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F ED ER A L R ESER VE BANK O F NEW YORK r Circular No. 7 3 6 4 "I L M arch 25, 1974 -i BANK HOLDING COMPANIES Amendments to Regulation Y Regarding the Leasing of Personal and Real Property T o A ll Bank H olding Companies, and O thers Concerned, in the Second Federal R eserve D istrict: The following statement was issued March 20 by the Board of Governors of the Federal Reserve System: T h e B oard o f G overn ors o f the Federal R eserve System today revised its rules under which bank holding com panies may engage in the leasing o f personal property, and extended the activity to the leasing of real property under a separate, nearly identical rule. T h e amendments to R egulation Y — regulating bank holding com panies— are to becom e effective A pril 17, 1974. Both rules retain the central condition the B oard has im posed upon leasing by bank holding com panies— that the leasing transaction be the functional equivalent of a loan, w hereby the leasing com pany recovers its full investment in the property during the initial term o f the lease. T he B oard issued the amendments to R egulation Y after consideration o f com m ent on a proposal made on Decem ber 13, 1972, and revised July 31, 1973, and consideration of the record of a public hearing held Septem ber 12, 1973, and further com m ent received follow in g the hearing. T he amendments permit bank holding com panies to engage in leasing personal and real property or acting as agent, broker or adviser in such leasing, su b ject to certain conditions, as fo llo w s: 1. T h e lease, as the functional equivalent o f an extension o f credit, is a “ full payout” lease— i.e., the leasing com pany must recover, during the initial term of the lease, its full investment in the property, plus the estimated cost of financing the prop erty during the lease from (a ) rentals, ( b ) esti mated tax benefits, ( c ) the estimated residual value of the property at the expiration o f the lease, and ( d ) in the case of personal property, an additional amount covered by an unconditional guarantee. A n exception permits leases to governm ental entities to be such as to return full payout during the initial term plus “ reasonably anticipated” renewals. 2. T he estimated residual value of the property may not exceed 20 per cent of the acquisition cost o f the property. 3. F or personal property, the leasing com pany may include in its full payout com putation an amount— not to exceed 60 per cent of acquisition cost in leases o f up to 7 years duration— provided by an unconditional guarantee by a lessee or independent third party or manufacturer, determined by the lessor to have the financial resources to meet such obligation. N o similar guarantee provision was included for com puting full payout recovery in the case o f real property leases. T his was the only material difference between the conditions attached to the rules for personal and real property leasing by bank holding companies. 4. T he property to be leased must have been acquired specifically for the purpose o f the lease involved, or fo r an earlier lease. 5. T h e lease is on a nonoperating basis, i.e., the leasing com pany does not also engage in operating or servicing the leased property. 6. T h e m axim um lease term during which the leasing com pany must recover its full investment in the property, plus the estimated cost of financing, is 40 years. 7. A t the expiration h old er) all interest in the as soon as practicable, but leasing com pany may in no o f the property. o f the lease (inclu din g any renewals or extensions with the same lease property must be either liquidated or re-leased on a nonoperating basis in no event later than tw o years after the expiration o f the lease. T he case retain any interest in the property beyond 50 years after its acquisition ( o ver ) In connection with the leasing by bank holding com panies of personal property the B oard noted that in its annual report on implementation of the T ruth in Lending A ct, sent to the Congress January 3, 1974, the B oard recom m ended legislation to require “ suitable disclosures” in connection with consum er leases. These w ould be similar to the credit cost disclosures required under the A ct and w ould seek to provide adequate leasing cost disclosures. Enclosed is a copy of the amendments, effective April 17, 1974, to the Board of Governors’ Regulation Y, “ Bank Holding Companies,” referred to in the above statement. Additional copies of this circular and its enclosure will be furnished upon request. A lfred H a y e s , President. Board of Governors of the Federal Reserve System BANK HOLDING COMPANIES A M E N D M E N T S TO R E G U L A T IO N Y 1. E ffective A p ril 17, 1974: Section 225.4 (a ) ( 6 ) is amended to read as follow s : S E C T IO N 225.4 — N O N B A N K I N G A C T IV IT IE S (а) Activities closely related to banking or managing or controlling banks. * * * The follow in g activities have been determined by the B oard to be so closely related to banking or managing or controlling banks as to be a proper incident th e re to : * * * ( б ) (a ) Leasing personal property or acting as agent, broker or adviser in leasing such property p ro v id e d : ( i ) the lease is to serve as the functional equivalent o f an extension o f credit to the lessee of the p ro p e rty ; ( i i ) the property to be leased is acquired specifically for the leasing transaction under consideration or was acquired specifically for an earlier leasing transaction; (iii) the lease is on a nonoperating basis; ( i v ) at the inception o f the initial lease the effect of the transaction (and, with re spect to governm ental