors of the Federal Re­
serve System has adopted minimum capital
ratios and guidelines to provide a frame­
work for assessing the adequacy of the capi­
tal of bank holding companies and state
member banks (collectively “banking orga­
nizations” ). The guidelines generally apply
to all state member banks and bank holding
companies regardless of size and are to be
used in the examination and supervisory
process as well as in the analysis of applica­
tions acted upon by the Federal Reserve.
The Board of Governors will review the
guidelines from time to time for possible ad­
justments commensurate with changes in
the economy, financial markets, and bank­
ing practices.
Two principal measurements of capital
are used—the primary capital ratio and the
total capital ratio. The definitions of pri­
mary and total capital for banks and bank
holding companies and formulas for calcu­
lating the capital ratios are set forth below
in the definitional sections of these
guidelines.

Capital Guidelines
The Board has established a minimum level
of primary capital to total assets of 5.5 per­
cent and a minimum level of total capital to
total assets of 6.0 percent. Generally, bank­
ing organizations are expected to operate
above the minimum primary and total capi­
tal levels. Those organizations whose opera­
tions involve or are exposed to high or inor­
dinate degrees of risk will be expected to
hold additional capital to compensate for
these risks.
In addition, the Board has established the

Regulation Y

following three zones for total capital for
banking organizations of all sizes:
Total Capital Ratio
Zone 1
Zone 2
Zone 3

Above 7.0%
6.0% to 7.0%
Below 6.0%

The capital guidelines assume adequate
liquidity and a moderate amount of risk in
the loan and investment portfolios and in
off-balance-sheet activities. The Board is
concerned that some banking organizations
may attem pt to comply with the guidelines
in ways that reduce their liquidity or in­
crease risk. Banking organizations should
avoid the practice of attempting to meet the
guidelines by decreasing the level of liquid
assets in relation to total assets. In assessing
compliance with the guidelines, the Federal
Reserve will take into account liquidity and
the overall degree of risk associated with an
organization’s operations, including the
volume of assets exposed to risk.
The Federal Reserve will also take into
account the sale of loans or other assets
with recourse and the volume and nature of
all off-balance-sheet risk. Particularly close
attention will be directed to risks associated
with standby letters of credit and participa­
tion in joint-venture activities. The Federal
Reserve will review the relationship of all
on- and off-balance-sheet risks to capital
and will require those institutions with high
or inordinate levels of risk to hold addition­
al primary capital. In addition, the Federal
Reserve will continue to review the need for
more explicit procedures for factoring onand off-balance-sheet risks into the assess­
ment of capital adequacy.
The capital guidelines apply to both
banks and bank holding companies on a
consolidated basis.1 Some banking organi­
1 The guidelines will apply to bank holding companies
with less than $150 million in consolidated assets on a
bank-only basis unless (1 ) the holding company o r any
nonbank subsidiary is engaged directly or indirectly in any
nonbank activity involving significant leverage o r (2 ) the
holding company o r any nonbank subsidiary has outstand­
ing significant debt held by the general public. D ebt held by
the general public is defined to mean debt held by parties
other than financial institutions, officers, directors, and
principal shareholders o f the banking organization o r their
related interests.

6

zations are engaged in significant nonbank­
ing activities that typically require capital
ratios higher than those of commercial
banks alone. The Board believes that, as a
m atter of both safety and soundness and
competitive equity, the degree of leverage
common in banking should not automati­
cally extend to nonbanking activities. Con­
sequently, in evaluating the consolidated
capital positions of banking organizations,
the Board is placing greater weight on the
building-block approach for assessing capi­
tal requirements. This approach generally
provides that nonbank subsidiaries of a
banking organization should maintain
levels of capital consistent with the levels
that have been established by industry
norms or standards, by federal or state reg­
ulatory agencies for similar firms that are
not affiliated with banking organizations, or
th a t may be established by the Board after
taking into account risk factors of a particu­
lar industry. The assessment of an organiza­
tion’s consolidated capital adequacy must
take into account the amount and nature of
all nonbank activities, and an institution’s
consolidated capital position should at least
equal the sum of the capital requirements of
the organization’s bank and nonbank sub­
sidiaries as well as those of the parent
company.

