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FDIC Federal Register Citations

[Federal Register: December 1, 1998 (Volume 63, Number 230)]
[Rules and Regulations]               
[Page 66275-66338]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr01de98-22]
[[Page 66275]]
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Part III



Federal Deposit Insurance Corporation



_______________________________________________________________________

12 CFR Parts 303, 337, and 362

Activities of Insured State Banks and Insured Savings Associations; 
Proposed and Final Rules
[[Page 66276]]

FEDERAL DEPOSIT INSURANCE CORPORATION
12 CFR Parts 303, 337 and 362
RIN 3064-AC12
 
Activities of Insured State Banks and Insured Savings 
Associations
AGENCY: Federal Deposit Insurance Corporation (FDIC).
ACTION: Final rule.
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SUMMARY: As part of the FDIC's systematic review of its regulations and 
written policies under section 303(a) of the Riegle Community 
Development and Regulatory Improvement Act of 1994 (CDRI), the FDIC has 
revised and consolidated its rules and regulations governing activities 
and investments of insured state banks and insured savings 
associations. The rule implements sections 24, 28, and 18(m) of the 
Federal Deposit Insurance Act, and also establishes certain safety and 
soundness standards pursuant to the FDIC's authority under section 8. 
The FDIC's final rule establishes a number of new exceptions and allows 
institutions to conduct certain activities after providing the FDIC 
with notice rather than filing an application. Subject to appropriate 
separations and limitations, the activities that may be conducted 
through a majority-owned subsidiary under these expedited notice 
processing criteria are real estate investment and securities 
underwriting. The FDIC combined its regulations governing the 
activities and investments of insured state banks with those governing 
insured savings associations. In addition, the FDIC's final rule 
updates its regulations governing the safety and soundness of 
securities activities of subsidiaries and affiliates of insured state 
nonmember banks. The FDIC's final rule modernizes this group of 
regulations and harmonizes the provisions governing activities that are 
not permissible for national banks with those governing the securities 
underwriting and distribution activities of subsidiaries of state 
nonmember banks. The FDIC's final rule makes a number of substantive 
changes and amends the regulations by deleting obsolete provisions, 
rewriting the regulatory text to make it more readable, conforming the 
treatment of state banks and savings associations to the extent 
possible given the underlying statutory and regulatory scheme governing 
the different charters. The FDIC's final rule also conforms most of the 
disclosures required under the current regulation to the Interagency 
Statement on the Retail Sale of Nondeposit Investment Products.
EFFECTIVE DATE: January 1, 1999.
FOR FURTHER INFORMATION CONTACT: Curtis Vaughn, Examination Specialist, 
(202/898-6759), Division of Supervision; Linda L. Stamp, Counsel, (202/
898-7310) or Jamey Basham, Counsel, (202/898-7265), Legal Division, 
FDIC, 550 17th Street, N.W., Washington, D.C. 20429.
SUPPLEMENTARY INFORMATION:
I. Background
    Section 303 of the Riegle Community Development and Regulatory 
Improvement Act of 1994 (RCDRIA) required that the FDIC review its 
regulations for the purpose of streamlining those regulations, reducing 
any unnecessary costs and eliminating unwarranted constraints on credit 
availability while faithfully implementing statutory requirements. 
Pursuant to that statutory direction, the FDIC reviewed part 362 
``Activities and Investments of Insured State Banks,'' subpart G of 
Part 303, effective October 1, 1998, (formerly Sec. 303.13) ``Filings 
by Savings Associations'', and Sec. 337.4 ``Securities Activities of 
Subsidiaries of Insured State Banks: Bank Transactions with Affiliated 
Securities Companies'', and proposed making a number of changes to 
those regulations. That proposal is found in the September 12, 1997, 
issue of the Federal Register at 62 FR 47969.
    The FDIC's final rule restructures existing part 362, placing the 
substance of the text of the current regulation into new subpart A. 
Subpart A addresses the Activities of Insured State Banks implementing 
section 24 of the Federal Deposit Insurance Act (FDI Act). 12 U.S.C. 
1831a. Section 24 restricts and prohibits insured state banks and their 
subsidiaries from engaging in activities and investments of a type that 
are not permissible for national banks and their subsidiaries. Through 
this new final rule, the FDIC introduces a new streamlined notice 
processing concept for insured state nonmember banks that want to 
engage in certain activities that are impermissible for national banks 
and their subsidiaries.
    Due to the experience that the FDIC has gained in reviewing 
applications from insured state nonmember banks since the enactment of 
section 24, the FDIC has standardized the eligibility criteria and 
conditions for two activities. This mechanism gives insured state 
nonmember banks a level of certainty that has been lacking for banks 
that want to diversify their earnings and maintain their 
competitiveness by investing in subsidiaries that engage in activities 
not permissible for national banks. This framework sets forth the 
eligibility criteria and conditions for majority-owned subsidiaries of 
insured state nonmember banks to engage in real estate investment and 
securities underwriting. This framework allows insured state nonmember 
banks to proceed with their business plans in these areas with relative 
certainty that the FDIC will consent to the execution of their plans 
and with assurance that consent will be forthcoming on a predictable 
schedule. This framework allows the insured state nonmember banks to be 
creative and innovative in their business plan within the structure 
appropriate to the activities being undertaken. The FDIC hopes that 
this rule will assist the insured state nonmember banks as they 
progress into the competitive financial environment of the 21st century 
in which they operate their business.
    The FDIC's final rule moves the part of the FDIC's regulations 
governing securities underwriting not permissible for national banks 
(currently at 12 CFR 337.4) into subpart A of part 362. Although the 
proposal contemplated that the entire regulation, Securities Activities 
of Insured State Nonmember Banks, found in Sec. 337.4 of this chapter 
would be removed and reserved, we have postponed that action while 
redeveloping some of the safety and soundness criteria that govern 
insured state bank subsidiaries that engage in the public sale, 
distribution or underwriting of securities and other activities that 
are not permissible for a national bank but that are permissible for 
national bank subsidiaries. The redeveloped regulatory language that 
will amend subpart B of this regulation is published as a proposed rule 
elsewhere in this issue of the Federal Register for further public 
comment. During the period that Sec. 337.4 still exists, where 
activities are covered by both Sec. 337.4 and this final rule, we have 
provided relief from the requirements of Sec. 337.4 in this rulemaking.
    For those activities that were covered under Sec. 337.4 and are now 
covered under this part 362, we have attempted to modernize the 
regulations governing those activities by updating the requirements, 
revising the regulations by deleting obsolete provisions, rewriting the 
regulatory text to make it more readable, removing a number of the 
obsolete current restrictions on those activities, and removing the 
disclosures required under the current regulation.
[[Page 66277]]
    Safety and Soundness Rules Governing Insured State Nonmember Banks 
is found in the new subpart B. Subpart B establishes modern standards 
for insured state nonmember banks to conduct real estate investment 
activities through a subsidiary, and for those insured state nonmember 
banks that are not affiliated with a bank holding company (nonbank 
banks), to conduct securities activities in an affiliated organization. 
The existing restrictions on these securities activities are found in 
Sec. 337.4 of this chapter.
    Subpart G of part 303, effective October 1, 1998, (formerly 
Sec. 303.13) of this chapter which relates to activities and filings by 
savings associations is revised in a number of ways. First, the 
substantive portions applicable to state savings associations of 
subpart G are placed in new subpart C of part 362. The substantive 
requirements applicable to all savings associations when Acquiring, 
Establishing, or Conducting New Activities through a Subsidiary are 
moved to new subpart D.
    In the proposal, subpart E contained the revised application and 
notice procedures as well as delegations of authority for insured state 
banks, and subpart F contained the revised application and notice 
procedures as well as delegations of authority for insured savings 
associations. On a parallel track, the FDIC has completed its revision 
of part 303 of the FDIC's rules and regulations. Part 303 contains 
substantially all of the FDIC's applications procedures and delegations 
of authority. Subparts G and H of part 303 were designated as the place 
where the text of subparts E and F of our proposed rule would be 
located. As a part of the part 303 review process and for ease of 
reference, the FDIC is removing the applications procedures relating to 
activities and investments of insured state banks from part 362 and 
placing them in subpart G of part 303. The procedures applicable to 
insured savings associations are consolidated in subpart H of part 303. 
These subparts are published as an amendment to part 303 as a part of 
this final regulation.
    Part 362 of the FDIC's regulations implements the provisions of 
section 24 of the FDI Act. Section 24 was added to the FDI Act by the 
Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA). 
With certain exceptions, section 24 limits the direct equity 
investments of state chartered insured banks to equity investments of a 
type permissible for national banks. Section 24 prohibits an insured 
state bank from directly, or indirectly through a subsidiary, engaging 
as principal in any activity that is not permissible for a national 
bank unless the bank meets its capital requirements and the FDIC 
determines that the activity will not pose a significant risk to the 
appropriate deposit insurance fund. In addition, section 24 prohibits 
the subsidiary of an insured state bank from directly or indirectly 
engaging as principal in any activity that is not permissible for a 
national bank subsidiary unless the bank meets its capital requirements 
and the FDIC determines that the activity will not pose a significant 
risk to the appropriate deposit insurance fund. The FDIC may make such 
determinations by regulation or order. The statute requires 
institutions that held equity investments not conforming to the new 
requirements to divest no later than December 19, 1996. The statute 
also requires that banks file certain notices with the FDIC concerning 
grandfathered investments.
    Part 362 was adopted in two stages. The provisions of the current 
regulation concerning equity investments appeared in the Federal 
Register on November 9, 1992, at 57 FR 53234. The provisions of the 
current regulation concerning activities of insured state banks and 
their majority-owned subsidiaries appeared in the Federal Register on 
December 8, 1993, at 58 FR 64455.
    Subpart G of Part 303, effective October 1, 1998, (formerly 
Sec. 303.13) of the FDIC's regulations (12 CFR 303.140) implements FDI 
Act sections 28 (12 U.S.C. 1831e) and 18(m) (12 U.S.C. 1828(m)). Both 
sections were added to the FDI Act by the Financial Institutions 
Reform, Recovery, and Enforcement Act of 1989 (FIRREA). While section 
28 of the FDI Act and section 24 of the FDI Act are similar, there are 
a number of fundamental differences between the two provisions which 
caused the implementing regulations to differ in some respects.
    Section 18(m) of the FDI Act requires state and federal savings 
associations to provide the FDIC with notice 30 days before 
establishing or acquiring a subsidiary or engaging in any new activity 
through a subsidiary. Section 28 governs the activities and equity 
investments of state savings associations and provides that no state 
savings association may engage as principal in any activity of a type 
or in an amount that is impermissible for a federal savings association 
unless the FDIC determines that the activity will not pose a 
significant risk to the affected deposit insurance fund and the savings 
association is in compliance with the fully phased-in capital 
requirements prescribed under section 5(t) of the Home Owners' Loan Act 
(12 U.S.C. 1464(t)) (HOLA). Except for its investment in service 
corporations, a state savings association is prohibited from acquiring 
or retaining any equity investment that is not permissible for a 
federal savings association. A state savings association may acquire or 
retain an investment in a service corporation of a type or in an amount 
not permissible for a federal savings association if the FDIC 
determines that neither the amount invested in the service corporation 
nor the activities of the service corporation pose a significant risk 
to the affected deposit insurance fund and the savings association 
continues to meet the fully phased-in capital requirements. A savings 
association was required to divest itself of prohibited equity 
investments no later than July 1, 1994. Section 28 also prohibits state 
and federal savings associations from acquiring any corporate debt 
security that is not of investment grade (commonly known as ``junk 
bonds'').
    Section 303.13 of the FDIC's regulations was adopted as an interim 
final rule on December 29, 1989 (54 FR 53548). The FDIC revised the 
rule after reviewing the comments and the regulation as adopted 
appeared in the Federal Register on September 17, 1990 (55 FR 38042). 
The regulation established application and notice procedures governing 
requests by a state savings association to directly, or through a 
service corporation, engage in activities that are not permissible for 
a federal savings association; the intent of a state savings 
association to engage in permissible activities in an amount exceeding 
that permissible for a federal savings association; or the intent of a 
state savings association to divest corporate debt securities not of 
investment grade. The regulation also established procedures to give 
prior notice for the establishment or acquisition of a subsidiary or 
the conduct of new activities through a subsidiary. Section 303.13 was 
recently moved with stylistic, but not substantive changes, to subpart 
G of part 303, effective October 1, 1998 of the FDIC's regulations.
    Section 337.4 of the FDIC's regulations (12 CFR 337.4) governs 
securities activities of subsidiaries of insured state nonmember banks 
as well as transactions between insured state nonmember banks and their 
securities subsidiaries and affiliates. The regulation was adopted in 
1984 (49 FR 46723) and is designed to promote the safety and soundness 
of insured state nonmember banks that have subsidiaries which engage in 
securities activities, including activities that are impermissible for 
banks directly under section 16 of the Banking Act of 1933
[[Page 66278]]
(12 U.S.C. section 24 (seventh)), commonly known as the Glass-Steagall 
Act. For those subsidiaries that engage in underwriting activities that 
are prohibited for a bank, the regulation requires that these 
subsidiaries qualify as bona fide subsidiaries, establishes transaction 
restrictions between a bank and its subsidiaries or other affiliates 
that engage in such securities activities, requires that an insured 
state nonmember bank give prior notice to the FDIC before establishing 
or acquiring any securities subsidiary, requires that disclosures be 
provided to securities customers in certain instances, and requires 
that a bank's investment in such a securities subsidiary be deducted 
from the bank's capital.
    On August 23, 1996, the FDIC published a notice of proposed 
rulemaking (61 FR 43486, August 23, 1996) (August 1996 proposed rule) 
to amend part 362. Under that proposed rule, a notice procedure would 
have replaced the application currently required in the case of real 
estate, life insurance, and annuity investment activities provided 
certain conditions and restrictions were met. The proposed rule set 
forth notice processing procedures for real estate, life insurance 
policies, and annuity contract investments for well-capitalized, well-
managed insured state banks. While the August 1996 proposed rule would 
have amended existing part 362, this new final rule replaces existing 
part 362.
    After considering the comments to the August 1996 proposed rule and 
reconsidering the issues underlying the current regulation, the FDIC 
withdrew that proposed rule in favor of the more comprehensive approach 
presently adopted. One major change was the elimination of a life 
insurance policy and annuity contract investment notice due to 
intervening guidance provided by the Office of the Comptroller of the 
Currency (OCC) that appears to eliminate the necessity for an 
application with respect to virtually all of the life insurance and 
annuity investments received by the FDIC in the past. While section 24 
and the part 362 application process would continue to apply to those 
life insurance and annuity investments which are impermissible for 
national banks, the FDIC has decided that there is no need to adopt a 
notice process that specifically addresses what we expect to be an 
extremely small number of situations.
II. Description of the Final Rule
    The FDIC divided part 362 into four subparts and changed some of 
the structure of the rule. Generally, we moved substantive aspects of 
the regulation that were formerly found in the definitions of terms 
like ``bona fide subsidiary'' to the applicable regulation text. This 
reorganization should assist the reader in understanding and applying 
the regulation. Next we deleted most of the provisions relating to 
divesture because we found them to be unnecessary due to the passage of 
time. Third, we combined the rules covering the equity investments of 
banks and savings associations into part 362 to regulate these 
investments as consistently as possible given the limitations imposed 
by the different statutes that govern each kind of insured institution. 
Finally, although the FDIC agrees with the principles applicable to 
transactions between insured depository institutions and its affiliates 
contained in sections 23A and 23B of the Federal Reserve Act (12 U.S.C. 
371c and 371c-1), our experience over the last five years in applying 
section 24 has led us to conclude that extending 23A and 23B by 
reference to bank subsidiaries is inadvisable. For that reason, the 
final regulation does not incorporate sections 23A and 23B of the 
Federal Reserve Act by cross-reference; rather, the regulation adapts 
similar principles to those set forth in sections 23A and 23B to the 
bank/subsidiary relationship as appropriate. In drafting the final 
rule, we have considered each of the requirements contained in sections 
23A and 23B in the context of transactions between an insured 
institution and its subsidiary and refined the restrictions 
appropriately. We are comfortable that this approach strikes a better 
balance between caution and commercial reality by harmonizing the 
capital deductions and the principles of 23A and 23B.
    Subpart A of the final rule deals with the activities and 
investments of insured state banks. Except for those sections 
pertaining to the applications, notices and related delegations of 
authority (procedural provisions), existing part 362 essentially 
becomes subpart A under the current proposal. The procedural provisions 
of existing part 362 have been transferred to subpart G of part 303. 
Subpart A addresses the activities of insured state banks in 
Sec. 362.3. The activities carried on in subsidiaries of insured state 
banks are addressed separately in Sec. 362.4.
    Under a safety and soundness standard, subpart B of the final 
regulation requires subsidiaries of insured state nonmember banks 
engaged in certain activities to meet the standards established by the 
FDIC, even if the OCC determines that those activities are permissible 
for a national bank subsidiary. The FDIC has determined that real 
estate investment activities may pose significant risks to the deposit 
insurance funds. For that reason, the FDIC established standards that 
an insured state nonmember bank must meet before engaging in real 
estate investment activities that are not permissible for a national 
bank, even if they are permissible for the subsidiary of a national 
bank.
    Subpart B also establishes modern standards for insured state 
nonmember banks to govern transactions between those insured state 
nonmember banks that are not affiliated with a bank holding company 
(nonbank banks) and affiliated organizations conducting securities 
activities. The existing restrictions on these securities activities 
are found in Sec. 337.4 of this chapter. The new rule only covers those 
entities not covered by orders issued by the Board of Governors of the 
Federal Reserve System (FRB) governing the securities activities of 
those banks that are affiliated with a bank holding company or a member 
bank.
    In addition, subpart B prohibits an insured state nonmember bank 
not affiliated with a company that is treated as a bank holding company 
(see section 4(f) of the Bank Holding Company Act, 12 U.S.C. 1843(f)), 
from becoming affiliated with a company that directly engages in the 
underwriting of securities not permissible for a bank itself unless the 
standards established under the proposed regulation are met.
    Subpart C of the final rule concerns the activities and investments 
of insured state savings associations. The substantive provisions 
applicable to activities of savings associations currently appearing in 
subpart G of part 303, effective October 1, 1998, (formerly 
Sec. 303.13) would be revised in a number of ways and placed in new 
subpart C. To the extent possible, activities and investments of 
insured state savings associations are treated consistently with the 
treatment accorded insured state banks. Thus, we revised a number of 
definitions currently contained in subpart G of part 303 to track the 
definitions used in subpart A of part 362.