entities only, reason ably anticipated future transactions4) will yield a return that will compensate the lessor fo r not less than the lessor’s full investment in the property plus the estimated total cost of financing the property over the term o f the lease,5 fro m : ( 1 ) rentals; ( 2 ) estimated tax 4 The Board understands that some Federal, State and local governmental entities may not enter into a lease for a period in excess of one year. Such an impediment does not prohibit a company authorized under § 225.4(a) from entering into a lease with such governmental entities if the company reasonably anticipates that such governmental entities will renew the lease annually until such time as the company is fully compensated for its investment in the leased property plus its costs of financing the property. Further a company authorized under § 225.4(a)(6) may also engage in so-called “ bridge” lease financing of personal property, but not real property, where the lease is short term pending completion of long term financ ing, by the same or another lender. 5 The estimate by the lessor of the total cost of financing the property over the term of the lease should reflect, among other factors, the term of the lease, the modes of financing available to the lessor, the credit rating of the lessor and/or the lessee, if a factor in the financing, and prevailing rates in the money and capital markets. benefits (investm ent tax credit, net econom ic gain from tax deferral from accelerated de preciation, and other tax benefits with a sub stantially similar effect) ; ( 3 ) the estimated residual value of the property at the expira tion o f the initial term of the lease, which in no case shall exceed 20 per cent o f the acquisition cost of the property to the le s s o r ; and ( 4 ) in the case o f a lease o f not m ore than 7 years in duration, such additional amount, which shall not exceed 60 per cent o f the acquisition cost o f the property, as may be provided by an unconditional gu ar antee by a lessee, independent third party or manufacturer, which has been determined by the lessor to have the financial resources to meet such obligation, that w ill assure the lessor of recovery of its investment and cost of fin an cin g; ( v ) the m axim um lease term during which the lessor must recover the lessor’ s full investment in the property plus the esti mated total cost of financing the property shall be 40 y e a r s ; and ( v i ) at the expiration of the lease (in clu d ing any renewals or extensions with the same lessee), all interest in the property shall be either liquidated or re-leased on a nonoperat ing basis as soon as practicable but in no event later than tw o years from the exp ira tion o f the lease,6 how ever, in no case shall the lessor retain any interest in the property beyond 50 years after its acquisition o f the property. (b ) Leasing real property or acting as agent, broker or adviser in leasing such p ro p erty p r o v id e d : ( i ) the lease is to serve as the functional equivalent o f an extension o f credit to the lessee of the p r o p e r ty ; ( i i) the property to be leased is acquired specifically for the leasing transaction under 6 In the event of a default on a lease agreement prior to the expiration of the lease term, the lessor shall either re-lease such property, subject to all the conditions of this subsection (6) (a), or liquidate such property as soon as practicable but in no event later than two years from the date of default on a lease agreement. (over) P R IN T E D IN N E W Y O R K consideration or was acquired specifically for an earlier leasing transaction; (iii) the lease is on a nonoperating basis; ( i v ) at the inception of the initial lease the effect of the transaction (and, with re spect to governm ental entities only, reason ably anticipated future transactions4) will yield a return that will compensate the lessor for not less than the lessor’s full investment in the property plus the estimated total cost of financing the property over the term of the lease,5 fr o m : ( 1 ) rentals; ( 2 ) estimated tax benefits (investm ent tax credit, net econom ic gain from tax deferral from accelerated de preciation, and other tax benefits with a substantially similar effect) ; and ( 3 ) the estimated residual value o f the property at the expiration o f the initial term o f the lease, which in no case shall exceed 20 per cent of the acquisition cost o f the property to the lessor. ( v ) the m axim um lease term during which the lessor must recover the lessor’s full investment in the property plus the esti mated total cost of financing the property shall be 40 y e a r s ; and (v i ) at the expiration of the lease (in clu d ing any renewals or extensions with the same lessee), all interest in the property shall be either liquidated or re-leased on a nonop erating basis as soon as practicable but in no event later than tw o years from the e x piration o f the lease,6 how ever, in no case shall the lessor retain any interest in the property beyond 50 years after its acquisition of the property. 2. A s an incident to this amendment the fo ot notes in § 2 2 5 .4 (a ) which are denoted by asterisks and numbers are hereby redesignated as follow s for clarity and ease o f re feren ce: the footnote in § 2 2 5 .4 ( a ) ( 1 ) designated as * to footnote 1; footnotes 1 and 2 in § 2 2 5 .4 (a ) ( 5 ) to footnotes 2 and 3 ; footnote 3 in § 2 2 5 .4 (a ) (1 0 ) to footnote 7 ; footnote 3a in § 2 2 5 . 4 ( a ) ( l l ) to footnote 8 ; the footnotes in § 2 2 5 .4 (a ) (1 2 ) designated as * and ** to fo o t notes 9 and 10; footnote 1 in § 2 2 5 .4 ( b ) ( 1 ) to footnote 11; and footnote 2 in § 2 2 5 .4 (d ) to footnote 12.