Supervisory Action
The nature and intensity of supervisory ac­
tion will be determined by an organization’s
compliance with the required minimum pri­
mary capital ratio as well as by the zone in
which the company’s total capital ratio
falls. Banks and bank holding companies
with primary capital ratios below the 5.5
percent minimum will be considered under­
capitalized unless they can demonstrate
clear extenuating circumstances. Such
banking organizations will be required to
submit an acceptable plan for achieving
compliance with the capital guidelines and
will be subject to denial of applications and
appropriate
supervisory
enforcement
actions.
The zone into which an organization’s to­
tal capital ratio falls will normally trigger

Regulation Y

the following supervisory responses, subject
to qualitative analysis:
•

•

•

For institutions operating in zone 1, the
Federal Reserve will consider that capi­
tal is generally adequate if the primary
capital ratio is acceptable to the Federal
Reserve and is above the 5.5 percent
minimum.
For institutions operating in zone 2, the
Federal Reserve will pay particular at­
tention to financial factors, such as asset
quality, liquidity, off-balance-sheet risk,
and interest rate risk, as they relate to
the adequacy of capital. If these areas
are deficient and the Federal Reserve
concludes capital is not fully adequate,
the Federal Reserve will intensify its
monitoring and take appropriate super­
visory action.
For institutions operating in zone 3, the
Federal Reserve will—
— consider that the institution is under­
capitalized, absent clear extenuating
circumstances;
— require the institution to submit a
comprehensive capital plan, accept­
able to the Federal Reserve, that in­
cludes a program for achieving com­
pliance with the required minimum
ratios within a reasonable time peri­
od; and
—institute appropriate supervisory a n d /
or administrative enforcement action,
which may include the issuance of a
capital directive or denial of applica­
tions, unless a capital plan acceptable
to the Federal Reserve has been
adopted by the institution.

Treatment o f Intangible Assets for
Purpose o f Assessing Capital
Adequacy
In considering the treatment of intangible
assets for the purpose of assessing capital
adequacy, the Federal Reserve recognizes
that the determination of the future benefits
and useful lives of certain intangible assets
may involve a degree of uncertainty that is
not normally associated with other banking
assets. Supervisory concern over intangible
assets derives from this uncertainty and

from the possibility that, in the event an
organization experiences financial difficul­
ties, such assets may not provide the degree
of support generally associated with other
assets. For this reason, the Federal Reserve
will carefully review the level and specific
character of intangible assets in evaluating
the capital adequacy of state member banks
and bank holding companies.
The Federal Reserve recognizes that in­
tangible assets may differ with respect to
predictability of any income stream directly
associated with a particular asset, the exis­
tence of a market for the asset, the ability to
sell the asset, or the reliability of any esti­
mate of the asset’s useful life. Certain intan­
gible assets have predictable income
streams and objectively verifiable values
and may contribute to an organization’s
profitability and overall financial strength.
The value of other intangibles, such as
goodwill, may involve a number of assump­
tions and may be more subject to changes in
general economic circumstances or to
changes in an individual institution’s future
prospects. Consequently, the value of such
intangible assets may be difficult to ascer­
tain. Consistent with prudent banking prac­
tices and the principle of the diversification
of risks, banking organizations should
avoid excessive balance-sheet concentration
in any category or related categories of in­
tangible assets.
B ank Holding Companies
While the Federal Reserve will consider the
amount and nature of all intangible assets,
those holding companies with aggregate
intangible assets in excess of 25 percent of
tangible primary capital (i.e., stated pri­
mary capital less all intangible assets) or
those institutions with lesser, although still
significant, amounts of goodwill will be sub­
ject to close scrutiny. For the purpose of
assessing capital adequacy, the Federal Re­
serve may, on a case-by-case basis, make
adjustments to an organization’s capital ra­
tios based upon the amount of intangible
assets in excess of the 25 percent threshold
level or upon the specific character of the
organization’s intangible assets in relation
7