    Subpart D of the final rule requires that an insured savings 
association provide a 30-day notice to the FDIC whenever the 
institution establishes or acquires a subsidiary or conducts a new 
activity through a subsidiary. This provision does not alter the notice 
required by statute and current subpart G of part 303. We moved this 
requirement to a new subpart to accommodate Federally chartered savings 
associations by limiting the
[[Page 66279]]
amount of regulation text they would have to read to learn how to 
comply with this statutory notice.
III. Comment Summary
    The FDIC received 129 comments in response to the proposed 
regulation. The overall comments generally favored the FDIC's approach 
to streamlining the consent process for banks and savings associations 
to engage in activities using standardized criteria with seven comments 
specifically supporting the FDIC's efforts to streamline these rules. 
Comments were received from 102 financial institutions, 2 one bank 
holding companies, 3 state banking departments, 14 trade associations, 
2 investment companies, 4 Congressmen, 1 federal banking regulator and 
1 individual.
    The overwhelming majority of the comments (107), primarily from 
Massachusetts, were focused on concerns over proposed changes to the 
standards governing holding equity securities in subsidiaries by banks 
having grandfathered authority to hold the securities at the bank 
level. We have responded to these comments by reinstating the exception 
for a grandfathered bank to hold equity securities in a subsidiary. A 
complete discussion of this issue is found in the section by section 
analysis.
    With regard to the structure of the rule and the consolidation of 
the banking and savings activities into a single rule, five comments 
expressly supported the FDIC's efforts to accomplish these goals. 
However, one comment suggested using a table like the Office of Thrift 
Supervision (OTS) has used to aid understanding this complex and 
difficult regulation. Three comments support cross-referencing the 
Interagency Statement rather than restating disclosure requirements. A 
readability analysis was submitted by one individual and, based upon 
the results, the individual questioned whether the FDIC was successful 
in achieving the stated objective of using plain English. This 
individual offered his services to the FDIC as a writing consultant. 
Other general comments observed that diversifying into new activities 
increases safety and soundness and were pleased that the FDIC supports 
state institutions' exercising of new powers. Two comments indicated 
that in the preamble, the FDIC had overstated the authority of the FRB 
to impose more stringent standards on any activity conducted by a state 
member bank. This statement is derived from section 24(i); however, we 
intended to refer to those activities not permissible for national 
banks. At least one bank and the state banking departments advocate 
further streamlining of the regulations to make it easier for banks to 
use their capital through subsidiaries. The bank suggested that banks 
must have more flexibility to keep their capital in the banking system, 
rather than paying out more dividends to shareholders. Although we 
favor diversifying the banks' income stream and making bankers' 
compliance burden as light as possible, we also are charged with 
maintaining safety and soundness and meeting the requirements of 
section 24 of the FDI Act. Thus, we strive to balance these interests 
in crafting more flexible regulations.
    Most of the remaining comments addressed the substance of the 
regulation and provided constructive feedback on the regulation text. 
Two comments focusing on the Purpose and Scope Section suggested a 
definition of what is meant by ``acting as principal,'' although we 
already had a definition of ``as principal.'' Two comments objected to 
the FDIC accepting the time period imposed by the National Bank Act on 
real estate that is acquired for debts previously contracted as a 
limitation that carries over to state banks. We believe that the 
authority of a national bank to own real estate is governed by the 
statute and that this limitation is inherent in that authority. Thus, 
we believe that a state bank is constrained by this same limitation 
unless relief can be granted by the FDIC. Relief may be granted by the 
FDIC only if the state bank transfers the property to a majority-owned 
subsidiary with appropriate capital and complies with whatever other 
constraints the FDIC deems adequate to protect the deposit insurance 
fund from significant risk.
    In the definitions section, eight comments requested that we expand 
the definition of majority-owned subsidiary to include limited 
liability companies and limited partnership interests. One comment 
suggested that the qualified housing exception also include limited 
liability companies. Four comments expressed concern over the change to 
the definition of ``change of control.'' Four comments expressed 
concern about the change to the definition of ``significant risk to the 
deposit insurance fund.'' One comment suggested a definition of 
``investment in subsidiary'' and further clarification of the items to 
be included in debt and equity.
    With regard to the activities of insured state banks, two comments 
supported the FDIC's new interpretation of when the ``in an amount'' 
limitation is applicable. Six comments addressed insurance activities, 
including three addressing the appropriate disclosures. Five comments 
addressed the change in the measurement of the applicable capital limit 
for adjustable rate and money market preferred stock. Six comments 
addressed the 4(c)(8) list (closely related to banking) activities, 
including specific alternatives on real estate leasing. One comment 
supported the change in the qualified housing projects exception to 
conform the meaning of lower income to that used in the community 
reinvestment regulations in defining low and moderate income.
    With regard to the activities of subsidiaries of insured state 
banks, one comment thought the control concept was unnecessary for 
lower tier subsidiaries. Over one hundred ten comment letters addressed 
the various issues involving the holding of equity securities through a 
majority-owned subsidiary, with the overwhelming majority of the 
comments coming from Massachusetts banking interests to advocate not 
changing the constraints governing banks in that state owning 
grandfathered equity securities in a subsidiary. Several of these 
comment letters identified more than one issue. Twenty comments 
addressed the issues involved with engaging in real estate investment 
activity through a majority-owned subsidiary. Nine comments addressed 
the issues identified in securities underwriting activity through a 
majority-owned subsidiary. Eleven comments addressed the eligible 
depository institution criteria. Twelve comments addressed the eligible 
subsidiary criteria and generally expressed the view that the eligible 
subsidiary was an improvement over the bona fide subsidiary concept 
found in the old rule. Seventeen comments addressed the investment and 
transaction limits criteria. Eight comments were directed to the way 
the capital requirements operate. One comment said that banks should 
have the option of complying with original conditions or the new rule.
    With regard to the real estate activities covered by subpart B, 
five comments addressed this issue and generally thought that the FDIC 
should not impose additional regulations on state nonmember banks.
    With regard to subpart C governing savings associations, one 
comment expressed the view that thrifts do not know what is permissible 
for national banks and needed greater specificity in the regulation. 
There were no comments on subpart D; however, no substantive change was 
made to this statutory filing requirement.
[[Page 66280]]
    With regard to subparts E and F governing the notice and 
application processing and content, two comments were received in favor 
of firmer processing deadlines.
IV. Section by Section Analysis
A. Subpart A--Activities of Insured State Banks
Section 362.1  Purpose and Scope
    As described in the preamble accompanying the proposal, included 
within the proposed changes to the regulation was the inclusion of a 
purpose and scope paragraph describing the statutory background, 
intent, and nature of items covered by this subpart. Several commenters 
acknowledged the FDIC's efforts to restructure the regulation and 
agreed that the proposed reorganization simplifies what continues to be 
complex material. These commenters stated that the use of purpose and 
scope paragraphs helps clarify the coverage of each subpart.
    The intent of Sec. 362.1 is to clarify that the purpose and scope 
of subpart A is to ensure that activities and investments undertaken by 
insured state banks and their subsidiaries do not present a significant 
risk to the deposit insurance funds, are not unsafe and are not 
unsound, are consistent with the purposes of federal deposit insurance, 
and are otherwise consistent with law. Subpart A implements the 
provisions of section 24 of the FDI Act that restrict and prohibit 
insured state banks and their subsidiaries from engaging in activities 
and investments of a type that are not permissible for national banks 
and their subsidiaries. The phrase ``activity permissible for a 
national bank'' means any activity authorized for national banks under 
any statute including the National Bank Act (12 U.S.C. 21 et. seq.), as 
well as activities recognized as permissible for a national bank in 
regulations, official circulars, bulletins, orders or written 
interpretations issued by the OCC.
    This subpart governs activities conducted ``as principal'' and 
therefore does not govern activities conducted as agent for a customer, 
conducted in a brokerage, custodial, advisory, or administrative 
capacity, conducted as trustee, or conducted in any substantially 
similar capacity. As explained in the preamble accompanying the 
proposal, we moved this language from Sec. 362.2(c) of the former 
version of part 362 where the term ``as principal'' was defined to mean 
acting other than as agent for a customer, acting as trustee, or 
conducting an activity in a brokerage, custodial or advisory capacity. 
The FDIC previously described this definition as not covering, for 
example, acting as agent for the sale of insurance, acting as agent for 
the sale of securities, acting as agent for the sale of real estate, or 
acting as agent in arranging for travel services. Likewise, providing 
safekeeping services, providing personal financial planning services, 
and acting as trustee were described as not being ``as principal'' 
activities within the meaning of this definition. In contrast, real 
estate development, insurance underwriting, issuing annuities, and 
securities underwriting would constitute ``as principal'' activities.
    Further, for example, travel agency activities have not been 
brought within the scope of part 362 and would not require prior 
consent from the FDIC even though a national bank is not permitted to 
act as travel agent. Agency activities are not covered by the 
regulations because the state bank would not be acting ``as principal'' 
in providing those services. Thus, the fact that a national bank may 
not engage in travel agency activities is of no consequence. Of course, 
state banks would have to be authorized to engage in travel agency 
activities under state law. We intend to continue to interpret section 
24 and part 362 as excluding any coverage of activities being conducted 
as agent. To highlight this issue, provide clarity, and alert the 
reader of this rule that activities being conducted as agent are not 
within the scope of section 24 and part 362, this language was moved to 
the purpose and scope paragraph in the proposal.
    Comments addressing the proposed treatment of ``as principal'' were 
submitted by two industry trade groups. One group agreed that moving 
the applicable language to the purpose and scope paragraph helps 
clarify that section 24 does not apply to activities conducted in an 
agency or similar capacity. However, both commenters recommended that 
the FDIC define ``as principal'' by specifying what is meant by acting 
as principal rather than providing a list of capacities exempt from 
that definition. In other words, the commenters desired a definition 
consisting of an inclusive list rather than a list of exemptions. 
Additionally, one commenter expressed concern that the current list of 
exempt capacities may omit certain agency-like roles. As such, the 
commenter recommended that the FDIC include ``substantially similar 
capacities'' in the list of capacities that are not considered to be 
conducted ``as principal''.
    The FDIC continues to believe that including the ``as principal'' 
language in the purpose and scope paragraph provides clarity regarding 
activities coming within the scope of section 24. As such, the FDIC 
elects not to separately define ``as principal'', and has deleted as 
redundant an overlapping definition of ``as principal'' contained in 
Sec. 362.2(c) of the proposal. Additionally, the FDIC cannot reasonably 
list all capacities that will be considered to be ``as principal''. 
Therefore, the FDIC is not persuaded that changing the nature of the 
definition to an inclusive list of capacities that are considered ``as 
principal'' would alleviate confusion. Instead, ``as principal'' 
activities will continue to be described as being all capacities other 
than the listed exceptions. The FDIC nonetheless agrees that the 
current list may exclude certain agency-like roles and is therefore 
adding the phrase ``or in any substantially similar capacity'' to the 
regulatory language of Sec. 362.1(b)(1). Also, the FDIC has added a 
list of examples of activities that are not ``as principal'' to provide 
the public with additional guidance.
    The preamble of the proposal also explains that equity investments 
acquired in connection with debts previously contracted (DPC) are not 
within the scope of this subpart when held within the shorter of the 
time limits prescribed by state or federal law. The exclusion of equity 
investments acquired in connection with DPC was moved from the 
definition of ``equity investment'' in the former regulation to the 
purpose and scope paragraph to highlight this issue, provide clarity, 
and alert the reader of this rule that these investments are not within 
the scope of section 24 and part 362. Interests taken as DPC are 
excluded from the scope of this regulation provided that the interests 
are not held for investment purposes and are not held longer than the 
shorter of any time limit on holding such interests (1) set by 
applicable state law or regulation or (2) the maximum time limit on 
holding such interests set by applicable statute for a national bank. 
The result of the modification would be to make it clear, for example, 
that real estate taken DPC may not be held for longer than 10 years 
(see 12 U.S.C. 29) or any shorter period of time set by the state. In 
the case of equity securities taken DPC, the bank must divest the 
equity securities ``within a reasonable time'' (i.e, as soon as 
possible consistent with obtaining a reasonable return) (see OCC 
Interpretive Letter No. 395, August 24, 1987, (1988-89 Transfer Binder) 
Fed Banking L. Rep. (CCH) p. 85619, which interprets and applies the 
National Bank Act) or no later than the time permitted under state law 
if that time period is
[[Page 66281]]
shorter. Of course, a state bank permitted to hold such interests under 
state law may apply to the FDIC for consent to continue to hold the 
real property through a majority-owned subsidiary. In the final rule, 
the FDIC has added some general information about the manner in which a 
national bank may hold DPC.
    Two commenters objected to the FDIC imposing the national bank 
holding period limits on insured state banks if those limits are 
shorter than otherwise permitted under state law. One commenter 
suggested applying a ``reasonable time period'' divestiture standard 
similar to that concerning equity securities acquired DPC. The holding 
periods governing a national bank's ability to own real estate acquired 
DPC are contained within section 29 of the National Bank Act (12. 
U.S.C. 29). Because a national bank can hold real estate acquired DPC 
in limited circumstances, section 24 only allows a state bank to hold 
such interests under the same constraints, i.e., for a maximum of 10 
years. Conversely, section 29 does not contain divestiture periods for 
equity securities acquired DPC and the FDIC has therefore elected to 
defer to a ``reasonable time'' standard. However, due to the statutory 
limitation in section 29, no changes are made to the exception for real 
estate acquired DPC and the regulation will continue to apply the 
holding periods in the manner proposed.
    As discussed in the proposal's preamble, the intent of the insured 
state bank in holding equity investments acquired in connection with 
DPC is also relevant to the analysis of whether the equity investment 
is permitted. Any interest taken DPC may not be held for investment 
purposes. For example, a bank may be able to expend monies in 
connection with DPC property and/or take other actions with regard to 
that property. However, if those expenditures and actions are not 
permissible for a national bank, the property will not fall within the 
DPC exception. For an additional example, if the bank's actions are 
speculative in nature or go beyond what is necessary and prudent in 
order for the bank to recover on the loan, a national bank would not be 
permitted to take these actions. The FDIC expects bank management to 
document that DPC property is being actively marketed; current 
appraisals or other means of establishing fair market value may be used 
to support management's decision not to dispose of property if offers 
to purchase the property have been received and rejected by management.
    Similarly, the proposal also moved to the purpose and scope 
paragraph language governing any interest in real estate in which the 
real property is (1) used or intended in good faith to be used within a 
reasonable time by an insured state bank or its subsidiaries as offices 
or related facilities for the conduct of its business or future 
expansion of its business or (2) used as public welfare investments of 
a type permissible for national banks. Again, this language was moved 
from the definition of ``equity investment'' in the former regulation 
to highlight this issue, provide clarity, and alert the reader of this 
rule that such investments are not within the scope of this subpart. In 
the case of real property held for use at some time in the future as 
premises, the holding of the property must reflect a bona fide intent 
on the part of the bank to use the property in the future as premises. 
We are not aware of any statutory time frame that applies in the case 
of a national bank which limits the holding of such property to a 
specific time period. Therefore, the issue of the precise time frame 
under which future premises may be held without implicating part 362 
must be decided on a case-by-case basis. If the holding period allowed 
under state law is longer than what the FDIC determines to be 
reasonable and consistent with a bona fide intent to use the property 
for future premises, the bank will be so informed and will be required 
to convert the property to use, divest the property, or apply for 
consent to hold the property through a majority-owned subsidiary of the 
bank. We note that the OCC's regulations indicate that real property 
held for future premises should normally be converted to use within 
five years after which time it will be considered other real estate 
owned and must be actively marketed and divested within no more than 
ten years (12 CFR part 34). We understand that the time periods set 
forth in the OCC's regulations reflect safety and soundness 
determinations by that agency. As such, and in keeping with what has 
been to date the FDIC's posture with regard to safety and soundness 
determinations of the OCC, the FDIC will make its own judgment to 
determine when a reasonable time has elapsed for holding property for 
future premises.
    The purpose and scope paragraph also explains that a subsidiary of 
an insured state bank may not engage in activities that are not 
permissible for a subsidiary of a national bank unless the bank is in 
compliance with applicable capital standards and the FDIC has 
determined that the activity poses no significant risk to the deposit 
insurance fund. Subpart A provides standards for certain activities 
that are not permissible for a subsidiary of a national bank. 
Additionally, because of safety and soundness concerns relating to real 
estate investment activities, subpart B reflects special rules for 
subsidiaries of insured state nonmember banks that engage in real 
estate investment activities of a type that are not permissible for a 
national bank, but that may be otherwise permissible for a subsidiary 
of a national bank.
    The FDIC intends to allow insured state banks and their 
subsidiaries to undertake safe and sound activities and investments 
that do not present a significant risk to the deposit insurance funds 
and that are consistent with the purposes of federal deposit insurance 
and other applicable law. This subpart does not authorize any insured 
state bank to make investments or to conduct activities that are not 
authorized or that are prohibited by either state or federal law.
Section 362.2  Definitions
    Revised subpart A Sec. 362.2 contains the definitions applicable to 
this subpart. Most definitions are unchanged from those used in the 
current regulation. Nonetheless, the proposal contains edits to enhance 
clarity and readability, define additional terms, and delete certain 
definitions as unnecessary.
    To standardize as many definitions as possible, we incorporated the 
following definitions from section 3 of the FDI Act (12 U.S.C. 1813): 
``depository institution'', ``insured state bank'', ``bank'', ``state 
bank'', ``savings association'', ``state savings association'', 
``insured depository institution'', ``federal savings association'', 
and ``insured state nonmember bank''. This standardization required 
that we delete the definitions of the first two terms, ``depository 
institution'' and ``insured state bank'', currently found in part 362. 
No substantive change was intended by this modification. The remaining 
terms were added by reference to provide clarity throughout the 
proposed part 362 because we incorporate many of the definitions from 
subpart A into the other part 362 subparts. The FDIC received no 
comments concerning these changes and is therefore adopting the 
referenced definitions as proposed.
    Several definitions were carried forward in the proposal from the 
current regulation either unchanged or containing only minor edits to 
enhance clarity or readability without changing the meaning. The 
following definitions
[[Page 66282]]
were carried forward without any substantive meaning changes: 
``control'', ``extension of credit'', ``executive officer'', 
``director'', ``principal shareholder'', ``related interest'', 
``national securities exchange'', ``residents of state'', 
``subsidiary'', and ``tier one capital''. Again, the FDIC received no 
comments on the referenced definitions which are adopted as proposed.
