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RESERVE BANK OF NEW YORK FEDERAL r Circular No. 5 8 3 9 1 L July 26, 1966 J State Member Bank Purchase o f Stock o f “ Operations Subsidiaries” To the State Member Batiks in the Second Federal Reserve District: Printed below is an excerpt from the Federal Register of July 23, 1966, containing an interpretation, issued by the Board of Governors of the Federal Reserve System, on the question whether State member banks may establish and purchase stock of “ operations subsidiaries.” Additional copies of this circular will be furnished upon request. A lfred Title 12— BANKS AND BANKING Chapter II— Federal Reserve System SUBCHAPTER A— BOARD OF GO V ERN O RS OF THE FEDERAL RESERVE SYSTEM [R e g . H ] PART 208— MEMBERSHIP O F STATE BANKING INSTITUTIONS IN THE FEDERAL RESERVE SYSTEM (b ) The B o a rd ’s reexam ination has confirmed its previous p osition that the stock-purchase prohibition, which is m ade app licab le to m em ber S tate banks by the twentieth p aragrap h o f section 9 o f the F ederal R eserve A c t ( 1 2 U .S .C . 3 3 5 ) , forb id s the purchase by a m em ber State bank “ f o r its own account o f any shares o f stock o f any corp oration ” (the statu tory la n g u a g e ), except as specifically p e r m itted by provisions o f F ed era l law or as com prised w ithin the concept o f “ such incidental pow ers as shall be necessary to carry on the business o f ban kin g,” re ferred to in the first sentence o f p aragrap h “ Seventh” o f R .S . 5 13 6 . ( c ) The F ederal banking statutes ex p licitly p erm it the purchase o f stock o f a num ber o f kinds o f corporations, in § 208.119 M em ber bank purchase of cluding stock o f F ederal R eserve B anks, stock of “ operations subsidiaries.*’ bank prem ises subsidiaries, sa fe deposit (a ) In response to several inquiries, com panies, “ E d g e ” and “ A greem en t” cor porations, sm all business investm ent com the B oard o f G overnors has re-exam ined panies, bank service corporations, and the question whether m em ber banks m ay certain fore ig n banks. I n addition, it has establish and purchase the stock o f been held that, in the process o f collecting “ operations subsidiaries” ; that is, organ i defaulted loans that were contracted in zations designed to serve, in effect, as good fa ith , the “ incidental pow ers” o f separately-in corp orated departm ents o f national banks include the pow er to p u r the bank, p erfo rm in g fu nction s that the chase corporate stock where that action bank is em pow ered to p erfo rm directly. constitutes a reasonable and ap p ro p riate T h at question involves the interpretation step toward the collection o f the indebt o f the fo llo w in g provision o f section 5 13 6 edness. o f the R evised Statutes (1 2 U .S .C . 2 4 ) , the so-called “ stock-purchase prohibition” : ( d ) In one p ro p o sal presented to the Purchase of Stock Except as hereinafter provided or otherwise permitted by law, nothing herein contained shall authorize the purchase by [a national bank] for its own account of any shares of stock of any corporation. B oard , the stock to be purchased would have been that o f one or m ore corp ora tions engaged in the business o f leasing personalty to customers o f the member bank and in the business o f selling money H ayes, President. orders. The F ederal statutes contain no express perm ission fo r the purchase o f stock o f corporations o f these kinds, and the B o ard o f G overnors concluded that the p ow er to purchase the stock o f such corporations m a y not p ro p erly be re garded as com prised w ithin “ such in ci dental pow ers as shall be necessary to carry on the business o f banking” , within the m eaning o f section 5 13 6 . (e ) One o f the inquiring m em ber banks contended that the above-cited provisions o f the N a tio n al B a n k A c t and F ederal R eserve A c t : were intended to restrict member banks in dealing in securities and stock in the sense of trading therein or in the sense of the purchase of the stock o f a going concern and, perhaps, further to restrict national and member [State] banks from engaging through subsidiaries in activities in which such banks were not directly empowered to engage, but not in the sense of holding the entire stock of an operating corporation created by the bank. A lo n g the sam e lines, the contention has been advanced that the stock-purchase prohibition was intended by Congress only to prevent banks fro m investin g de p ositors’ fu n d s in corporate stock f o r in come and ap p reciation , in the w ay that banks invest in debt obligations o f the F ederal Governm ent, m unicipalities, and p rivate corporations. ( f ) The B o ard did not ad o p t either o f these constructions o f the statu tory p r o visions. A lth ou g h the prevention o f such investm ent in stocks undoubtedly w as a m a jo r C ongressional p u rp ose, it ap p eared ( over) to the Board that the stock-purchase prohibition was intended generally to prevent the purchase of the stock of corporations, including those created to perform func tions that could be performed by the bank itself. The provisions have been so in terpreted and applied by the Board (and by the Comptroller of the Currency until recently) since their enactment in the Banking Act of 1933. (g) One of the banking problems that principally concerned Congress in the early 1930’s and that led to the enactment of the Banking Acts of 1933 and 1935 was the “ affiliate system”, including mem ber banks’ ownership of other corpora tions. Among the objectives of the Bank ing Act of 1933, as expressed by the Senate Banking Committee, was “ To sep arate as far as possible national and member banks from affiliates of all kinds.” (S. Rep. No. 77, 73rd Congress, p. 10) Together with a number of other provi sions of the Banking Act of 1933, the stock-purchase prohibition of R.S. 5136 served the purpose of confining the bankaffiliate system by preventing banks from purchasing the stock of other corpora tions, except to the limited extent speci fied in that general prohibition. (h) The Board also considered, among other contentions, the assertion that, de spite the apparent intent of the terms of the pertinent statute and its legislative history, it should not be interpreted to prevent the separate incorporation of a banking department engaged in a legiti mate activity. The supporting argument would be that, if a proposed course of action cannot possibly produce the evil effect at which a statutory provision was directed, a construction of the provision that would prevent such action would be unrealistic, and, by emphasizing statutory language rather than underlying purpose, would injure rather than safeguard the public interest. operations in a way that is unsuitable for a part of a banking enterprise, to disregard pertinent restrictions and requirements, and, in particular, to venture through their subsidiaries into activities that are beyond the powers of the parent bank. It is reasonable to infer that Congress, having in mind the predepression affiliate system, concluded that the American bank ing system and the general welfare would be benefited by limiting the authority of member banks to conduct their operations through separately-incorporated organi zations. (12 U .S.C. 248 ( i ) . Interprets 12 U .S.C. 24 (i) The Board agreed that, if a pro and 335) posed course of action could not result in any evil at which a statute is aimed, interpretation of the statute to prohibit Dated at Washington, D. C., this 14th such action should be avoided, if possible. day of July 1966. However, it appeared to the Board that this principle does not apply to the situa By order of the Board of Governors. tion presented by the inquiries. Experi ence in the supervision of banks has revealed that the likelihood of unsafe and [ seal] M e r r it t S h e r m a n , unsound practices, violations of law, and S ecreta ry. other developments contrary to the public interest is significantly greater when banks operate through subsidiary corporations. [F .B . Doc. 6 6 -8 0 2 9 ; Filed, July 22, 1966; There appears to be an inevitable tend ency for some banks, in time, to regard 8 :4 6 a.m.] their subsidiary corporations as separate enterprises and thereupon to conduct their
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