Regulation Y

to its overall financial condition. Such ad­
justments may require some organizations
to raise additional capital.
The Board expects banking organizations
(including state member banks) contem­
plating expansion proposals to ensure that
pro forma capital ratios exceed the mini­
mum capital levels without significant reli­
ance on intangibles, particularly goodwill.
Consequently, in reviewing acquisition pro­
posals, the Board will take into considera­
tion both the stated primary capital ratio
(that is, the ratio without any adjustment
for intangible assets) and the primary capi­
tal ratio after deducting intangibles. In act­
ing on applications, the Board will take into
account the nature and amount of intangi­
ble assets and will, as appropriate, adjust
capital ratios to include certain intangible
assets on a case-by-case basis.
State M em ber Banks
State member banks with intangible assets
in excess of 25 percent of tangible primary
capital will be subject to close scrutiny. In
addition, for the purpose of calculating
capital ratios of state member banks, the
Federal Reserve will deduct goodwill from
primary capital and total capital. The Fed­
eral Reserve may, on a case-by-case basis,
make further adjustments to a bank’s capi­
tal ratios based on the amount of intangible
assets (aside from goodwill) in excess of
the 25 percent threshold level or on the spe­
cific character of the bank’s intangible as­
sets in relation to its overall financial condi­
tion. Such adjustments may require some
banks to raise additional capital.
In addition, state member banks and
bank holding companies are expected to re­
view periodically the value at which intan­
gible assets are carried on their balance
sheets to determine whether there has been
any impairment of value or whether chang­
ing circumstances warrant a shortening of
amortization periods. Institutions should
make appropriate reductions in carrying
values and amortization periods in light of
this review, and examiners will evaluate the
treatment of intangible assets during on-site
examinations.

Definition of Capital to Be Used in
Determining Capital Adequacy
Primary Capital Components
The components of primary capital are—
• common stock,
• perpetual preferred stock (preferred
stock that does not have a stated maturi­
ty date and that may not be redeemed at
the option of the holder),
• surplus (excluding surplus relating to
limited-life preferred stock),
• undivided profits,
• contingency and other capital reserves,
• mandatory convertible instruments,2
• allowance for possible loan and lease loss­
es (exclusive of allocated transfer risk re­
serves), and
• minority interest in equity accounts of
consolidated subsidiaries.
• perpetual debt instruments (for bank
holding companies but not for state mem­
ber banks).
L im its on Certain Forms o f Primary Capital
B ank holding companies. The maximum
composite amount of mandatory convert­
ible securities, perpetual debt, and perpetu­
al preferred stock that may be counted as
primary capital for bank holding companies
is limited to 33.3 percent of all primary cap­
ital, including these instruments. Perpetual
preferred stock issued prior to November
20, 1985, (or determined by the Federal
Reserve to be in the process of being issued
prior to that date) shall continue to be in­
cluded as primary capital.
The maximum composite amount of
mandatory convertible securities and per­
petual debt that may be counted as primary
capital for bank holding companies is limit­
ed to 20 percent of all primary capital, in­
cluding these instruments. The maximum
amount of equity commitment notes (a
form of mandatory convertible securities)
that may be counted as primary capital for
a bank holding company is limited to 10
2 See the definitional section below that lists the criteria
for m andatory convertible instrum ents to qualify as pri­
mary capital.

Regulation Y

percent of all primary capital, including
mandatory convertible securities. Amounts
outstanding in excess of these limitations
may be counted as secondary capital pro­
vided they meet the requirements of sec­
ondary capital instruments.
State m em ber banks. The composite limi­
tations on the amount of mandatory con­
vertible securities and perpetual preferred
stock (perpetual debt is not primary capital
for state member banks) that may serve as
primary capital for bank holding companies
shall not be applied formally to state mem­
ber banks, although the Board shall deter­
mine appropriate limits for these forms of
primary capital on a case-by-case basis.
The maximum amount of mandatory
convertible securities that may be counted
as primary capital for state member banks
is limited to 16§ percent of all primary capi­
tal, including mandatory convertible securi­
ties. Equity commitment notes, one form of
mandatory convertible securities, shall not
be included as primary capital for state
member banks, except that notes issued by
state member banks prior to May 15, 1985,
will continue to be included in primary cap­
ital. Amounts of mandatory convertible se­
curities in excess of these limitations may be
counted as secondary capital if they meet
the requirements of secondary capital
instruments.
Secondary Capital Components
The components of secondary capital are—
• limited-life preferred stock (including re­
lated surplus) and
• bank subordinated notes and debentures
and unsecured long-term debt of the par­
ent
company
and
its
nonbank
subsidiaries.