    The name of one definition was simplified without substantively 
changing its meaning. The subject definition was formerly found in 
Sec. 362.2(g) and was described as follows ``an insured state bank will 
be considered to convert its charter''. This definition is now provided 
by Sec. 362.2(f) and is named ``convert its charter''. No commenters 
addressed this simplified title which is adopted as proposed.
    The definitions of ``activity permissible for a national bank'', 
``an activity is considered to be conducted as principal'', and 
``equity investment permissible for a national bank'' were deleted in 
the proposed and final rule because the substance of the information 
contained in those definitions was incorporated into the scope 
paragraph in Sec. 362.1. When developing the proposal, the FDIC 
concluded that moving the information contained in these definitions to 
the scope paragraph made the coverage of the rule clearer. 
Additionally, placing this information at the beginning of the subpart 
is consistent with the purpose of a scope paragraph. Some readers may 
save time by realizing sooner that the regulation may be inapplicable 
to conduct contemplated by a particular bank. It also may be more 
logical for the reader to consider the scope paragraph to determine the 
rule's applicability, rather than having to rely on the definition 
section. Moreover, we concluded that it would be unnecessary to 
duplicate this same information in the definition section. The FDIC 
received no specific comments on the proposed treatment, but 
respondents commenting on the overall structure of the proposal 
generally favored the use of the purpose and scope paragraphs. The 
final regulation incorporates the changes as proposed. The proposed 
definition of ``as principal'' at Sec. 362.2(c) duplicates material set 
out in the scope section at Sec. 362.1(b)(1), and has therefore been 
eliminated in the final rule. Appropriate definitional language has 
been added to Sec. 362.1(b)(1).
    The proposal also deleted the definition of ``equity interest in 
real estate'' and moved the recitation of the permissibility of owning 
real estate for bank premises and future premises, owning real estate 
for public welfare investments, and owning real estate from DPC to the 
scope paragraph for the reasons stated in the preceding paragraph. 
These activities are permissible for national banks and we concluded 
that it was unnecessary to continue to restate this information in the 
definition section of the regulation. No substantive change is intended 
by the simplification of this language. Further, we determined that the 
remainder of the definition of ``equity interest in real estate'' did 
little to enhance clarity or understanding; therefore, we are relying 
on the language defining ``equity investment'' to cover real estate 
investments.
    Conforming changes were made to the definition of ``equity 
investment'' by removing the reference to the deleted definition of 
``equity interest in real estate''. Additionally, the remaining part of 
the ``equity investment'' definition was shortened and edited to 
enhance readability. This definition is intended to encompass an 
investment in an equity security, partnership interest, or real estate 
as it did in the former regulation. No substantive changes were 
intended by the changes described in this or the preceding paragraph. 
The FDIC received no comments on these changes which are adopted as 
proposed.
    With regard to the definition of ``equity security'', we modified 
the definition by deleting references to circumstances where holding 
equity securities is permissible for national banks, such as when 
equity securities are held as a result of a foreclosure or other 
arrangements concerning debts previously contracted. Language 
discussing the exclusion of DPC and other investments that are 
permissible for national banks was relocated to the scope paragraph for 
the reasons previously stated. Like the exceptions concerning equity 
investments in real estate, no substantive change is intended by the 
relocation of the subject exceptions to the purpose and scope 
paragraph. No comments were received on this proposed treatment which 
is adopted as proposed.
    The definitions of ``investment in a department'' and 
``department'' were deleted because they are no longer needed in the 
revised regulation text. The core standards applicable to a department 
of a bank are detailed in Sec. 362.3(c) and defining the term 
``department'' is therefore unnecessary. If a calculation of an 
``investment in a department'' needs to be made, the FDIC intends to 
defer to governing state law. As a result, a definition of ``investment 
in a department'' is unnecessary and was deleted. There were no 
comments addressing the removal of these definitions.
    Similarly, we deleted the definition of ``investment in a 
subsidiary'' because the definition is no longer needed in the revised 
regulation text. Amounts subject to the investment limits of 
Sec. 362.4(d) are listed clearly in that subsection. The FDIC opted to 
list amounts subject to investment limits in Sec. 362.4(d) to separate 
those debt-type investments from the equity-type investments subject to 
the capital treatment of Sec. 362.4(e). The regulation also contains 
other investment limits applicable to both debt and equity investments. 
Because of these different types of investment limits, the FDIC did not 
find a single ``investment in a subsidiary'' definition helpful. 
Therefore, the FDIC has elected not to incorporate such a definition 
despite a request by one commenter. However, as the same commenter 
suggested, the FDIC has attempted to clearly delineate amounts subject 
to the various investment limits, transaction restrictions, and capital 
requirements when applicable through both the regulation text and the 
corresponding preamble language.
    We deleted the definition of ``bona fide subsidiary'' and chose to 
make similar characteristics part of the ``eligible subsidiary'' 
criteria in Sec. 362.4(c)(2). Including these criteria as a part of the 
substantive regulation text in the referenced subsection, rather than 
as a definition, makes reading the rule easier and the meaning clearer. 
No commenters addressed this treatment. Comments concerning the various 
elements of the eligible subsidiary criteria are discussed elsewhere in 
this preamble under the appropriate section.
    The regulation substitutes the current definition of ``lower 
income'' with a cross reference in Sec. 362.3(a)(2)(ii) to the 
definition of ``low income'' and ``moderate income'' used for purposes 
of part 345 of the FDIC's regulations (12 CFR 345) which implements the 
Community Reinvestment Act (CRA). 12 U.S.C. 2901, et. seq. Under part 
345, ``low income'' means an individual income that is less than 50 
percent of the area median income or a median family income that is 
less than 50 percent in the case of a census tract or a block numbering 
area delineated by the United States Census in the most recent 
decennial census. ``Moderate income'' means an individual income that 
is at least 50 percent but less than 80 percent of the area median or a 
median family income that is at least 50 but less than 80 percent in 
the case of a census tract or block numbering area.
    The ``lower income'' definition is relevant for purposes of 
applying the
[[Page 66283]]
exception in the regulation which allows an insured state bank to be a 
partner in a limited partnership whose sole purpose is direct or 
indirect investment in the acquisition, rehabilitation, or new 
construction of qualified housing projects (housing for lower income 
persons). As we anticipate that insured state banks will seek to use 
such investments in meeting their community reinvestment obligations, 
the FDIC is of the opinion that conforming the definition of lower 
income to that used for CRA purposes will benefit banks. This change 
has the effect of expanding the housing projects that qualify for the 
exception. The FDIC received one comment addressing the altered 
definition with the respondent favorably noting and supporting the 
resultant effect. The final regulation adopts this change as proposed.
    The regulation includes an altered definition of the term 
``activity''. As modified, the definition includes both activities and 
investments. Where equity investments are intended to be excluded from 
a particular section of the regulation, we expressly exclude those 
investments in the regulatory text. Previously, the term ``activity'' 
was defined differently depending upon whether it was used in 
connection with the direct conduct of business by an insured state bank 
or in connection with the conduct of business by a subsidiary of the 
bank. This change was made both to simplify the regulation and to 
reflect the section 24 definition of ``activity''. No comments were 
received on this proposed change.
    It is noted that no comments were received regarding the proposed 
suggestion also to modify the ``activity'' definition to incorporate a 
recent interpretation by the agency that determined that the act of 
making a political campaign contribution does not constitute an 
``activity'' for purposes of part 362. The referenced interpretation 
uses a three prong analysis to help determine whether particular 
conduct should be considered an activity and therefore subject to 
review under part 362 if the conduct is not permissible for a national 
bank.
    First, any conduct that is an integral part of the business of 
banking as well as any conduct which is closely related or incidental 
to banking should be considered an activity. In applying this factor, 
it is important to focus on what banks do that makes them different 
from other types of businesses. For example, lending money is clearly 
an ``activity'' for purposes of part 362. The second factor asks 
whether the conduct is merely a corporate function as opposed to a 
banking function. For example, paying dividends to shareholders is 
primarily a general corporate function and not one associated with 
banking because of some unique characteristic of banking as a business. 
Generally, activities that are not general corporate functions will 
involve interaction between the bank and its customers rather than its 
employees or shareholders. The third factor asks whether the conduct 
involves an attempt by the bank to generate a profit. For example, 
banks make loans and accept deposits in an effort to make money. 
However, contracting with another company to generate monthly customer 
statements should not be considered to be an activity in and of itself 
as it simply is entered into in support of the ``activity'' of taking 
deposits. If at least two of the factors yield a conclusion that the 
conduct is part of the authorized conduct of business by the bank, the 
better conclusion is that the conduct is an activity. Because of the 
lack of interest received on expanding the definition to reflect this 
interpretation, no change is made to the definition proposed. The FDIC 
intends to continue to apply the above analysis when determining 
whether particular conduct should be considered an activity.
    The definition of ``real estate investment activity'' was shortened 
to mean any interest in real estate held directly or indirectly that is 
not permissible for a national bank. This term is used in 
Sec. 362.4(b)(5) of subpart A. Additionally, it is used in Sec. 362.8 
of subpart B which contains safety and soundness restrictions on real 
estate activities of subsidiaries of insured state nonmember banks that 
may be deemed to be permissible for operating subsidiaries of national 
banks but that would not be permissible for a national bank itself. The 
proposed definition contained a parenthetical excluding real estate 
leasing from the definition of real estate investment activities. By 
excluding leasing from the proposed ``real estate investment activity'' 
definition, the FDIC was attempting to clearly separate leasing 
activity from other real estate investment activities.
    Under the current regulation, banks and their majority-owned 
subsidiaries are allowed to engage in real estate leasing under the 
regulatory exceptions enabling them to engage in activities closely 
related to banking.1 These regulatory exceptions were 
carried forward in the proposal. However, the FDIC is concerned about 
certain activities encompassed within this section. For example, the 
4(c)(8) list includes real estate leasing. When an individual or entity 
engages in leasing activity as the lessor of a particular parcel, the 
landlord has an ownership interest in the underlying real estate. Under 
section 24 of the FDI Act, insured state banks are limited in their 
ability to own real estate. We are concerned that an insured state bank 
could consider this regulation and its certain conditions as the FDIC 
having permitted the bank or its majority-owned subsidiaries to own 
real estate interests that would not be permissible for a national bank 
or a subsidiary of a national bank. To prevent insured state banks from 
attempting to use this consent to leasing activity as a way to avoid 
the corporate separations, transaction limitations and restrictions, 
and capital treatment applicable to other real estate investment 
activities, the proposed definition expressly excluded leasing. 
Additionally, the FDIC was attempting to ensure that banks using the 
notice procedure to engage in real estate investment activities were 
not, in effect, operating a commercial business by virtue of the terms 
of the leasing activity.
---------------------------------------------------------------------------
    \1\ These regulatory exceptions were provided by 
Sec. 362.4(c)(3)(ii)(A) and (B) depending upon whether conducted by 
the bank or through a majority-owned subsidiary, respectively. The 
exceptions provided that insured state banks or their majority-owned 
subsidiaries could engage in principal in activities that the FRB by 
regulation or order has found to be closely related to banking for 
the purposes of section 4(c)(8) of the Bank Holding Company Act (12 
U.S.C. 1843(c)(8)).
---------------------------------------------------------------------------
    The FDIC recognizes, however, that the proposed definition would 
have effectively prevented an insured state bank's majority-owned 
subsidiary that was proceeding under the notice procedure from leasing 
property that it is otherwise permitted to own or develop.2 
As a result, the insured state bank would have been required to submit 
an application to seek further consent from the FDIC to lease real 
property it was allowed to own. To correct this anomaly, the FDIC has 
deleted the parenthetical from the definition and deals with the 
activities of real estate leasing and other real estate investment 
activities separately as discussed elsewhere in this preamble. The 
subject definition is otherwise unchanged from the proposal.
---------------------------------------------------------------------------
    \2\ Provided it meets the conditions imposed by 
Sec. 362.4(b)(5).
---------------------------------------------------------------------------
    The final rule includes a modified definition of ``company'' to 
which we added limited liability companies to the list of entities 
considered to be a company. This change was made to recognize the 
creation of limited liability companies and their growing prevalence in 
the market place. Four
[[Page 66284]]
commenters suggested explicitly adding limited liability partnerships 
to the list of business structures included in the ``company'' 
definition. The FDIC believes the suggested change is unnecessary 
because limited liability partnerships are already included in the 
definition through the term ``partnership''.
    As proposed, the FDIC adopted the modified definition of 
``significant risk to the fund'' with the second sentence that 
clarifies that this definition includes the risk that may be present 
either when an activity or an equity investment contributes or may 
contribute to the decline in condition of a particular state-chartered 
depository institution or when a type of activity or equity investment 
is found by the FDIC to contribute or potentially contribute to the 
deterioration of the overall condition of the banking system. Our 
interpretation of the definition remains unchanged. Significant risk to 
the deposit insurance fund is understood to be present whenever there 
is a high probability that any insurance fund administered by the FDIC 
may suffer a loss. The preamble accompanying the adoption of this 
definition in 1992 (57 FR 53220, November 9, 1992) indicated that the 
FDIC recognizes that no investment or activity may be said to be 
without risk under all circumstances and that such a fact alone will 
not cause the agency to determine that a particular activity or 
investment poses a significant risk of loss to the fund. The definition 
emphasizes that there is a high degree of likelihood under all of the 
relevant circumstances that an investment or activity by a particular 
bank, or by banks in general or in a given market or region, may 
ultimately produce a loss to either of the funds. The relative or 
absolute size of the loss that is projected in comparison to the fund 
is not determinative of the issue. The preamble indicated that the 
definition is consistent with and derived from the legislative history 
of section 24 of the FDI Act. Previously, the FDIC rejected the 
suggestion that a risk to the fund be found only if a particular 
activity or investment is expected to result in the imminent failure of 
a bank. The suggestion was rejected in 1992 as the FDIC determined that 
it was inappropriate to approach the issue this narrowly in light of 
the legislative intent.
    Four commenters addressed the proposed change to the wording of 
this definition. One industry trade association complimented the 
change. However, two other groups expressed concern that the added 
sentence results in a definition that is overly broad, and a state bank 
stated that the change makes the definition incoherent. The latter 
three commenters expressed concern that the added sentence contains no 
qualifications or limitations. These commenters state that numerous 
activities may negatively impact the condition of an institution or may 
contribute to deterioration in the overall banking system without 
causing loss to the insurance fund. The commenters suggest that section 
24 requires the FDIC to consider the extent of the impact before 
determining that an activity presents a significant risk to the fund. 
The FDIC agrees with the commenters that consideration must be given to 
the extent that a negative event may harm an institution or the overall 
banking industry. However, the FDIC believes that both sentences 
contained in the definition must be read together. The second sentence 
clarifies that significant risk is present whenever there is a high 
probability that an activity or an equity investment will or could 
result in a loss to an insurance fund administered by the FDIC, 
regardless of whether the loss results from one or multiple 
institutions. After consideration of the comments and the wording, the 
FDIC adopts the expanded definition as proposed.
    The proposal re-defined the term ``well-capitalized'' to 
incorporate the same meaning set forth in part 325 of this chapter for 
an insured state nonmember bank. For other state-chartered depository 
institutions, the term ``well-capitalized'' has the same meaning as set 
forth in the capital regulations adopted by the state. Importing the 
capital definitions used by the various state-chartered depository 
institutions should simplify the calculations when they deal with their 
appropriate federal banking agency. The other terms defined under 
Sec. 362.2(x) of the current regulation were deleted as unnecessary due 
to the other changes in the regulation text.
    The proposal added definitions of the following terms: ``change in 
control'', ``institution'', ``majority-owned subsidiary'', ``security'' 
and ``state-chartered depository institution.''
    After reconsideration of the proposed definition of ``change in 
control'', the FDIC decided to adopt certain changes to bring the 
definition back into substantive consistency with the broader reach of 
the term as is provided by the current regulation. The change in 
control definition comes into play primarily in connection with section 
24's grandfather with respect to common or preferred stock listed on a 
national securities exchange and shares of registered investment 
companies. Section 24 states that the grandfather ceases to apply if 
the bank converts its charter or undergoes a change in control.
    The definition proposed at Sec. 362.2(c) covered any instance in 
which the bank undergoes a transaction which requires a notice to be 
filed under section 7(j) of the FDI Act (12 U.S.C. 1817(j)) except a 
transaction which is presumed to be a change in control for the 
purposes of that section under FDIC's or FRB's regulations implementing 
section 7(j), or in which the bank is acquired by or merged into a bank 
that is not eligible for the grandfather. This proposed definition 
eliminated two other instances which the current regulation, at 
Sec. 362.3(b)(4)(ii), treats as a change in control: any transaction 
subject to section 3 of the Bank Holding Company Act (12 U.S.C. 1842) 
other than a one bank holding company formation (section 3 
transactions), and a transaction in which control of the bank's parent 
company changes (parent control changes).
    In the preamble to the proposal, the FDIC indicated that 
elimination of the section 3 transactions and the parent control 
changes would bring the definition more in line with what constituted a 
true change in control. For example, the section 3 transaction language 
in the current rule would encompass all mergers between the holding 
company of a grandfathered bank and another bank holding company, 
regardless of which holding company was the survivor. However, upon 
further reflection, the FDIC has decided that total elimination of the 
section 3 transactions would create anomalous results. If a controlling 
interest in a grandfathered bank was acquired by an unrelated holding 
company (which requires approval under section 3), it is difficult to 
argue how this is materially less of a change in control than if 
control of the bank was acquired by an individual in a section 7(j) 
transaction. Still, there are cases in which a rigid application of the 
section 3 transactions would reach too far. In contrast to the example 
in which a bank holding company acquires control of a grandfathered 
bank, the FRB's approval under section 3 is required if a bank holding 
company acquires anything more than five percent of any outstanding 
class of a bank's voting shares. The revised definition at 
Sec. 362.2(c) contained in the final rule therefore includes 
transactions subject to section 3 approval only when a bank holding 
company acquires control of a grandfathered bank through the section 3 
transaction. The current exclusion for one bank holding
[[Page 66285]]
company formations also is maintained in the final rule.
    Also, the elimination of the parent control changes in the proposed 
rule created potentially confusing ambiguities, particularly when 
coupled with the elimination of the section 3 transactions. For 
example, if the holding company of a bank eligible for the grandfather 
is acquired and merged into an unrelated bank holding company (again, 
which requires approval under section 3), it is difficult to argue how 
this is materially less of a change in control than if the bank itself 
was merged with an unrelated bank. But the merger and acquisition 
language in the proposed definition referred only to the bank itself. 
The final rule expands the merger language to holding companies, 
accordingly. As another example, it is difficult to argue that a 
transaction requiring the holding company of a grandfathered bank to 
submit a change in control notice under section 7(j) is materially less 
of a change in control than a transaction requiring the grandfathered 
bank itself to file such a notice, and the 7(j) language in the 
proposed rule did not expressly refer to holding company transactions. 
In the final rule, the FDIC has therefore revised the 7(j) language to 
clarify its applicability to both scenarios.
    The FDIC received three similar comments expressing concern about 
the proposed changes to the ``change in control'' definition. The 
commenters acknowledge that deleting certain instances from the current 
definition reduces the instances in which a bank would lose its 
grandfathered rights. Nonetheless, the commenters feel that it is 
unclear whether the proposed changes may have also inadvertently 
broadened the reach of the remaining transactions causing the 
grandfathered right to be terminated. This ambiguity appears to result 
from an incomplete understanding of whether the definition continues to 
exclude transactions presumed to be a change in control under the 
FDIC's and FRB's regulations implementing section 7(j) of the FDI Act. 
The FDIC wants to assure commenters that the regulatory language of the 
final definition, like that of the proposal, continues to exclude such 
presumed changes in control from the events that result in a loss of 
the subject grandfathered rights.
    One additional commenter took exception to the FDIC's position 
concerning the ability to look to the substance of a transaction in 
determining whether grandfather rights terminate. The commenter 
objected to the FDIC's statement in the preamble to the proposed rule 
that state banks should be aware that, depending upon the 
circumstances, the grandfather could be considered terminated after a 
merger transaction in which an eligible bank is the survivor. For 
example, if a state bank that is not eligible for the grandfather is 
merged into a much smaller state bank that is eligible for the 
grandfather, the FDIC may determine that in substance the eligible bank 
has been acquired by a bank that is not eligible for the grandfather. 
The commenter argues that the FDIC's interpretation is inconsistent 
with the FDIC's current regulations, and claims that if the FDIC 
subjects such transactions to subjective criteria such as relative 
asset size, institutions considering mergers or acquisitions will be 
disadvantaged because of the uncertainty regarding the potential loss 
of grandfathered status. The commenter also asserts that the FDIC's 
interpretation is inconsistent with congressional intent because 
section 24 did not define change in control; Congress clearly intended 
the use of ``change in control'' language in section 24(f)(5) to 
reference the meaning of the phrase ``change in control'' established 
by the Change in Bank Control Act (CBCA) (12 U.S.C. 1817(j)). In the 
commenter's view, since the CBCA predates section 24 by nine years, 
Congress intended to use ``change in control'' as a term of art.
    The interpretation set out in the preamble to the proposal is 
consistent with the FDIC's current regulation and is in fact set out in 
the preamble accompanying the FDIC's original adoption of the change in 
control provisions under part 362 in 1992. 57 FR 53227 (Nov. 9, 1992). 
The commenter's argument takes too narrow a view of section 24(f)(5), 
as the FDIC pointed out in proposing the change of control provisions 
of current part 362. In light of the broader congressional action under 
section 24 to generally prohibit equity investments by state banks 
which are not permissible for a national bank, and the limited nature 
of the grandfather exception, it is appropriate to define the universe 
of events constituting a change in control so as to encompass 
transactions constituting a true acquisition. 57 FR 30444 (July 9, 
1992). In modifying the change in control provisions of part 362, the 
FDIC has narrowed the definition somewhat, as discussed above, to 
approximate more closely when a true change in control of the bank has 
taken place. If, as the commenter argues, change in control only 
includes transactions subject to the CBCA, the exclusion under the CBCA 
for all transactions reviewable under the Bank Merger Act (12 U.S.C. 
1828(c)) or the Bank Holding Company Act would be brought to bear. 
Therefore, the FDIC rejects the arguments provided by the commenter as 
being an overly narrow interpretation of the statute.
    We defined ``state-chartered depository institution'' and 
``institution'' to mean any state bank or state savings association 
insured by the FDIC. These definitions should enhance readability and 
eliminate ambiguity concerning the subject terms. Defining 
``institution'' enables us to shorten the drafting of the rule. No 
comments were received regarding these definitions which are adopted as 
proposed.
    Additionally, the proposal added a definition of ``majority-owned 
subsidiary'' which was defined to mean any corporation in which the 
parent insured state bank owns a majority of the outstanding voting 
stock. This definition was added to clarify our intention that 
expedited notice procedures only be available when an insured state 
bank interposes an entity providing limited liability to the parent 
institution. We interpret Congress's intention in imposing the 
majority-owned subsidiary requirement in section 24 of the FDI Act to 
generally require that such a subsidiary provide limited liability to 
the insured state bank. Thus, except in unusual circumstances, we have 
and will require majority-owned subsidiaries to adopt a form of 
business that provides limited liability to the parent bank. In 
assessing our experience with applications, we have determined that the 
notice procedure will be available only to banks that engage in 
activities through a majority-owned subsidiary that takes the corporate 
form of business. We welcome applications that may take a different 
form of business such as a limited partnership or limited liability 
company, but would like to develop more experience with appropriate 
separations to protect the bank from liability under these other forms 
of business enterprise through the application process before including 
such entities in a notice procedure.
    Eight commenters objected to the FDIC's decision to construct the 
definition around the corporate form of business. The commenters were 
unanimous in suggesting that the FDIC expand the definition to include 
limited liability companies (LLCs), limited liability partnerships 
(LLPs), and limited partnerships. Several of the commenters note that 
these forms of business have been in existence in many states for a 
number of years, and they project that the presence of such
[[Page 66286]]
structures will continue to increase given the tax benefits, limited 
liability, and flexible structure provided by these business forms. The 
respondents contend that these business forms sufficiently insulate the 
members and partners from liability. One commenter noted that they are 
aware of no significant judicial challenge to the liability insulation 
provided by these business forms. As such, the commenter asserts that 
the proposed definition contravenes congressional intent because it 
does not recognize a business form that would provide limited liability 
to the insured state bank. Finally, the commenters note that both the 
FRB and the OCC have recently permitted the limited liability 
organizational form for operating subsidiaries.
    Limited liability partnerships and companies are both relatively 
new business forms. There is little definitive legal guidance 
concerning the liability protection offered by these organizational 
structures. Among the unresolved issues is the question of how to 
structure the management of LLCs and LPs to afford the same level of 
separateness provided by the corporate form under the eligible 
subsidiary criteria. Because of the limited existing case law regarding 
piercing the veil of LLCs and LLPs, the FDIC is unable to determine the 
appropriate objective separation criteria that will provide the parent 
bank with substantially the same liability protection offered by an 
independent corporate structure. Thus, we have not expanded the 
definition to include LLCs and LLPs at this time. The FDIC views this 
decision to preclude LLCs and LLPs as consistent with the agency's 
interpretation of the congressional intent to limiting liability for 
subsidiaries' activities from accruing to the insured state bank.
    The effect of the FDIC's decision is that the notice process is 
limited to banks with subsidiaries organized using the corporate form. 
We encourage banks to submit applications when they want to use an 
alternative business form. Then, the banks can propose appropriate 
objective separations that fit the particular activity and the FDIC can 
evaluate these separations on a case-by-case basis. At some future 
date, more standardized criteria may emerge. Then, the FDIC may 
consider re-visiting this issue. The FDIC does not intend any exclusion 
of these forms by omitting them from the notice processing criteria. 
They simply do not allow for the more limited review involved in an 
expedited notice processing system.
    Although the FDIC requires the first level majority-owned 
subsidiary to be a corporation, it is noted that the final regulation 
contains a provision, at Sec. 362.4(b)(3), allowing lower level 
subsidiaries to assume other business forms including LLCs and LLPs. 
Please refer to the applicable discussion of this section elsewhere in 
this preamble.
    The final rule also incorporates the definition of ``security'' 
from part 344 of this chapter to eliminate any ambiguity over the 
coverage of this rule when securities activities and investments are 
contemplated.
Section 362.3  Activities of Insured State Banks
    Equity Investment Prohibition. Section 362.3(a) restates the 
statutory prohibition on insured state banks making or retaining any 
equity investment of a type that is not permissible for a national 
bank. The prohibition does not apply if one of the statutory exceptions 
contained in section 24 of the FDI Act (as restated in the current 
regulation and carried forward in the final regulation) applies. As 
discussed in the preamble accompanying the proposal, the final 
regulation eliminates the reference to ``amount'' that is contained in 
the current version of Sec. 362.3(a). The FDIC reconsidered our 
interpretation of the language of section 24 in which paragraph (c) 
prohibits an insured state bank from acquiring or retaining any equity 
investment of a type that is impermissible for a national bank and 
paragraph (f) prohibits an insured state bank from acquiring or 
retaining any equity investment of a type or in an amount that is 
impermissible for a national bank. We previously interpreted the 
language of paragraph (f) as controlling and read that language into 
the entire statute. We reconsidered this approach and decided that it 
was not the most reasonable construction of this statute and determined 
that the language of the earlier paragraph (c) is controlling without 
the necessity to import the language of (f). We believe that the second 
mention as contained in paragraph (f) should be limited to those items 
discussed under paragraph (f). Thus, the language of paragraph (c) 
controls when any other equity investment is being considered. 
Therefore, we deleted the amount language from the prohibition stated 
in the regulation. The FDIC received comments from two parties 
expressly approving this revised interpretation.
    Exception for subsidiaries of which the bank is majority owner. The 
final regulation retains the exception allowing investments in 
subsidiaries of which the bank is majority owner as currently in effect 
without any substantive change. However, the FDIC has modified the 
language of this section to remove negative inferences and make the 
text clearer. Rather than stating that the bank may do what is not 
prohibited, the FDIC affirmatively states that an insured state 
chartered bank may acquire or retain investments in these subsidiaries. 
If an insured state bank holds less than a majority interest in the 
subsidiary, and that equity investment is of a type that would be 
prohibited to a national bank, the exception does not apply and the 
investment is subject to divestiture.
    Majority ownership for the exception is understood to mean 
ownership of greater than 50 percent of the outstanding voting stock of 
the subsidiary. National banks may own a minority interest in certain 
types of subsidiaries. (See 12 CFR 5.34 (1998)). Therefore, an insured 
state bank may hold a minority interest in a subsidiary if a national 
bank could do so. Thus, section 24 does not necessarily require a state 
bank to hold at least a majority of the stock of a company in order for 
the equity investment in the company to be permissible.
    For purposes of the notice procedure, the regulation defines the 
business form of a majority-owned subsidiary to be a corporation. As is 
discussed above in connection with the definition of a ``Majority-owned 
subsidiary'', there may be other forms of business organization that 
are suitable for the purposes of this exception such as partnerships or 
limited liability companies, but the FDIC prefers to review such 
alternate forms of organization on a case-by-case basis through the 
application process to assure that appropriate separation between the 
insured depository institution and the subsidiary is in place.
    To qualify for the exception, the majority-owned subsidiary may 
engage only in the activities described in Sec. 362.4(b). The allowable 
activities include exceptions to the general statutory prohibition, 
some of which have a statutory basis and others of which are derived 
through the FDIC's power to create regulatory exceptions.
    Investments in qualified housing projects. Section 362.3(a)(2)(ii) 
of the final regulation provides an exception for qualified housing 
projects. The final regulation combines the language found in two 
paragraphs of the current regulation with the resulting paragraph 
retaining substantially the same language. Changes were made to clarify 
some technical aspects of the manner in which the qualified housing 
rules work and are not intended to be substantive. In addition, the 
FDIC modified the
[[Page 66287]]
language of the text to remove negative inferences and make the text 
clearer.
    Under this exception, an insured state bank is allowed to invest as 
a limited partner in a partnership, the sole purpose of which is direct 
or indirect investment in the acquisition, rehabilitation, or new 
construction of a residential housing project intended to primarily 
benefit lower income persons throughout the period of the bank's 
investment. The bank's investments, when aggregated with any existing 
investment in such a partnership or partnerships, may not exceed 2 
percent of the bank's total assets. The FDIC expects a bank to use the 
figure reported on the bank's most recent consolidated report of 
condition (Call Report) prior to making the investment as the measure 
of its total assets. If an investment in a qualified housing project 
does not exceed the limit at the time the investment is made, the 
investment shall be considered to be a legal investment even if the 
bank's total assets subsequently decline.
    The current exception is limited to instances in which the bank 
invests as a limited partner in a partnership. In the proposal, comment 
was invited on (1) whether the FDIC should expand the exception to 
include limited liability companies and (2) whether doing so is 
permissible under the statute. (Section 24(c)(3) of the FDI Act 
provides that a state bank may invest ``as a limited partner in a 
partnership''.). No comments were received on the legal issue. One 
comment applauded our suggestion to expand this statutory exception by 
regulation. In the final rule, we have expanded Sec. 362.3(a)(2)(ii) to 
permit insured state banks to invest in qualified housing projects as a 
limited partner or through a limited liability company.
    Although the statutory language in the paragraph allowing an 
investment in qualified housing projects explicitly allows only a 
limited partnership investment, it does not prohibit other forms of 
ownership. For the purpose of this investment and consistent with the 
underlying public policy purposes of this statute, we consider limited 
liability companies to be substantially equivalent to limited 
partnership interests. It is consistent with the FDIC's authority under 
the statute to extend the qualified housing projects exception by 
regulation to cover the limited liability company form of business 
enterprise in this circumstance. Limited partnership interests and 
limited liability companies provide similar forms of business 
enterprise. Although we have been unwilling to expand the regulatory 
exceptions to allow limited liability companies to substitute for 
corporate forms of business enterprise where uniform separation 
standards were required to protect the bank from the liability of its 
subsidiaries that conduct activities not permissible for national bank 
subsidiaries, we believe that no similar impediments exist here. We 
also acknowledge that we have been reluctant to extend this exception 
to limited liability companies in the past when informal 
interpretations were requested.3 However, we believe, and no 
commenter raised any contrary argument, that it is appropriate to 
extend the statutory exception to cover these substantially similar 
organizational structures through this regulation. Thus, subject to the 
other limitations in the rule, we are allowing by regulation insured 
state banks to invest in limited liability companies that invest in the 
acquisition, rehabilitation or construction of a qualified housing 
project.
---------------------------------------------------------------------------
    \3\ See 2 FDIC Law, Regulations, Related Acts (FDIC) 4903; 1994 
WL 763183 (F.D.I.C.) and FDIC 94-50, 1994 FDIC Interp. Ltr. LEXIS 
89, October 12, 1994.
---------------------------------------------------------------------------
    Grandfathered investments in listed common or preferred stock and 
shares of registered investment companies. Available only to certain 
grandfathered state banks, Sec. 326.3(a)(2)(iii) of the final 
regulation carries forward the statutory exception for investments in 
common or preferred stock listed on a national securities exchange and 
for shares of investment companies registered under the Investment 
Company Act of 1940. Although there is no substantive change, the FDIC 
has modified the language of this section to remove negative inferences 
and make the text clearer.
    To use the grandfathered authority, section 24 requires, among 
other things, that a state bank file a notice with the FDIC before 
relying on the exception and that the FDIC approve the notice. The 
notice requirement, content of notice, presumptions with respect to the 
notice, and the maximum permissible investment under the grandfather 
also are set out in the current regulation. The references contained in 
the current regulation describing the notice content and procedures 
were deleted because we believe that most, if not all, of banks 
eligible for the grandfather already have filed notices with the FDIC. 
Thus, we eliminated language governing the specific content and 
processing of notices and cross-referencing the notice procedures under 
subpart G of part 303. Any bank that has filed a notice need not file 
again.
    Paragraph (B) of this section of the final regulation provides that 
the exception for listed stock and registered shares ceases to apply in 
the event that the bank converts its charter or the bank or its parent 
holding company undergoes a change in control. This language restates 
the statutory language governing when grandfather rights terminate. As 
is discussed in the preamble above in connection with the definition of 
``change in control'', the FDIC has revised both the current and 
proposed scope of transactions encompassed in the notion of a change in 
control.
    The regulation continues to provide that in the event an eligible 
bank undergoes any transaction that results in the loss of the 
exception, the bank is not prohibited from retaining its existing 
investments unless the FDIC determines that retaining the investments 
will adversely affect the bank and the FDIC orders the bank to divest 
the stock and/or shares. This provision has been retained in the final 
rule without any change except for the deletion of the citation to 
specific authorities the FDIC may rely on concerning divestiture. 
Rather than containing specific citations, the final regulation merely 
references the FDIC's ability to order divestiture under any applicable 
authority. State banks should continue to be aware that any inaction by 
the FDIC would not preclude a bank's appropriate banking agency (when 
that agency is an agency other than the FDIC) from taking steps to 
require divestiture of the stock and/or shares if, in that agency's 
judgment, divestiture is warranted.
    The FDIC has moved, simplified, and shortened the limit on the 
maximum permissible investment in listed stock and registered shares. 
The final regulation limits the bank's investment in grandfathered 
listed stock and registered shares, when made, to a maximum of 100 
percent of tier one capital as measured on the bank's most recent Call 
Report prior to the investment. The final rule modifies the proposed 
regulatory language somewhat, to clarify how the maximum investment 
limit is to be determined. The final rule uses the lower of the bank's 
cost or the market value of the stock and shares as the measure of 
compliance with this limit. The proposal referred to book value. At the 
time the FDIC adopted the current version of the rule, call report 
instructions and generally accepted accounting principles (GAAP) 
provided that equity securities were generally to be carried at the 
lower of cost or market value. The FDIC adopted the book value
[[Page 66288]]
approach at that time, in response to industry comments that a market 
value approach would exhaust a bank's grandfather authority as the 
value of its stock and shares appreciated. Now that call report 
instructions and GAAP require stock and shares covered by the rule to 
be reported at market value in many cases, the book value approach no 
longer serves the desired purpose. The FDIC is expressly referring to 
the lower of cost or market approach in the final rule, in order to 
maintain consistency with the current rule. The lower of cost or market 
approach is also consistent with the federal banking agencies' rules 
for determining tier one capital, which require exclusion of net 
unrealized holding losses on available-for-sale equity securities with 
readily determinable fair values.
    Language indicating that investments by well-capitalized banks in 
amounts up to 100 percent of tier one capital will be presumed not to 
present a significant risk to the fund was deleted, as was language 
indicating that it will be presumed to present a significant risk to 
the fund for an undercapitalized bank to invest in amounts that high. 
In addition, the proposed rule deleted the language stating the 
presumption that, absent some mitigating factor, it will not be 
presumed to present a significant risk for an adequately capitalized 
bank to invest up to 100 percent of tier one capital. The FDIC received 
one comment asking that we retain regulatory language describing these 
presumptions for well- and adequately-capitalized banks. The commenter 
believes that removal of the presumptions will create uncertainty and 
may cause banks to hesitate to take full advantage of these investment 
opportunities. The FDIC nonetheless believes at this time that it is 
not necessary to expressly state these presumptions in the regulation. 