ing with the ability of the bank or holding
company to conduct normal banking opera­
tions or those resulting in significantly high­
er dividends or interest payments in the
event of a deterioration in the financial con­
dition of the issuer.
The secondary components must meet
the following conditions to qualify as
capital:
• The instrument must have an original
weighted-average maturity of at least sev­
en years.
• The instrument must be unsecured.
• The instrument must clearly state on its
face that it is not a deposit and is not
insured by a federal agency.
• Bank debt instruments must be subordi­
nated to claims of depositors.
• For banks only, the aggregate amount of
limited-life preferred stock and subordi­
nate debt qualifying as capital may not
exceed 50 percent of the amount of the
bank’s primary capital.
As secondary capital components ap­
proach maturity, the banking organization
must plan to redeem or replace the instru­
ments while maintaining an adequate over­
all capital position. Thus, the remaining
maturity of secondary capital components
will be an important consideration in as­
sessing the adequacy of total capital.

Capital Ratios
The primary and total capital ratios for
bank holding companies are computed as
follows:
Primary capital ratio:
_________ Prim ary capital components_________
Total assets + Allowance for loan and lease
losses (exclusive of allocated transfer risk
reserves)

Restrictions Relating to Capital Components
To qualify as primary or secondary capital,
a capital instrument should not contain or
be covered by any covenants, terms, or re­
strictions that are inconsistent with safe and
sound banking practices. Examples of such
terms are those regarded as unduly interfer­

Total capital ratio:
Prim ary capital components + Secondary capital
________________ components________________
Total assets + Allowance for loan and lease
losses (exclusive of allocated transfer risk
reserves)

9

Regulation Y

The primary and total capital ratios for
state member banks are computed as
follows:
Prim ary capital ratio:
Prim ary capital components — Goodwill
Average total assets 4- Allowance for loan
and lease losses (exclusive of allocated transfer
risk reserves) — Goodwill

Total capital ratio:
Prim ary capital components + Secondary capital
___________ components —Goodwill___________
Average total assets + Allowance for loan
and lease losses (exclusive of allocated transfer
risk reserves) —Goodwill

Generally, period-end amounts will be
used to calculate bank holding company ra­
tios. However, the Federal Reserve will dis­
courage temporary balance-sheet adjust­
ments or any other “window dressing”
practices designed to achieve transitory
compliance with the guidelines. Banking or­
ganizations are expected to maintain ade­
quate capital positions at all times. Thus,
the Federal Reserve will, on a case-by-case
basis, use average total assets in the calcula­
tion of bank holding company capital ratios
whenever this approach provides a more
meaningful indication of an individual
holding company’s capital position.
For the calculation of bank capital ratios,
“average total assets” will generally be de­
fined as the quarterly average total assets
figure reported on the bank’s Report of
Condition. If warranted, however, the Fed­
eral Reserve may calculate bank capital ra­
tios based upon total assets as of periodend. All other components of the bank’s
capital ratios will be based upon period-end
balances.

Criteria for Determining Primary
Capital Status of Mandatory
Convertible Securities
M andatory convertible securities are subor­
dinated debt instruments that are eventual­
ly transformed into common or perpetual
preferred stock within a specified period of
time, not to exceed 12 years. To be counted
10

as primary capital, mandatory convertible
securities must meet the criteria set forth
below. These criteria cover the two basic
types of mandatory convertible securities:
equity contract notes (securities that obli­
gate the holder to take common or perpetu­
al preferred stock of the issuer in lieu of
cash for repayment of principal) and equity
commitment notes (securities that are re­
deemable only with the proceeds from the
sale of common or perpetual preferred
stock). Both equity commitment notes and
equity contract notes qualify as primary
capital for bank holding companies, but
only equity contract notes qualify as pri­
mary capital for banks.