However, this action does not alter the FDIC's position regarding the 
presumptions.
    Language in the current regulation concerning the divestiture of 
stock and/or shares in excess of that permitted by the FDIC (as well as 
such investments in excess of 100 percent of the bank's tier one 
capital) has been deleted under the proposal as no longer necessary due 
to the passage of time. In both instances, the time allowed for such 
divestiture has passed.
    We note that the statute does not impose any conditions or 
restrictions on a bank that enjoys the grandfather in terms of per 
issuer limits. The proposal invited comment on whether the FDIC should 
impose restrictions under the regulation that would, for example, limit 
a bank to investing in less than a controlling interest in any given 
issuer. Additionally, we asked whether the regulation should 
incorporate other limits or restrictions to ensure the grandfathered 
investments do not pose a risk. Although no comments specifically 
addressed these questions, several commenters referred to the fact that 
most institutions to which the grandfather is applicable have already 
filed notices with the FDIC regarding those investments. These 
institutions have since complied with any imposed conditions, or 
subsequently applied to have the conditions altered or removed. The 
commenters do not feel that banks should now be subject to requirements 
the FDIC did not originally impose. Moreover, the commenters point out 
that the FDIC and state banking authorities routinely review investment 
portfolios as part of the supervisory process and can address any 
deficiencies on a case-by-case basis. Upon further reflection, the FDIC 
is persuaded not to impose any new regulatory requirements on these 
grandfathered institutions for directly held investments. However, the 
FDIC wants to emphasize that it expects banks using this grandfathered 
investment authority to establish prudent limits and controls governing 
these investments. Equity securities and registered shares that are 
held by the bank must be consistent with the institution's overall 
investment goals and will be reviewed by examiners in that context. The 
FDIC will not take exception to listed stock and registered shares that 
are well regarded by knowledgeable investors, marketable, held in 
moderate proportions, and meet the institution's overall investment 
goals.
    Stock investment in insured depository institutions owned 
exclusively by other banks and savings associations (banker's banks). 
Section 362.3(b)(2)(iv) of the final regulation continues to reflect 
the statutory exception that an insured state bank is not prohibited 
from acquiring or retaining the shares of depository institutions that 
engage only in activities permissible for national banks, are subject 
to examination and are regulated by a state bank supervisor, and are 
owned by 20 or more depository institutions not one of which owns more 
than 15 percent of the voting shares. In addition, the voting shares 
must be held only by depository institutions (other than directors' 
qualifying shares or shares held under or acquired through a plan 
established for the benefit of the officers and employees). Note that 
the proposal modified this exception to no longer limit the bank's 
investment in such depository institutions to ``voting'' stock. This 
change was made to allow banks to hold non-voting interests in these 
entities because section 24(f)(3)(B) of the FDIC Act does not limit the 
exception to voting stock. However, the final regulation retains the 
reference to ``voting'' stock in determining the various ownership and 
control thresholds. The FDIC received no comments on this provision 
which is adopted as proposed.
    Stock investments in insurance companies. Section 362.3(a)(2)(v) of 
the final regulation incorporates statutory exceptions permitting state 
banks to hold equity investments in insurance companies. The exceptions 
are provided by statute and are implemented in the current version of 
part 362. For the most part, the exceptions are carried forward into 
the final regulation with no substantive editing. The exceptions are 
discussed separately below.
    Directors and officers liability insurance corporations. The first 
exception permits insured state banks to own stock in corporations that 
solely underwrite or reinsure financial institution directors' and 
officers' liability insurance or blanket bond group insurance. A bank's 
investment in any one corporation is limited to 10 percent of the 
outstanding stock. Consistent with the proposal, we eliminated the 
present limitation of 10 percent of the ``voting'' stock and changed 
the present reference from ``company'' to ``corporation'' conforming 
the language to the statutory exception.
    While the statute and regulation provide a limit on a bank's 
investment in the stock of any one insurance company under this 
provision, there is no statutory or regulatory ``aggregate'' investment 
limit in all insurance companies, nor does the statute combine these 
investments with any other exception under which a state bank may 
invest in equity securities. In the past, the FDIC has addressed 
investment concentration and diversification issues on a case-by-case 
basis. Nonetheless, the FDIC invited comment on whether it should 
incorporate aggregate limits on grandfathered bank investments in 
insurance companies. Responses addressing this issue were submitted by 
two trade associations and one bank consortium. While one trade 
association suggested that it would be prudent for the FDIC to 
incorporate some form of investment limit, the other two parties 
strongly opposed the imposition of any regulatory limit on what are 
statutory
[[Page 66289]]
exceptions. The FDIC has elected not to impose aggregate investment 
limits on equity investments specifically permitted by statute, nor 
will it combine the bank's investments in insurance companies with 
other equity investments made pursuant to any regulatory exception. 
Instead, the FDIC will continue to address investment concentration and 
diversification issues on a case-by-case basis.
    Stock of savings bank life insurance company. The second exception 
for equity investments in insurance companies permits any insured state 
bank located in New York, Massachusetts, or Connecticut to own stock in 
savings bank life insurance companies provided that certain consumer 
disclosures are made. Again, this regulatory provision mirrors the 
specific statutory exception found in section 24. The savings bank life 
insurance investment exception is broader than the director and officer 
liability insurance company exception discussed above. There are no 
individual or aggregate investment limitations for investments in 
savings bank life insurance companies.
    Consistent with the proposal, the provision implementing this 
exception in the current regulation was carried forward into the final 
regulation with some modifications. The language describing this 
exception was revised to affirmatively permit banks located in New 
York, Massachusetts, or Connecticut to own stock in a savings bank life 
insurance company provided the company provides the required 
disclosures. Additionally, the final regulation alters the required 
disclosure from that provided by the current regulation. Rather than 
continue the disclosure language currently contained in 
Sec. 362.3(b)(3), the FDIC has decided to require disclosures of the 
type provided for in the Interagency Statement. As a result, these 
companies are required to provide their retail customers with written 
and oral disclosures consistent with the Interagency Statement when 
selling savings bank life insurance policies, other insurance products, 
and annuities. The required disclosures in the Interagency Statement 
include a statement that the products are not insured by the FDIC, are 
not a deposit or other obligation of, or guaranteed by, the bank, and 
are subject to investment risks, including the possible loss of the 
principal amount invested. While the existing regulatory language is 
similar to the Interagency Statement in what it requires to be 
disclosed, it is not identical. The last disclosure--that such products 
may involve risk of loss--is not required under the current regulation.
    Although commenters generally supported referencing the Interagency 
Statement rather than incorporating a different disclosure standard, a 
savings bank life insurance company and a United States Congressman 
objected to the ``risk of loss'' disclosure. The savings bank life 
insurance company claims that a disclosure of that nature is a 
falsehood unsupported by factual data. Both commenters are concerned 
that the ``risk of loss'' disclosure places savings bank life insurance 
companies at a competitive disadvantage relative to other entities 
selling life insurance products. The Congressman suggested replacing 
the required disclosure concerning ``may involve risk of loss'' with 
``may involve market risk, if applicable''.
    It is the FDIC's view that FDIC-insured deposits differ from 
savings bank life insurance products and annuities because investors in 
such products are exposed to a possible loss of the principal amount 
invested. The Interagency Statement does not distinguish between the 
relative loss exposure presented by various nondeposit investment 
products. The distinction is simply between insured deposits and other 
investment products. Savings bank life insurance, other insurance 
products, and annuities contain an investment risk component exposing 
the investor to a loss of principal despite the assertion offered by 
one commenter. Further, investors in nondeposit products are exposed to 
more than market risks. The FDIC is therefore unwilling to change the 
nature of the required disclosure.
    Nevertheless, the FDIC recognizes that the language proposed in 
Sec. 362.3(a)(2)(v)(B) may be interpreted to mean the subject 
disclosure must contain the phrase ``may involve risk of loss''. The 
FDIC intends for the disclosures to be consistent with the Interagency 
Statement and was simply paraphrasing the respective disclosure content 
in the event the Interagency Statement is succeeded by another 
statement or regulation. Included in the required disclosures is a 
statement specifying that the nondeposit product is ``subject to 
investment risks, including possible loss of the principal amount 
invested''. The actual Interagency Statement language may convey a less 
threatening tone concerning the possibility of loss. To avoid confusion 
and reflect the FDIC's actual intent, the phrase ``may involve risk of 
loss'' was replaced with ``are subject to investment risks, including 
possible loss of the principal amount invested'' in the final rule.
    The FDIC is aware that insurance companies, including savings bank 
life insurance companies, typically offer annuity products and that 
many states regulate annuities through their insurance departments. The 
FDIC agrees with the OCC that annuities are investment products that 
are subject to the requirements found in the Interagency Statement when 
sold to retail customers on bank premises as well as in other instances 
specified in the Interagency Statement.
    Other activities prohibition. Section 362.3(b) of the final 
regulation restates the statutory limit prohibiting insured state banks 
from directly or indirectly engaging as principal in any activity that 
is not permissible for a national bank. Activity is defined in the rule 
as the conduct of business by a state-chartered depository institution 
and includes acquiring or retaining any investment. Because acquiring 
or retaining an investment is an activity by definition, the proposal 
added language to make clear that this prohibition does not supersede 
the equity investment exceptions of Sec. 362.3(a)(2). The prohibition 
does not apply if one of the statutory exceptions contained in section 
24 of the FDI Act (restated in the current regulation and carried 
forward in the final regulation) applies. The FDIC has also provided a 
regulatory exception to the prohibition on other activities concerning 
the acquisition of certain debt-like instruments. Insured state banks 
desiring to engage in other activities must submit an application to 
the FDIC pursuant to Sec. 362.3(b)(2)(i).
    Consent through Application. The limit on activities contained in 
section 24 states that an insured state bank may not engage as 
principal in any type of activity that is not permissible for a 
national bank unless the FDIC has determined that the activity would 
pose no significant risk to the appropriate deposit insurance fund, and 
the bank is and continues to be in compliance with applicable capital 
standards prescribed by the appropriate federal banking agency. Section 
362.3(b)(2)(i) establishes an application process for the FDIC to make 
the determination concerning risk to the funds. The substance of this 
process is unchanged from the current regulation.
    Insurance underwriting. This exception tracks the statutory 
exception in section 24 which grandfathers: (1) Certain insured state 
banks engaged in the underwriting of savings bank life insurance 
through a department of the bank; (2) any insured state bank that 
engaged in underwriting of insurance on
[[Page 66290]]
or before September 30, 1991, which was reinsured in whole or in part 
by the Federal Crop Insurance Corporation; and (3) certain well-
capitalized banks engaged in insurance underwriting through a 
department of a bank. The exception is carried forward from the current 
regulation with a number of modifications.
    The savings bank life insurance exception applies to insured state 
banks located in Massachusetts, New York, or Connecticut. To use this 
exception, banks must engage in the activity through a department of 
the bank meeting the core standards discussed below. The standards for 
conducting this activity are taken from the current regulation with the 
exception of the disclosure standards which are discussed below. We 
moved the requirements for a department from the definitions section to 
the substantive portion of the regulation text.
    The exception for underwriting federal crop insurance is unchanged 
from the current regulation, and there are no regulatory limitations on 
the conduct of the activity.
    An insured state bank that wishes to use the remaining 
grandfathered insurance underwriting exception may do so only if the 
insured state bank was lawfully providing insurance, as principal, as 
of November 21, 1991. Further, the insured state bank must be well-
capitalized if it is to engage in insurance underwriting and the bank 
must conduct the insurance underwriting in a department that meets the 
core standards described below. Banks taking advantage of this 
grandfather provision may underwrite only the same type of insurance 
that was underwritten as of November 21, 1991, and may operate and have 
customers only in the same states in which it was underwriting policies 
on November 21, 1991. The grandfather authority for this activity does 
not terminate upon a change in control of the bank or its parent 
holding company.
    Both savings bank life insurance activities and grandfathered 
insurance underwriting must take place in a department of the bank 
which meets certain core operating and separation standards. Consistent 
with the disclosure requirements of the current regulation, the core 
operating standards require the department to inform its customers that 
only the assets of the department may be used to satisfy the 
obligations of the department. Note that this language does not require 
the bank to say that the bank is not responsible for the obligations of 
the department. The bank and the department constitute one corporate 
entity. In the event of insolvency, the insurance underwriting 
department's assets and liabilities would be segregated from the bank's 
assets and liabilities due to the requirements of state law. The 
regulatory language of the final rule has been changed to clarify that 
a bank seeking to operate its department under separation standards 
different than the core standards in the rule may submit an application 
to the FDIC.
    The final regulation eliminates the proposed operating standard 
requirement that the department provide customers with written 
disclosures consistent with those in the Interagency Statement. The 
FDIC proposed replacing the disclosure statement currently imposed by 
Sec. 362.4(g)(1)(iii) with that required in the Interagency Statement 
to increase consistency and reduce the regulatory burden of differing 
requirements. Upon further reflection, the FDIC has decided that while 
it is prudent to eliminate the disclosure currently required by part 
362, the proposal to impose the Interagency Statement in connection 
with this activity in this regulation is unnecessary. Unlike the 
statutory exception permitting banks to engage in savings bank life 
insurance activities, the authorizing statute does not require a 
customer disclosure as a condition of engaging in other grandfathered 
insurance activities. Nevertheless, banks engaged in grandfathered 
insurance underwriting continue to be subject to the Interagency 
Statement in connection with sales to bank customers, including the 
disclosure provisions of that statement. Comments support this change 
and recognize that any retail sale of nondeposit investment products to 
bank customers is subject to the Interagency Statement if made on bank 
premises, by a bank employee, or pursuant to a compensated referral.
    The FDIC cannot, however, eliminate the regulatory requirement that 
insured state banks engaged in savings bank life insurance activities 
make disclosures to all consumers. Section 24(e) of the FDI Act 
authorizes this activity only if the bank meets the consumer disclosure 
requirements. Thus, under the statute, the FDIC must promulgate 
consumer disclosures for savings bank life insurance. Section 
362.4(c)(1) of the current regulation addresses banks engaging in 
savings bank life insurance underwriting activities. The referenced 
section requires the bank to make certain disclosures to purchasers of 
life insurance policies, other insurance products, and annuities. As 
discussed previously in this preamble, these disclosures are similar to 
those set out in the Interagency Statement but they are not identical. 
Currently, banks engaging in savings bank life insurance underwriting 
are covered by the Interagency Statement and part 362. As a result, 
banks have been required to comply with both of these similar but 
somewhat different requirements. The final regulation replaces the 
current disclosure requirement with a cross reference to the 
Interagency Statement to make compliance easier. Banks engaging in 
savings bank life insurance activities should note, however, that 
consistent with the proposal and the current regulation, the final rule 
carries forward the requirement that the department also inform 
purchasers that only the assets of the insurance department may be used 
to satisfy the obligations of the department. Comments and the FDIC's 
response are described elsewhere in this preamble.
    The core separation standards in the final rule restate the 
requirements currently found in the definition of department. These 
standards require the department to: (1) Be physically distinct from 
the remainder of the bank; (2) maintain separate accounting and other 
records; (3) have assets, liabilities, obligations, and expenses that 
are separate and distinct from those of the remainder of the bank; and 
(4) be subject to state statutes that permitting the obligations, 
liabilities, and expenses to be satisfied only with the assets of the 
department. The standards are unchanged from those in the current 
regulation, but they have been moved from the definitions section to 
ensure that the requirements are shown in connection with the 
appropriate regulatory exception.
    Acquiring and retaining adjustable rate and money market preferred 
stock. The proposal provides an exception that allows a state bank to 
invest in up to 15 percent of the bank's tier one capital in adjustable 
rate preferred stock and money market (auction rate) preferred stock 
without filing an application with the FDIC. The exception was adopted 
when the 1992 version of the regulation was adopted in final form. 
After reviewing comments at that time, the FDIC found that adjustable 
rate preferred stock and money market (auction rate) preferred stock 
were essentially substitutes for money market investments such as 
commercial paper and that these investments possess characteristics 
closer to debt than to equity securities. Therefore, money market 
preferred stock and adjustable rate preferred stock were excluded from 
the definition of equity security. As a result, these investments are 
not subject to the equity investment prohibitions of the statute or the 
regulation and they are
[[Page 66291]]
considered to be an ``other activity'' for the purposes of this 
regulation.
    This exception focuses on two categories of preferred stock. This 
first category, adjustable rate preferred stock, refers to shares where 
dividends are established by contract through the use of a formula 
based on Treasury rates or some other readily available interest rate 
levels. Money market preferred stock refers to those issues where 
dividends are established through a periodic auction process that 
establishes yields in relation to short-term rates paid on commercial 
paper issued by the same or a similar company. The credit quality of 
the issuer determines the value of the security. Money market preferred 
shares are sold at auction.
    Consistent with other parts of the proposal, the FDIC has modified 
the exception by limiting the 15 percent measurement to tier one 
capital, rather than total capital. Throughout the final regulation, 
all capital-based limitations are measured against tier one capital to 
increase uniformity within the regulation. The FDIC recognizes that 
this change may lower the permitted amount of these investments held by 
institutions already engaged in the activity. An insured state bank 
that has investments exceeding the proposed limit, but within the total 
capital limit, may continue holding those investments until they are 
redeemed or repurchased by the issuer. The 15 percent of tier one 
capital limitation should be used in determining the allowable amount 
of new purchases of money market preferred and adjustable rate 
preferred stock. Of course, institutions wanting to increase their 
holdings of these securities may submit an application to the FDIC.
    The FDIC received five comments regarding this proposed change. 
Although the commenters applaud the desire for consistency, they 
contend that the results of such a change are unjustified when done 
principally for the sake of uniformity. Thus, the commenters suggest 
that the FDIC either leave the measurement base unchanged or increase 
the limit to offset the impact of the change. While the FDIC 
acknowledges the concerns expressed by commenters, it is not persuaded 
that changing the capital base from total to tier one capital creates a 
significant hardship. Therefore, the final regulation uses the tier one 
capital base to measure the applicable limit. The FDIC will handle 
applications to exceed the governing threshold in an expeditious manner 
according to procedures detailed in subpart G of part 303.
    The final regulation incorporates a provision allowing insured 
state banks to acquire and retain other instruments of a type 
determined by the FDIC to have the character of debt securities 
provided the instruments do not represent a significant risk to the 
deposit insurance funds. In response to investor and client needs, the 
financial markets continually develop new financial products. A recent 
example of such an instrument is trust preferred stock. Trust preferred 
stock is a hybrid instrument possessing characteristics typically 
associated with debt obligations. Trust preferred securities are issued 
by an issuer trust that uses the proceeds to purchase subordinated 
deferrable interest debentures in a corporation. The corporation 
guarantees the obligations of the issuer trust and agrees to indemnify 
third parties for other expenses and liabilities incurred by the issuer 
trust. Taken together, the debentures, guarantee, and expense indemnity 
agreement constitute a full, irrevocable, and unconditional guarantee 
of the obligations of the issuer trust by the issuer corporation. With 
the exception of credit risk, investors in trust preferred stock are 
protected from changes in the value of the instruments. Like investors 
in debt securities, trust preferred stock investors do not share any 
appreciation in the value of the issuer trust and have no voting rights 
in the management or ordinary course of business of the issuer trust. 
Additionally, trust preferred stock is not perpetual and distributions 
on the stock resemble the periodic interest payments on debt. In 
essence, such investments are functionally equivalent to investments in 
the underlying debentures. In the future, as such new instruments come 
to the FDIC's attention, the FDIC will provide public notice of its 
determinations under the rule by issuing Financial Institution Letters 
describing its decisions. Any investments in such instruments would be 
aggregated with investments in adjustable rate and money market 
preferred stock for purposes of applying the 15 percent of tier one 
capital limit.
    Activities that are closely related to banking. The language in the 
proposal providing a regulatory exception allowing insured state banks 
to engage in activities closely related to banking has been eliminated. 
The proposed regulation continued language found in the current 
regulation entitled ``Activities that are closely related to banking''. 
Section 362.3(b)(2)(iv) of the proposal permitted an insured state bank 
to engage as principal in any activity that is not permissible for a 
national bank provided that the FRB by regulation or order has found 
the activity to be closely related to banking for the purposes of 
section 4(c)(8) of the Bank Holding Company Act (12 U.S.C. 1843(c)(8)). 
However, the proposed exception was subject to the statutory 
restrictions prohibiting the bank from directly holding equity 
investments that a national bank may not hold or which are not 
otherwise permissible investments for insured state banks pursuant to 
Sec. 362.3(b). Additionally, the proposal imposed limits on certain of 
the activities authorized by the 4(c)(8) reference. Included in the 
limits was a provision requiring the bank, when acting as a real 
property lessor, to either re-lease the real estate or dispose of the 
same within two years after the lease expires.
    The FDIC received six comments on this provision, four of them 
objecting to the two-year disposition period at the conclusion of a 
real estate lease. Another opined that the bank's survival depends on 
its ability to diversify by engaging in real estate leasing through a 
subsidiary. An industry trade association supports continued reliance 
on activities authorized by the FRB pursuant to 4(c)(8) of the Bank 
Holding Company Act.
    Upon further analysis, the FDIC has deleted the reference to the 
4(c)(8) list because the activities included on that list generally are 
of a type permissible for national banks. The one exception that 
clearly is not generally permissible for a national bank involves real 
estate leasing. It is noted that national banks are permitted to engage 
in certain real estate leasing activities. As with other activities 
permissible for national banks, insured state banks can engage in the 
same real estate leasing activities subject to any limitations imposed 
by the applicable state law. However, since section 24 of the FDI Act 
does not permit the FDIC to allow insured state banks, at the bank 
level, to hold equity investments that are not permissible for national 
banks, any FDIC authorization for real estate leasing raises a question 
whether, under a particular leasing arrangement, the bank as lessor 
holds an interest in real estate tantamount to an equity investment. 
Given the variety of potential lease structures, it is not practicable 
for the FDIC to deal with this issue categorically, under a regulatory 
exception, at this time. If authorized under state law, state banks are 
permitted to engage in leasing activities through majority-owned 
subsidiaries. This exception is discussed in the description of 
Sec. 362.4(b) in this preamble.
    Guarantee activities. The current regulation contains a provision 
that
[[Page 66292]]
permits a state bank with a foreign branch to directly guarantee the 
obligations of its customers as set out in what was formerly 
Sec. 347.3(c)(1) of the FDIC's regulations without filing any 
application under part 362. A technical amendment to part 362 was 
recently made to update this reference to Sec. 347.103(a)(1) as 
published in the Federal Register on April 8, 1998 (63 FR 17090). The 
current regulation also permits a state bank to offer customer-
sponsored credit card programs in which the bank guarantees the 
obligations of its retail banking deposit customers. This provision has 
been deleted as unnecessary since these activities are permissible for 
a national bank. In its current rule, the FDIC used this provision to 
clarify that part 362 does not prohibit these activities. To shorten 
the regulation, such clarifying language has been deleted since the 
activity is permissible for a national bank. The FDIC received no 
comments addressing this provision and it is dropped as proposed.
Section 362.4  Subsidiaries of Insured State Banks
    General prohibition. The regulatory language implementing the 
statutory prohibition on an insured state bank engaging in ``as 
principal'' activities that are not permissible for a national bank is 
separated from the prohibition on an insured state bank subsidiary 
engaging in activities which are not permissible for a subsidiary of a 
national bank. For ease of reference we separated bank and subsidiary 
activities. Section 362.4 deals exclusively with activities that may be 
conducted in a subsidiary of an insured state bank. Five commenters 
supported this restructuring of the regulation. The FDIC believes that 
separating the activities that may be conducted at the bank level from 
the activities that must be or may be conducted by a subsidiary makes 
it easier for the reader to focus on the analysis of the regulation. 
Therefore, the general prohibition in the final regulation is adopted 
as proposed.
    Exceptions. First, the regulation provides that activities not 
permissible for a national bank subsidiary may not be conducted by the 
subsidiary of an insured state bank unless one of the exceptions in the 
regulation applies. This language is similar to the current part 362 
and we received no comments on the provision. The final regulation 
contains no changes to the proposed language.
    Consent obtained through application. The revised regulation allows 
approval by individual application provided that the insured state bank 
meets and continues to meet the applicable capital standards and the 
FDIC finds there is no significant risk to the fund. Language from the 
current regulation is deleted that expressly provides that approval is 
necessary for each subsidiary even if the bank received approval to 
engage in the same activity through another subsidiary. Deleting this 
language does not automatically permit a state bank to establish a 
second subsidiary to conduct the same activity that was approved for 
another subsidiary of the same bank; however, the issue will be handled 
on a case-by-case basis by the FDIC pursuant to order. For example, if 
the FDIC approves an application by a state bank to establish a 
majority-owned subsidiary to engage in real estate investment 
activities, the order may (in the FDIC's discretion) be written to 
allow more than one subsidiary to conduct the activity or to require 
that any additional real estate subsidiaries must be individually 
approved.
    Application procedures may be used by a bank to request the FDIC's 
consent to engage in an activity that is limited but not specifically 
prohibited by this part. For instance, the notice procedures require 
that the subsidiary take the corporate organizational form. Several 
comments expressed concern about the restriction on the form of 
business enterprise. Any subsidiary that is organized as a limited 
liability company would be required to use the application procedures. 
The FDIC does not intend to prohibit insured state banks from 
organizing subsidiaries in a form other than a corporation, or to make 
it more difficult to establish these other forms of business 
enterprise. However, the FDIC would like to review other forms of 
organizations, on a case-by-case basis, to satisfy itself that adequate 
separations are placed between the bank and its subsidiary. At this 
time, we have not found a way to craft standardized separation criteria 
for these other forms of business enterprise. No commenters suggested 
any criteria. Other requests that do not meet the notice criteria or 
that desire relief from a limit or restriction included in the notice 
criteria also are encouraged. Application instructions have been moved 
to subpart G of part 303.
    Consistent with the proposal, the final rule eliminates language 
that prohibited an insured state bank from engaging in insurance 
underwriting through a subsidiary except to the extent that such 
activities are permissible for a national bank. Eliminating this 
language does not result in any substantive change as section 24 of the 
FDI Act clearly provides that the FDIC may not approve an application 
for a state bank to directly or indirectly conduct insurance 
underwriting activities that are not permissible for a national bank. 
The FDIC received no comment on this change. Therefore, the language is 
unnecessary and has been eliminated as proposed.
    The current part 362 allows state banks that do not meet their 
minimum capital requirements to gradually phase out otherwise 
impermissible activities that were being conducted as of December 19, 
1992. These provisions are eliminated due to the passage of time. The 
relevant outside dates to complete the phase out of those activities 
have passed (December 19, 1996, for real estate activities and December 
8, 1994, for all other activities).
    Grandfathered Insurance Underwriting. The regulation provides for 
three statutory exceptions that allow subsidiaries to engage in 
insurance underwriting, covering ``grandfathered'' insurance 
activities, title insurance, and crop insurance.
    Subsidiaries may engage in the same grandfathered insurance 
underwriting as the bank if the bank or subsidiary was lawfully 
providing insurance as principal on November 21, 1991. The limitations 
under which this subsidiary may operate have been changed.
    The current standard that the bank must be well-capitalized has 
been changed. Consistent with the proposal, the final rule requires the 
bank to be well-capitalized after deducting its investment in the 
insurance subsidiary. One comment on this change argues that the risk 
involved in insurance underwriting depends upon the type of insurance 
and that not all insurance underwriting is inherently risky enough to 
justify an automatic capital deduction. The FDIC believes that this 
capital treatment is an important element to separate the operations of 
the bank and the subsidiary. This treatment clearly delineates and 
identifies the capital that is available to support the bank and the 
capital that is available to support the subsidiary. Capital standards 
for insurance companies are based on different criteria from bank 
capital requirements. Most states have minimum capital requirements for 
insurance companies. The FDIC believes that a bank's investment in an 
insurance underwriting subsidiary is not actually ``available'' to the 
bank in the event the bank experiences losses and needs additional 
capital. As a result, the bank's investment in the insurance subsidiary 
should not be considered when determining whether the bank has 
sufficient capital.
[[Page 66293]]
    Another commenter objects to the introduction of the ``capital 
deduction'' arguing that providing insurance as principal under the 
``grandfather'' provision is not an activity for which a state bank 
must obtain a risk to the fund determination. The comment asserts that 
the provision is self-operative in the absence of any determination or 
regulations of the FDIC, since Congress evaluated the risk to the 
insurance funds created by the activity and found that risk to be 
acceptable. The FDIC agrees that, other than the requirement that the 
bank must be well-capitalized, section 24 itself imposes no additional 
conditions or restrictions on the activity. Nevertheless, ever since 
the FDIC originally promulgated its part 362 rules regarding the 
conduct of this activity, the FDIC has noted that the activity can 
involve material risks, and it is therefore prudent to separate those 
risks from the insured state bank. See 58 FR 64482 (Dec. 8, 1993). The 
FDIC has always imposed conditions on this activity, over and above 
those addressed in section 24 itself, to protect bank safety and 
soundness and protect the deposit insurance funds. See 58 FR 6465 
(January 29, 1993). As noted at the time, the FDIC is not precluded 
from imposing such restrictions, as section 24(i) itself clearly 
indicates.
    Commenters disagreed on the need for an aggregate investment limit 
for equity investments in grandfathered insurance activities. One 
comment argues that it is important to limit the maximum exposure to 
the depository institution. Another comment states that such a limit is 
not suggested by the statute, and the FDIC should retain the 
flexibility to act on a case-by-case basis. After further consideration 
of this issue, the FDIC is not convinced that the risks from the 
different types of insurance subject to grandfather provisions are 
similar. Therefore, an aggregate limit would not necessarily enhance 
the safety and soundness of the banks involved in this activity. After 
considering the comments received and for the reasons stated above, the 
language in the final regulation is unchanged from the proposal.
    The revisions to the regulation require a subsidiary engaging in 
grandfathered insurance underwriting to meet the standards for an 
``eligible subsidiary'' discussed below. This standard replaces the 
``bona fide'' subsidiary standard in the current regulation. The 
``eligible subsidiary'' standard generally contains the same 
requirements for corporate separateness as the ``bona fide'' subsidiary 
definition but adds the following provisions: (1) The subsidiary has 
only one business purpose; (2) the subsidiary has a current written 
business plan that is appropriate to its type and scope of business; 
(3) the subsidiary has adequate management for the type of activity 
contemplated, including appropriate licenses and memberships, and 
complies with industry standards; and (4) the subsidiary establishes 
policies and procedures to ensure adequate computer, audit and 
accounting systems, internal risk management controls, and the 
subsidiary has the necessary operational and managerial infrastructure 
to implement the business plan. No comment was received relating to the 
effect of these additional requirements on banks engaged in insurance 
underwriting. We believe that the standards for adequate separation 
between an insured state bank and any subsidiary engaged in insurance 
underwriting should be similar to those that separate other 
subsidiaries that engage in activities not permitted to the bank. 
Therefore, no changes have been made to the proposed separation 
standards.
    In lieu of the prescribed disclosures contained in the current 
regulation and in a departure from the proposal, the revision does not 
prescribe disclosures. Instead, the FDIC is relying on the terms of the 
Interagency Statement as applicable guidance when the subsidiary's 
products are sold on bank premises, are sold by bank employees, or are 
sold when the bank receives remuneration for a referral. The FDIC has 
made the change primarily because it recognizes that there is a reduced 
likelihood of customer confusion when sales of insurance products by a 
subsidiary of an insured state bank are not made on bank premises, are 
not made by bank employees, and are not a result of a referral from the 
bank.
    However, there is an increased risk of customer confusion where the 
insured state bank and the subsidiary selling the product have similar 
names. Those cases are addressed in part by a separation standard which 
is discussed below. The separation standard requires that the 
subsidiary conduct its business pursuant to independent policies and 
procedures designed to inform customers and prospective customers of 
the subsidiary that the subsidiary is a separate organization from the 
state-chartered depository institution and that the state-chartered 
depository institution is not responsible for and does not guarantee 
the obligations of the subsidiary. The institution and its subsidiary 
should take any steps necessary to avoid customer confusion on behalf 
of non-bank customers, or bank customers in transactions not covered by 
the Interagency Statement.
    Under Sec. 362.5(b)(2), banks with subsidiaries engaged in 
grandfathered insurance underwriting activities are expected to meet 
the new requirements, and have 90 days from the effective date to 
achieve compliance or apply to the FDIC for approval to operate 
otherwise. The FDIC will consider any such applications on a case-by-
case basis.
    The regulation provides that a subsidiary may continue to 
underwrite title insurance based on the specific statutory authority 
from section 24. This provision is currently in part 362 and is carried 
forward with no substantive change. The insured state bank is permitted 
only to retain the investment if the insured state bank was required, 
before June 1, 1991, to provide title insurance as a condition of the 
bank's initial chartering under state law. The authority to retain the 
investment terminates if a change in control of the grandfathered bank 
or its holding company occurs after June 1, 1991. There are no 
statutory or regulatory investment limits on banks holding these types 
of grandfathered investments.
    The exception for subsidiaries engaged in underwriting crop 
insurance is continued. Under section 24, insured state banks and their 
subsidiaries are permitted to continue underwriting crop insurance 
under two conditions: (1) They were engaged in the business on or 
before September 30, 1991; and (2) the crop insurance was reinsured in 
whole or in part by the Federal Crop Insurance Corporation. While this 
grandfathered insurance underwriting authority requires that the bank 
or its subsidiary had to be engaged in the activity as of a certain 
date, the authority does not terminate upon a change in control of the 
bank or its parent holding company.
    Majority-owned subsidiaries ownership of equity investments that 
represent a control interest in a company. In proposed 
Sec. 362.4(b)(3), the FDIC would have allowed majority-owned 
subsidiaries of insured state banks to hold controlling interests in 
lower-level subsidiaries engaged in certain activities which the FDIC 
authorized to be conducted at the bank level in proposed 
Sec. 362.3(b)(2). These activities were holding adjustable rate and 
money market preferred stock; and engaging in activities found by the 
FRB to be closely related to the business of banking under section 
4(c)(8) of the Bank Holding Company Act (subject to certain 
restrictions). Proposed Sec. 362.4(b)(3) differed from current 
Sec. 362.4(c)(3)(iv)(C), which effectively
[[Page 66294]]
authorizes the majority-owned subsidiary to own stock of a corporation 
engaged in 4(c)(8) activities by authorizing the ownership of stock of 
a corporation that engages in activities permissible for a bank service 
corporation but imposes no control requirement. Proposed 
Sec. 362.4(b)(3) also contained no counterpart to current 
Sec. 362.4(c)(3)(iv)(D), authorizing a majority-owned subsidiary to 
invest in 50 percent or less of the stock of a corporation engaging 
solely in activities which are not ``as principal'.
    In the final version, at Sec. 362.4(b)(3), the FDIC has broadened 
the proposed language, so that the overall effect of the section is to 
authorize insured state banks to have lower-level subsidiaries engaged 
in many of the same types of activities which the FDIC previously found 
do not pose a significant risk when conducted at the bank level or 
through a majority-owned subsidiary. The FDIC has received questions 
concerning the types of activities and the restrictions on these 
activities if conducted by lower-level subsidiaries. This addition to 
the final regulation is intended to clarify that generally, the same 
limitations are imposed on the lower-level subsidiary as are imposed on 
the majority-owned subsidiary conducting the same type of activity. As 
discussed below, the FDIC has retained the control requirement (subject 
to one modification), because the overall design of the section is to 
authorize lower-level subsidiaries to engage in approved activities. Of 
course, banks also may apply to the FDIC for permission to make 
additional investments in excess of or which differ from those where 
general consent is granted under the rule.
    As is also discussed below, the activities covered by the final 
version of Sec. 362.4(b)(3) still differs from current 
Sec. 362.4(c)(3)(iv)(C) and current Sec. 362.4(c)(3)(iv)(D), but 
changes made from the proposed language narrow the gap.
    First, the FDIC has found that it is not a significant risk to the 
deposit insurance funds if a majority-owned subsidiary holds a 
controlling interest in a company engaged in real estate or securities 
activities authorized under the real estate investment activities and 
securities activities sections of this regulation at Sec. 362.4(b)(5), 
discussed below. The bank must file notice with the FDIC, and may 
proceed if the FDIC does not object. The bank must meet the same core 
eligibility criteria in Sec. 362.4(c)(1) that would apply if the bank 
were conducting the activity directly through a majority-owned 
subsidiary. The bank's investments in and transactions with the lower 
tier company are subject to the same limits under Sec. 362.4(d) as 
would apply if the bank were conducting the activity directly through a 
majority-owned subsidiary. The majority-owned subsidiary must also 
comply with the investment and transaction limits, to ensure that the 
majority-owned subsidiary is not used as a conduit to the lower tier 
company in derogation of the Sec. 362.4(d) limits on the lower tier 
company. The bank must also deduct its equity investment in the 
majority-owned subsidiary and the lower tier company from its capital 
in accordance with Sec. 362.4(e), as would be the case if the bank were 
conducting the activity directly through a majority-owned subsidiary. 