Criteria Applicable to Both Types o f
M andatory Convertible Securities
a. The securities must mature in 12 years
or less.
b. The issuer may redeem securities prior
to maturity only with the proceeds from the
sale of common or perpetual preferred
stock of the bank or bank holding compa­
ny. Any exception to this rule must be ap­
proved by the Federal Reserve. The securi­
ties may not be redeemed with the proceeds
of another issue of mandatory convertible
securities. N or may the issuer repurchase or
acquire its own mandatory convertible se­
curities for resale or reissuance.
c. Holders of the securities may not accel­
erate the payment of principal except in the
event of bankruptcy, insolvency, or
reorganization.
d. The securities must be subordinate in
right of payment to all senior indebtedness
of the issuer. In the event that the proceeds
of the securities are reloaned to an affiliate,
the loan must be subordinated to the same
degree as the original issue.
e. An issuer that intends to dedicate the
proceeds of an issue of common or perpetu­
al preferred stock to satisfy the funding re­
quirements of an issue of mandatory’ con­
vertible securities (i.e. the requirement to
retire or redeem the notes with the proceeds

Regulation Y

from the issuance of common or perpetual
preferred stock) generally must make such
a dedication during the quarter in which
the new common or preferred stock is
issued.3 As a general rule, if the dedication
is not made within the prescribed period,
then the securities issued may not at a later
date be dedicated to the retirement or re­
demption of the mandatory convertible
securities.4
Additional Criteria Applicable to Equity
Contract Notes
a. The note must contain a contractual
provision (or must be issued with a m anda­
tory stock purchase contract) that requires
the holder of the instrument to take the
common or perpetual stock of the issuer in
lieu of cash in satisfaction of the claim for
principal repayment. The obligation of the
holder to take the common or perpetual
preferred stock of the issuer may be waived
if, and to the extent that, prior to the m atu­
rity date of the obligation, the issuer sells
new common or perpetual preferred stock
and dedicates the proceeds to the retire­
ment or redemption of the notes. The dedi­
cation generally must be made during the
quarter in which the new common or pre­
ferred stock is issued.
b. A stock purchase contract may be sepa­
rated from a security only if (1) the holder
3 Common o r perpetual preferred stock issued under div­
idend reinvestment plans or issued to finance acquisitions,
including acquisitions o f business entities, may be dedicated
to the retirement o r redemption o f the m andatory convert­
ible securities. Docum entation certified by an authorized
agent of the issuer showing the am ount o f common stock or
perpetual preferred stock issued, the dates o f issue, and
am ounts o f such issues dedicated to the retirement or re­
dem ption o f mandatory convertible securities will satisfy
the dedication requirement.
4 The dedication procedure is necessary to ensure that
the prim ary capital o f the issuer is not overstated. F o r each
dollar of common o r perpetual preferred proceeds dedicat­
ed to the retirement o r redemption o f the notes, there is a
corresponding reduction in the am ount o f outstanding
m andatory securities that may qualify as prim ary capital.
De minimis amounts (in relation to primary capital) of
common or perpetual preferred stock issued under arrange­
ments in which the am ount o f stock issued is not predict­
able, such as dividend reinvestment plans and employee
stock option plans (but excluding public stock offerings
and stock issued in connection with acquisitions), should
be dedicated by no later than the company’s fiscal year-end.

of the contract provides sufficient col­
lateral5 to the issuer, or to an independent
trustee for the benefit of the issuer, to en­
sure performance under the contract and
(2) the stock purchase contract requires
the purchase of common or perpetual pre­
ferred stock.

Additional Criteria Applicable to Equity
Com m itm ent Notes
a. The indenture or note agreement must
contain the following two provisions:
1. The proceeds of the sale of common
or perpetual preferred stock will be the
sole source of repayment for the notes,
and the issuer must dedicate the proceeds
for the purpose of repaying the notes.
(Documentation certified by an autho­
rized agent of the issuer showing the
amount of common or perpetual pre­
ferred stock issued, the dates of issue, and
amounts of such issues dedicated to the
retirement or redemption o f mandatory
convertible securities will satisfy the ded­
ication requirement.)
2. By the time that one-third of the life
of the securities has run, the issuer must
have raised and dedicated an amount
equal to one-third of the original princi­
pal of the securities. By the time that
two-thirds of the life of the securities has
run, the issuer must have raised and dedi­
cated an amount equal to two-thirds of
the original principal of the securities. At
least 60 days prior to the maturity of the
securities, the issuer must have raised
and dedicated an amount equal to the en­
tire original principal of the securities.
Proceeds dedicated to redemption or re­
tirement of the notes must come only
from the sale of common or perpetual
preferred stock.6
5 C ollateral is defined as (1 ) cash or certificates of depos­
it; (2 ) U.S. government securities that will m ature prior to
o r simultaneous with the m aturity of the equity contract
and th at have a par or m aturity value at least equal to the
am ount of the holder’s obligation under the stock purchase
contract; (3 ) standby letters of credit issued by an insured
U.S. bank that is not an affiliate of the issuer; or (4) other
collateral as may be designated from time to tim e by the
Federal Reserve.
6 The funded portions of the securities will be deducted
from prim ary capital to avoid double counting.

11

Regulation Y

b. If the issuer fails to meet any of these
periodic funding requirements, the Federal
Reserve immediately will cease to treat the
unfunded securities as primary capital and
will take appropriate supervisory action. In
addition, failure to meet the funding re­
quirements will be viewed as a breach of a
regulatory commitment and will be taken
into consideration by the Board in acting on
statutory applications.
c. If a security is issued by a subsidiary of a
bank or bank holding company, any guar­
antee of the principal by that subsidiary’s
parent bank or bank holding company must
be subordinate to the same degree as the
security issued by the subsidiary and limit­
ed to repayment of the principal amount of
the security at its final maturity.
Criteria fo r Determining the Primary
Capital Status o f Perpetual Debt
Instrum ents o f B ank Holding Companies
a. The instrument must be unsecured and,
if issued by a bank, must be subordinated to
the claims of depositors.
b. The instrument may not provide the
noteholder with the right to demand repay­
ment of principal except in the event of
bankruptcy, insolvency, or reorganization.
The instrument must provide that nonpay­
ment of interest shall not trigger repayment
of the principal of the perpetual debt note
or any other obligation of the issuer, nor
shall it constitute prima facie evidence of
insolvency or bankruptcy.
c. The issuer shall not voluntarily redeem
the debt issue without prior approval of the
Federal Reserve, except when the debt is

12

converted to, exchanged for, or simulta­
neously replaced in like amount by an issue
of common or perpetual preferred stock of
the issuer or the issuer’s parent company.
d. If issued by a bank holding company, a
bank subsidiary, or a subsidiary with sub­
stantial operations, the instrument must
contain a provision that allows the isuer to
defer interest payments on the perpetual
debt in the event of, and at the same time as
the elimination of dividends on all out­
standing common or preferred stock of the
issuer (or in the case of a guarantee by a
parent company at the same time as the
elimination of the dividends of the parent
company’s common and preferred stock).
In the case of a nonoperating subsidiary (a
funding subsidiary or one formed to issue
securities), the deferral of interest pay­
ments must be triggered by elimination of
dividends by the parent company.
e. If issued by a bank holdng company or a
subsidiary with substantial operations, the
instrument must convert automatically to
common or perpetual preferred stock of the
issuer when the issuer’s retained earnings
and surplus accounts become negative. If
an operating subsidiary’s perpetual debt is
guaranteed by its parent, the debt may con­
vert to the shares of the issuer or guarantor
and such conversion may be triggered when
the issuer’s or parent’s retained earnings
and surplus accounts become negative. If is­
sued by a nonoperating subsidiary of a bank
holding company or bank, the instrument
must convert automatically to common or
preferred stock of the issuer’s parent when
the retained earnings and surplus accounts
of the issuer’s parent become negative.