If the lower tier company is engaged in securities activities of the 
type contemplated by Sec. 362.4(b)(5)(ii), the bank and the lower tier 
company must observe the additional requirements set out in that 
section. Finally, either the majority-owned subsidiary must observe the 
core eligibility criteria in Sec. 362.4(c)(2), or the lower tier 
company must observe them. However, absent an application to the FDIC, 
the latter option is available only if the lower tier company takes 
corporate form. The FDIC's rationale for each of these limits on the 
activities authorized by Sec. 362.4(b)(5) is discussed in detail below.
    Second, the FDIC also has found that it is not a significant risk 
to the deposit insurance funds if a majority-owned subsidiary holds a 
controlling interest in a company which engages in: (1) Any activity 
permissible for a national bank including such permissible activities 
that may require the company to register as a securities broker; (2) 
acting as an insurance agency; (3) acquiring or retaining adjustable 
rate and money market preferred stock or other instruments of a similar 
character to the same extent allowed for the bank itself under 
Sec. 362.3(b)(2)(iii) and combined with the 15 percent limit therein; 
or (4) engaging in real estate leasing activities to the same extent 
permissible for the majority-owned subsidiary under Sec. 362.4(b)(6), 
discussed below.
    One comment, on the use of the control test for defining activities 
for lower level subsidiaries, indicated concern over the change from 
the current regulation. Specifically, concern was expressed relating to 
a group of insured depository institutions that collectively own 
through majority-owned subsidiaries a company engaged in securities 
brokerage and insurance underwriting. None of the banks involved own a 
control interest. The structure of the ownership was set up in reliance 
upon the exception in current Sec. 362.4(c)(3)(iv)(D). The FDIC 
recognizes that many community banks rely on formation of a consortium 
of banks to provide permissible financial services for its customers 
that one bank could not efficiently provide. We believe it would be 
imprudent to penalize institutions that have invested in these 
activities through a majority-owned subsidiary. Therefore, the proposed 
regulatory language has been changed, creating an exception to the 
control requirement where the company in question is controlled by 
insured depository institutions.
    The scope of the activities authorized under final Sec. 362.4(b)(3) 
differ from current Sec. 362.4(c)(3)(iv)(C) and current 
Sec. 362.4(c)(3)(iv)(D). The FDIC eliminated proposed 
Sec. 362.3(b)(2)(iv), which would have authorized 4(c)(8) activities at 
the bank level. In a parallel fashion, we eliminated current 
Sec. 362.4(c)(3)(iv)(C), which effectively authorizes the majority-
owned subsidiary to own stock of a corporation engaged in 4(c)(8) 
activities. As is discussed above in connection with that change, the 
activities included on the 4(c)(8) list are generally of a type 
permissible for national banks, and the authorization in 
Sec. 362.4(b)(3)(ii)(A) of the final rule authorizes the lower-level 
subsidiary to engage in activities permissible for national banks. As 
is also discussed above, the 4(c)(8) list's inclusion of real estate 
leasing is the one significant exception that was not otherwise dealt 
with in this regulation. To address the elimination of real estate 
leasing under the 4(c)(8) list, the FDIC has created Sec. 362.4(b)(6) 
to govern real estate leasing by a majority-owned subsidiary. Such 
activity also is authorized for a lower-level subsidiary under 
Sec. 362.4(b)(3)(ii)(D) of the final rule.
    With regard to current Sec. 362.4(c)(3)(iv)(D), authorizing a 
majority-owned subsidiary to invest in 50 percent or less of the stock 
of a corporation engaging solely in activities which are not ``as 
principal'', the final version of Sec. 362.4(b)(3) has the effect of 
authorizing non-principal activities which are financially-related. 
Section 362.4(b)(3)(ii)(B) of the final rule authorizes insurance 
agency activities by the lower-level subsidiary; and 
362.4(b)(3)(ii)(A), authorizing the lower-level subsidiary to engage in 
activities permissible for national banks, encompasses certain non-
principal activities, such as securities brokerage and investment 
advisory services.
    We have previously required applications to hold savings 
association stock, although a savings association
[[Page 66295]]
could be owned, controlled or operated if the savings association 
engages only in deposit-taking and other activities that are 
permissible for a bank holding company.4
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    \4\ 12 U.S.C. 1843(c) and 12 CFR 225.28(b)(4)(ii).
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    If a bank was relying on a previous regulatory exception that has 
now been eliminated, Sec. 362.5(b)(3) of the final rule provides the 
activity may continue as previously conducted for 90 days after the 
effective date of this regulation. If the activity of the lower-level 
subsidiary is not authorized by the new rule, or the control standard 
is not met in that time frame, the insured state bank must apply to the 
FDIC for permission to continue the activity.
    Equity securities held by a majority-owned subsidiary. The FDIC 
sought comment on whether the final regulation should contain an 
exception that would allow an insured state bank to hold equity 
securities at the subsidiary level. In light of comments received on 
this issue, Staff is further analyzing the proposal. Thus, the final 
rule does not contain the provision that would have permitted a 
majority-owned subsidiary of a state bank and savings association to 
engage in equity securities investment activities. At this time, we are 
proceeding with the remainder of the final regulation so as to avoid 
further delay in the streamlining benefits that state banks and savings 
associations will enjoy from the revisions. As a part of this 
regulation, we are inserting provisions from the current regulation 
that allow: (1) An insured state bank through a majority-owned 
subsidiary to invest in up to ten percent of the stock of another 
insured bank; and (2) an insured state bank that has received approval 
to invest in equity securities pursuant to the statutory grandfather to 
conduct these activities through a majority-owned subsidiary without 
any additional approval from the FDIC. The provisions have been 
continued to allow previously approved activities to continue while 
staff is analyzing equity securities investment activities further.
    The FDIC proposed to eliminate the notice for these activities, the 
specific reference to grandfathered activity, and to allow similar 
activity for all insured state banks. However, the exception provided 
that the bank's investment in the majority-owned subsidiary be deducted 
from capital and that the activity be subject to certain eligibility 
requirements and transaction limitations. Comment was frequent and 
strong that this proposal was unacceptable to the banks that held 
stocks under the current regulation.
    Numerous commenters argued that the statutory grandfather for banks 
holding common and preferred stock investments and registered shares 
extends to the bank and its subsidiaries. Section 24(f) is the 
governing statute in this matter. The exception contained in this 
provision extends only to the insured state bank. The statute makes no 
mention of the bank's subsidiary. Section 24(c) of the FDI Act does 
allow the bank to hold common or preferred stock or shares of 
registered investment companies through a majority-owned subsidiary. 
Activities conducted in a majority-owned subsidiary are subject to the 
bank's compliance with applicable capital standards and the FDIC's 
finding under section 24(d) that the activity poses no significant risk 
to the funds.
    Most of the comments received came from interested parties in the 
Commonwealth of Massachusetts and referred to a type of subsidiary 
authorized in Massachusetts to hold all types of securities, whether 
permissible or impermissible for a national bank. These subsidiaries 
were established to take advantage of specialized tax treatment under 
Massachusetts law. The FDIC understands the tax-favored treatment of 
these subsidiaries; however, that tax treatment is a matter of state 
tax law and is not a factor in the FDIC's risk to the fund 
determination under this statute. However, the FDIC is not 
unsympathetic to the plight of insured state banks that have acted 
lawfully in structuring their business to achieve tax-favored 
treatment. The FDIC is unwilling to upset such good faith arrangements 
without considering other alternatives.
    Reflecting a sentiment that is contained in many comment letters, 
one commenter stated, ``as a practical matter, we are unaware of any 
circumstance where banks have been harmed by conducting these 
activities through a subsidiary, and thus we believe that conducting 
the grandfathered activities in that manner poses no risk to the 
deposit insurance funds''. The FDIC recognizes that for the past 15 
years there has been an unprecedented rise in the value of common and 
preferred stock and registered shares, and these markets have 
experienced no sustained, appreciable downturn in value in over 10 
years. The FDIC does not base its risk to the fund determination on the 
recent history of markets for listed common and preferred stock and 
registered shares. The FDIC's policy regarding holding individual 
stocks is to not take exception to holding corporate equities which are 
well regarded by knowledgeable investors, marketable and held in 
moderate proportions. In reviewing equities held on an aggregate basis, 
the bank's portfolio of common and preferred stock and registered 
shares is reviewed in context of its overall investment portfolio. The 
holding of common and preferred stock and registered shares must be in 
the context of the bank's overall goals of investment quality, maturity 
pattern, diversification of risks, marketability of the portfolio, and 
income production. The bank's overall investment strategies are then 
judged in relationship to the: (1) General character of the 
institution's business; (2) analysis of funding sources; (3) available 
capital funds; and (4) economic and monetary factors.
    The FDIC proposed that the bank's investment in a subsidiary 
investing in equity securities be deducted from the bank's capital 
before determining the adequacy of the bank's capital. This treatment 
would separate the capital that is available to support the bank from 
the capital that is available to support the activities of the 
subsidiary. In that scenario, because the risks of holding equity 
securities is borne by the capital of the subsidiary, the portfolio of 
equity securities and registered shares does not have to be analyzed in 
context of the bank's overall investment strategies. If the capital 
separations are not present, then the risks of holding equity 
securities through a fully consolidated subsidiary must be considered 
in context of the bank's overall investment strategies. In addition, if 
a bank chooses to hold investments that are permissible for a national 
bank in a subsidiary that also may hold investments that are not 
permissible for a national bank, the FDIC will treat the entire 
subsidiary as engaged in an activity that is not permissible for a 
national bank.
    Many comments say that the FDIC's proposal for deducting a bank's 
investment in its securities subsidiary from the bank's capital before 
determining capital adequacy is inconsistent with the capital treatment 
for recognition of 45% of net unrealized gains in the equities 
portfolio under the FDIC's capital regulations (12 CFR part 
325).5 The argument that has been made by these comments is 
persuasive to the FDIC. The two approaches to treatment of gains on 
securities do seem inconsistent, and the capital regulation is 
consistent with the other federal financial institution regulators' 
approach to capital treatment of common and preferred stock and shares 
of registered investment companies.
---------------------------------------------------------------------------
    \5\ 63 FR 46518 (Sept. 1, 1998).
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[[Page 66296]]
    State law in Massachusetts permits a state bank to establish a 
subsidiary to hold the equity security and investment company share of 
investments that the bank is permitted to make under state law. Those 
investments if made directly by the bank are eligible for the 
``grandfather'' provided for by section 24(f) of the FDI Act and 
Sec. 362.3(a)(2)(iii). According to the comments, such subsidiaries 
should be given the same treatment accorded to the bank, i.e., if the 
bank is permitted by the FDIC to exercise its direct investment 
authority, the bank should be permitted to invest in those securities 
and investment company shares through a subsidiary under the same terms 
as exist under the current rule without a capital deduction.
    After considering the comments, the FDIC has decided to retain the 
current provision allowing grandfathered banks to hold their 
investments in common or preferred stock and shares of investment 
companies through a majority-owned subsidiary until the staff analysis 
of equity securities investments is completed. Section 362.4(b)(4)(i) 
of the final regulation provides that any insured state bank that has 
received approval to invest in common or preferred stock or shares of 
an investment company pursuant to Sec. 362.3(a)(2)(iii) may conduct the 
approved investment activities through a majority-owned subsidiary 
provided that any conditions or restrictions imposed with regard to the 
approval granted under Sec. 362.3(a)(2)(iii) are met. Section 
362.3(a)(2)(iii) provides that no insured state bank may take advantage 
of the ``grandfather'' provided for investments in common or preferred 
stock listed on a national securities exchange and shares of an 
investment company registered under the Investment Company Act of 1940 
(15 U.S.C. 80a-1, et seq.) unless the bank files a notice with the FDIC 
of the bank's intent to make such investments and the FDIC determines 
that such investments will not pose a significant risk to the deposit 
insurance funds. In no event may the bank's investments in such 
securities and/or investment company shares exceed 100% of the bank's 
tier one capital. The FDIC may condition its finding of no risk upon 
whatever conditions or restrictions it finds appropriate. The 
``grandfather'' will be lost if certain events occur (see 
Sec. 362.3(a)(2)(iii)).
    The maximum permissible investment by the consolidated bank and 
majority-owned subsidiary engaged in this activity is 100 percent of 
the bank's consolidated tier one capital. If the bank also holds listed 
common or preferred stock or shares of registered investment companies 
at the bank level pursuant to the grandfather, such securities will 
count toward the limit. For a particular bank, the FDIC may impose a 
limit on a case-by-case basis at its discretion of less than the 
maximum permissible investment of 100 percent of tier 1 capital. The 
FDIC may require divestiture of some or all of the investments if it is 
determined that retention of the investments will have an adverse 
effect on the safety and soundness of the consolidated bank. The 
limitation of up to 100 percent of tier one capital, the requirement 
for bank policies, and the reservation of the authority to require 
divestiture are taken directly from the current regulation of these 
activities when conducted at the bank level.
    Bank stock. Section Sec. 362.4(b)(4)(ii) of the final regulation 
restores the exception which allows an insured state bank to invest in 
up to ten percent of the outstanding stock of another insured bank 
without the FDIC's prior consent provided that the investment is made 
through a majority-owned subsidiary which was organized for the purpose 
of holding such shares. This exception is restored to the regulation to 
provide relief for those state banks which are permitted under state 
law to invest in the stock of other banks and have done so in reliance 
on the current regulation. Insured state banks should note, however, 
that the holding of such shares must of course be permissible under 
other relevant state and federal law.
    The FDIC has become aware that some insured state banks own a 
sufficient interest in the stock of other insured state banks to cause 
the bank which is so owned to be considered a majority-owned subsidiary 
under part 362. It is the FDIC's posture that such an owner bank does 
not need to file a request under part 362 seeking approval for its 
majority-owned subsidiary that is an insured state bank to conduct as 
principal activities that are not permissible for a national bank. As 
the majority-owned subsidiary is itself an insured state bank, that 
bank is required under part 362 and section 24 of the FDI Act to 
request consent on its own behalf for permission to engage in any as 
principal activity that is not permissible for a national bank.
    Again, we are reinstating the provision in the current rule that 
permits a majority-owned subsidiary of a state bank to invest in up to 
ten percent of the outstanding stock of another insured bank. No other 
restrictions on this investment are imposed until the staff analysis of 
equity securities investment activities is complete.
    Majority-owned subsidiaries conducting real estate investment 
activities and securities underwriting. The FDIC has determined that 
real estate investment and securities underwriting activities do not 
represent a significant risk to the deposit insurance funds, provided 
that the activities are conducted by a majority-owned subsidiary in 
compliance with the requirements set forth. These activities require 
the insured state bank to file a notice. Then, as long as the FDIC does 
not object to the notice, the bank may conduct the activity in 
compliance with the requirements. The FDIC is not precluded from taking 
any appropriate action or imposing additional requirements with respect 
to the activities when the facts and circumstances warrant such action.
    Engage in real estate investment activities. Section 24 of the FDI 
Act and the current version of part 362 generally prohibit an insured 
state bank from engaging in real estate investment activities not 
permissible for a national bank, absent FDIC approval. Section 24 does 
not grant FDIC authority to permit an insured state bank to directly 
engage in real estate investment activities not permissible for a 
national bank. The circumstances under which national banks may hold 
equity investments in real estate are limited. If a particular real 
estate investment is permissible for a national bank, an insured state 
bank only needs to document that determination. If a particular real 
estate investment is not permissible for a national bank and an insured 
state bank wants to engage in real estate investment activities (or 
continue to hold the real estate investment in the case of investments 
acquired before enactment of section 24 of the FDI Act), the insured 
state bank must file an application with FDIC for consent. The FDIC may 
approve such applications if the investment is made through a majority-
owned subsidiary, the institution meets the stated capital requirements 
and the FDIC determines that the activity does not pose a significant 
risk to the affected deposit insurance fund.
    The FDIC evaluates a number of factors when acting on requests for 
consent to engage in real estate investment activities. In evaluating a 
request to conduct equity real estate investment activity, the FDIC 
considers the type of proposed real estate investment activity to 
determine if the activity is suitable for the insured depository 
institution. Where appropriate, the FDIC fashions
[[Page 66297]]
conditions designed to address potential risks that have been 
identified in the context of a given request. The FDIC also reviews the 
proposed subsidiary structure and its management policies and practices 
to determine if the insured state bank is adequately protected and 
analyzes capital adequacy to ensure that the insured institution has 
sufficient capital to support its banking activities.
    In all of the applications that have been approved to conduct a 
real estate investment activity to date, the FDIC has imposed a number 
of conditions in granting the approval. In short, the FDIC has 
determined on a case-by-case basis that the conduct of certain real 
estate investment activities by a majority-owned corporate subsidiary 
of an insured state bank will not present a significant risk to the 
deposit insurance fund provided certain conditions are observed. In 
drafting these notice provisions, the FDIC has evaluated the conditions 
usually imposed when granting approval to insured state banks to 
conduct real estate activities and incorporated these conditions within 
the revised regulation where appropriate.
    The revised rule allows majority-owned subsidiaries to invest in 
and/or retain equity interests in real estate not permissible for a 
national bank under an expedited notice process, provided certain 
criteria are met. Institutions not meeting the criteria must make 
application to the FDIC and obtain the FDIC's approval on a case-
specific basis. To use the notice process, the insured state bank must 
qualify as an ``eligible depository institution'', as that term is 
defined within the revised regulation, and the majority-owned 
subsidiary must qualify as an ``eligible subsidiary'', which is also 
defined within the revised rule. These criteria are discussed below. 
The insured state bank must also abide by the investment and 
transaction limitations set forth in the revised regulation.
    Under the revisions, the insured state bank may not invest more 
than 20 percent of the bank's tier one capital in all of its majority-
owned subsidiaries which are conducting activities subject to the 
investment limits. This language reflects two changes from the 
proposal. First, the 10 percent per subsidiary limit has been 
eliminated. Second, the revisions provide that the 20 percent aggregate 
investment limit applies to all subsidiaries engaged in activities that 
are being separated from the insured depository institution. Under the 
regulation, the activities subject to the investment limit are real 
estate investment activities and securities underwriting. These 
investment limits may cover any other activities that the FDIC deems 
appropriate by regulation or any FDIC order. For the purpose of 
calculating the dollar amount of the investment limitations, the bank 
would calculate 20 percent of its tier one capital after deducting all 
amounts required by the regulation or any FDIC order.
    Comments received were generally supportive of the overall 
investment limit but were critical of a provision in the proposed 
regulation that the bank could invest no more than 10 percent of its 
tier one capital in any one subsidiary engaged in real estate 
activities. The comments questioned the rationale for requiring more 
than one subsidiary if a bank is investing up to its aggregate limit in 
real estate investment activities. The FDIC in its proposal attempted 
to have the restrictions on transactions between an insured state bank 
and its subsidiaries reflect as closely as possible the same 
restrictions that are imposed on a bank/affiliate relationship. The 10 
percent limitation per subsidiary in the proposal reflected the desire 
of the FDIC that a bank engaging in real estate investment activities 
diversify its risks. Upon reflection, the FDIC believes an arbitrary 
limit on the amount that can be invested in any one subsidiary does not 
necessarily accomplish the desired diversification. In reviewing 
notices of intent to engage in this activity, the FDIC will look at the 
bank's diversification of risks when making a determination of whether 
to consent to the planned activity. Therefore, the final rule drops the 
proposed 10 percent limit on investment in each subsidiary. The 20 
percent limitation on the investment in real estate investment 
activities provides an important safeguard against excessive investment 
in these activities, and is retained in the final regulation. However, 
that limit now includes all subsidiaries engaged in activities that are 
being separated from the insured depository institution. This change 
occurred when the FDIC reassessed the limit and decided to make it more 
closely parallel the 23A standard governing affiliates. Thus, the 20 
percent limit will apply to all activities that are separated from the 
insured depository institution. Under the final regulation, the 
activities subject to the investment limit are real estate investment 
activities and securities underwriting. Of course this limit may be 
modified by application.
    The FDIC recognizes that some real estate investments or activities 
are more time, management and capital intensive than others. Our 
experience in reviewing the requests submitted under section 24 has led 
us to conclude that small equity investments in real estate--held under 
certain conditions--do not pose a significant risk to the deposit 
insurance fund. As a result, the final rule provides relief to insured 
state banks having small investments in a majority-owned subsidiary 
engaging in real estate investment activities. The FDIC is attempting 
to strike a reasonable balance between prudential safeguards and 
regulatory burden in its revisions. As a result, the final rule 
establishes certain exceptions from the requirements necessary to 
establish an eligible subsidiary whenever the insured state bank's 
investment is of a de minimis nature and meets certain other criteria. 
Under the final rule, whenever the bank's investment in its majority-
owned subsidiary conducting real estate activities does not exceed 2 
percent of the bank's tier one capital and the bank's investment in the 
subsidiary does not include extensions of credit from the bank to the 
subsidiary, a debt instrument purchased from the subsidiary or any 
other transaction originated from the bank to the benefit of the 
subsidiary, the subsidiary is relieved of certain of the requirements 
that must be met to establish an eligible subsidiary under the 
regulation. For example, the subsidiary need not be physically separate 
from the insured state bank; the chief executive officer of the 
subsidiary is not required to be an employee separate from the bank; a 
majority of the board of directors of the subsidiary need not be 
separate from the directors or officers of the bank; and the subsidiary 
need not establish separate policies and procedures as described in the 
regulation in Sec. 362.4(c)(2)(xi). Commenters did not object to the 
elimination of these eligible subsidiary standards in these 
circumstances. Several commenters expressed concern that the de minimis 
investment level is too low. The comments suggested that 2 percent of 
tier one capital is an arbitrary limit and should be raised to 5 
percent. Another commenter supported the limit stating that it is an 
appropriate safe harbor limit. The FDIC recognizes that arguments can 
be made for varying limits in this regard. We have chosen a 
conservative limit. With further experience that provides evidence that 
this limit can be safely increased, we can reconsider the appropriate 
level to be considered de minimis activity in the future.
    One commenter suggested that both investment limits should be 
measured against tier one and tier two capital rather than using only 
tier one capital. The FDIC believes that certain elements
[[Page 66298]]
of tier two capital such as the allowance for loan and lease losses do 
not provide protection against activities such as real estate 
investment. Therefore, the FDIC has decided to retain tier one capital 
as the appropriate capital against which to measure risk in these 
activities.
    Another commenter suggested that extensions of credit should be 
permitted subject to an aggregate limit. This same comment added that 
the restriction to a single subsidiary could be eliminated. In creating 
the de minimis exception, the FDIC wanted this exception to be used 
primarily for the passive holding of real estate. Multiple subsidiaries 
and bank lending to fund the investments is indicative of a more active 
investment.
    If the institution or its investment does not meet the criteria 
established under the revised regulation for using the notice 
procedure, an application may be filed with the FDIC. A description of 
the requisite contents of notices and applications, and the FDIC's 
processing thereof, is contained in subpart G of part 303. The FDIC 
encourages institutions to file an application if the institution 
wishes to request relief from any of the requirements necessary to be 
considered an eligible depository institution or an eligible 
subsidiary. The FDIC recognizes that not all real estate investment 
should require a subsidiary to be established exactly as outlined under 
the eligible subsidiary definition. However, the FDIC is unwilling to 
eliminate those criteria under the expedited notice process.
    Engage in the public sale, distribution or underwriting of 
securities that are not permissible for a national bank under section 
16 of the Banking Act of 1933. The current regulation provides that an 
insured state nonmember bank may establish a majority-owned subsidiary 
that engages in the underwriting and distribution of securities without 
filing an application with the FDIC if the requirements and 
restrictions of Sec. 337.4 of the FDIC's regulations are met. Section 
337.4 governs the manner in which subsidiaries of insured state 
nonmember banks must operate if the subsidiaries engage in securities 
activities that would not be permissible for the bank itself under 
section 16 of the Banking Act of 1933, commonly known as the Glass-
Steagall Act. In short, the regulation lists securities underwriting 
and distribution as an activity that will not pose a significant risk 
to the deposit insurance funds if conducted through a majority-owned 
subsidiary that operates in accordance with Sec. 337.4. The proposed 
revisions made significant changes to that exception. Most of the 
proposal has been adopted without significant change in the final rule.
    Due to the existing cross reference to Sec. 337.4, the FDIC 
reviewed Sec. 337.4 as a part of its review of part 362 for CDRI. The 
purpose of the review was to streamline and clarify the regulation, 
update the regulation as necessary given any changes in the law, 
regulatory practice, and the marketplace since its adoption, and remove 
any redundant or unnecessary provisions. As a result of that review, 
the FDIC is making a number of substantive changes to the rules which 
govern securities sales, distribution, or underwriting by subsidiaries 
of insured state nonmember banks. Although the FDIC has chosen to place 
the exception in the part of the regulation governing activities by 
insured state banks, by law, only subsidiaries of state nonmember banks 
may engage in securities underwriting activities that are not 
permissible for national banks. As we have previously stated, subpart A 
of this regulation does not grant authority to conduct activities or 
make investments. Subpart A only gives relief from the prohibitions of 
section 24 of the FDI Act. Insured state banks must be in compliance 
with applicable state law when engaging in any activity.
    Since the FDIC issued its proposal to amend part 362, the OCC has 
given its consent to an operating subsidiary of a national bank to 
conduct municipal revenue bond underwriting. This activity currently is 
not permissible for the national bank even though the activity has been 
approved for a subsidiary of a national bank. Concurrent with these 
revisions, the FDIC is issuing a proposal to address activities that 
are permissible for a subsidiary of a national bank that are not 
permissible for the national bank itself. Until that regulation is 
finalized, Sec. 337.4 will remain operative to govern only activities 
that are not covered by the final rule in subpart A of part 362.
    The FDIC is also issuing a technical amendment to Sec. 337.4, at 
Sec. 337.4(i), in connection with this rulemaking to make this clear. 
It provides that any state nonmember bank subsidiary or affiliate 
conducting securities activities governed by Sec. 362.4(b)(5)(ii) or 
Sec. 362.8(b) must comply with such rules, and such compliance 
satisfies their obligations under Sec. 337.4.
    Background of section 337.4. On August 23, 1982, the FDIC adopted a 
policy statement on the applicability of the Glass-Steagall Act to 
securities activities of insured state nonmember banks (47 FR 38984). 
That policy statement expressed the opinion of the FDIC that under the 
Glass-Steagall Act: (1) Insured state nonmember banks may be affiliated 
with companies that engage in securities activities; and (2) securities 
activities of subsidiaries of insured state nonmember banks are not 
subject to section 21 of the Glass-Steagall Act (12 U.S.C. 378) which 
prohibits deposit taking institutions from engaging in the business of 
issuing, underwriting, selling, or distributing stocks, bonds, 
debentures, notes, or other securities.
    The policy statement applies solely to insured state nonmember 
banks. As noted in the policy statement, the Bank Holding Company Act 
of 1956 (12 U.S.C. 1841 et seq.) places certain restrictions on non-
banking activities. Insured state nonmember banks that are members of a 
bank holding company system need to take into consideration sections 
4(a) and 4(c)(8) of the Bank Holding Company Act of 1956 (12 U.S.C. 
1843 (a) and (c)) and applicable FRB regulations before entering into 
securities activities through subsidiaries.
    The policy statement also expressed the opinion of the Board of 
Directors of the FDIC that there may be a need to restrict or prohibit 
certain securities activities of subsidiaries of state nonmember banks. 
As the policy statement noted, ``the FDIC * * * recognizes its ongoing 
responsibility to ensure the safe and sound operation of insured state 
nonmember banks, and depending upon the facts, the potential risks 
inherent in a bank subsidiary's involvement in certain securities 
activities''.
    In November 1984, after notice and comment proceedings, the FDIC 
adopted a final rule regulating the securities activities of affiliates 
and subsidiaries of insured state nonmember banks under the FDI Act. 49 
FR 46709 (Nov. 28, 1984), regulations codified at 12 CFR 337.4 
(1986).6 Although the rule
[[Page 66299]]
does not prohibit such securities activities outright, it does restrict 
these activities in a number of ways and only permits the activities if 
authorized under state law.
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    \6\ After the regulations were adopted, the representatives of 
mutual fund companies and investment bankers brought another action 
challenging the regulations allowing insured banks, which are not 
members of the Federal Reserve System, to have subsidiary or 
affiliate relationships with firms engaged in securities work. The 
United States District Court for the District of Columbia, Gerhard 
A. Gesell, J., 606 F. Supp. 683, upheld the regulations, and 
representatives appealed and also petitioned for review. The Court 
of Appeals held that: (1) representatives had standing to challenge 
regulations under both the Glass-Steagall Act and the FDI Act, but 
(2) regulations did not violate either Act. Investment Company 
Institute v. Federal Deposit Insurance Corporation, 815 F.2d 1540 
(D.C. Cir. 1987).
    A trade association representing Federal Deposit Insurance 
Corporation-insured savings banks also brought suit challenging FDIC 
regulations respecting proper relationship between FDIC-insured 
banks and their securities-dealing ``subsidiaries'' or 
``affiliates.'' On cross motions for summary judgment, the District 
Court, Jackson, J., held that: (1) trade association had standing, 
and (2) regulations were within authority of FDIC. National Council 
of Savings Institutions v. Federal Deposit Insurance Corporation, 
664 F.Supp. 572 (D.C. 1987).
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    Section 337.4 is structured to ensure the separateness of the 
subsidiary and the bank. This separation is necessary as the bank would 
be prohibited by the Glass-Steagall Act from engaging in many 
activities the subsidiary might undertake and the separation safeguards 
the soundness of the parent bank.
    Section 337.4 adopted a tiered approach to the activities of the 
subsidiary and limits the underwriting of securities that would 
otherwise be prohibited to the bank itself under the Glass-Steagall Act 
unless the subsidiary and bank meet the separation standards in the 
regulation and the activities are limited to underwriting of investment 
quality securities. Section 337.4 permitted a subsidiary to engage in 
additional underwriting if it meets the separation standards and the 
subsidiary is a member in good standing with the National Association 
of Securities Dealers and management has at least five years experience 
in the industry.
    The subsidiaries engaged in activities not permissible for the bank 
itself also are required to be adequately capitalized, and therefore, 
these subsidiaries are required to meet the capital standards of the 
NASD and SEC. As a protection to the deposit insurance fund, a bank's 
investment in these subsidiaries is not counted toward the bank's 
capital.
    An insured state nonmember bank that has a subsidiary or affiliate 
engaging in the sale, distribution, or underwriting of stocks, bonds, 
debentures or notes, or other securities, or acting as an investment 
advisor to any investment company is prohibited under Sec. 337.4 
through a series of restrictions from engaging in transactions which 
could create a conflict of interest or the appearance of a conflict of 
interest.
    Under Sec. 337.4, the FDIC created an atmosphere in which bank 
affiliation with entities engaged in securities activities is very 
controlled. The FDIC has examination authority over bank subsidiaries. 
Under section 10(b) of the FDI Act (12 U.S.C. 1820(b)), the FDIC has 
the authority to examine affiliates to determine the effect of that 
relationship on the insured institution. Nevertheless, the FDIC 
generally has allowed these entities to be functionally regulated, that 
is the FDIC usually examines the insured state nonmember bank and 
primarily relies on the SEC and the NASD oversight of the securities 
subsidiary or affiliate. The FDIC views its established separations for 
banks and securities firms as creating an environment in which the 
FDIC's responsibility to protect the deposit insurance funds has been 
met without creating too much overlapping regulation for the securities 
firms. The FDIC maintains an open dialogue with the NASD and the SEC 
concerning matters of mutual interest. To that end, the FDIC has 
entered into an agreement in principle with the NASD concerning 
examination of securities companies affiliated with insured 
institutions.
    The number of banks which have subsidiaries engaging in securities 
activities that can not be conducted in the bank itself is very small. 
These subsidiaries engage in the underwriting of debt and equity 
securities and distribution and management of mutual funds.
    The FRB permits a nonbank subsidiary of a bank holding company to 
underwrite and deal in securities through its orders under the Bank 
Holding Company Act and section 20 of the Glass-Steagall 
Act.7 The FDIC has reviewed its securities underwriting 
activity regulations in light of the FRB's recently-adopted operating 
standards that modify the FRB's section 20 orders.8 The FDIC 
also reviewed the comments received by the FRB. The FRB conducted a 
comprehensive review of the prudential limitations established in its 
section 20 decisions. The FRB sought comment on modifying these 
limitations to allow section 20 subsidiaries to operate more 
efficiently and serve their customers more effectively.9 The 
FDIC found the analysis of the FRB instructive and has determined that 
its regulation already incorporates many of the same modifications that 
the FRB has made.
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    \7\ The affiliate restrictions under Sec. 337.4 were created 
prior to the time the FRB had approved securities activities under 
section 20 of the Glass-Steagall Act as an activity that is closely 
related to banking. Given the regulatory structure now in place for 
affiliates of banks engaged in securities activities, the FDIC's 
affiliate restrictions are no longer necessary except for those 
holding companies that are not subject to the restrictions of the 
Bank Holding Company Act. The restrictions on affiliation have been 
moved to subpart B of this regulation and are focused only on those 
companies that are not registered bank holding companies.
    \8\ 62 FR 45295, August 21, 1997.
    \9\ 61 FR 57679, November 7, 1996, and 62 FR 2622, January 17, 
1997.
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    In the final rule, the FDIC is not adopting all of the standards of 
the FRB. For instance, the FDIC is not requiring a separate statement 
of operating standards. The final regulation applies certain standards 
to insured state banks engaging in securities underwriting activities 
through majority-owned through the ``eligible subsidiary'' 
requirements. Separate operating standards are unnecessary because each 
of these safeguards provides appropriate protections for bank 
subsidiaries engaged in underwriting activities.
    However, the FDIC has retained the proposed requirement that the 
chief executive officer of the subsidiary may not be an employee of the 
bank and a majority of the subsidiary's board of directors must not be 
directors or officers of the bank. This standard is the same as the 
operating standard on interlocks adopted by the FRB to govern its 
section 20 orders.
    One of the reasons for these safeguards involves the FDIC's 
continuing concerns that the bank should be protected from liability 
for the securities underwriting activities of the subsidiary. Under the 
securities laws, a parent company may have liability as a ``controlling 
person''.10 The FDIC views management and board of director 
separation as enhanced protection from controlling person liability as 
well as protection from disclosures of material nonpublic information. 
Protection from disclosures of material nonpublic information also
[[Page 66300]]
may be enhanced by the use of appropriate policies and 
procedures.11
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    \10\ Liability of ``controlling persons'' for securities law 
violations by the persons or entities they ``control'' is found in 
section 15 of the Securities Act of 1933, 15 U.S.C. 77o, and section 
20 of the Securities and Exchange Act of 1934, 15 U.S.C. 78t(a). 
Although the tests of liability under these statutes vary slightly, 
the FDIC is concerned that under the most stringent of these 
authorities liability may be imposed on a parent entity. Under the 
Tenth Circuit's permissive test for controlling person liability, 
any appearance of an ability to exercise influence, whether directly 
or indirectly, and even if such influence cannot amount to control, 
is sufficient to cause a person to be a controlling person within 
the meaning of sections 15 or 20. Although liability may be avoided 
by proving no knowledge or good faith, proving no knowledge requires 
no knowledge of the general operations or actions of the primary 
violator and good faith requires both good faith and 
nonparticipation. See First Interstate Bank of Denver, N.A. versus 
Pring, 969 F.2d 891 (10th Cir. 1992), rev'd on other grounds, 511 
U.S. 164 (1994); Arena Land & Inv. Co. Inc. versus Petty, 906 
F.Supp. 1470 (D. Utah 1994); San Francisco-Oklahoma Petroleum 
Exploration Corp. versus Carstan Oil Co., Inc., 765 F.2d 962 (10th 
Cir. 1985); Seattle-First National Bank versus Carlstedt, 678 
F.Supp. 1543 (W.D. Okla. 1987). However, to the extent that any 
securities underwriting liability may have been reduced due to the 
enactment of The Private Securities Litigation Reform Act of 1995, 
Pub. L. 104-67, then the FDIC's concerns regarding controlling 
person liability may be reduced. It is likely that the FDIC will 
want to await the development of the standards under this new law 
before taking actions that could risk liability on a parent bank 
that has an underwriting subsidiary.
    \11\ See ``Anti-manipulation Rules Concerning Securities 
Offerings'', Regulation M, 17 CFR part 242 (1997) where the SEC 
grapples with limiting trading advantages that might otherwise 
accrue to affiliates by limiting trading in prohibited securities by 
affiliates. The SEC is attempting to prevent trading on material 
nonpublic information. To reduce the danger of such trading, the SEC 
has a broad ban on affiliated purchasers. To narrow that exception 
while continuing to limit access to the nonpublic information that 
might otherwise occur, the SEC has limited access to material 
nonpublic information through restraints on common officers. 
Alternatively, the SEC could prohibit trading by affiliates that 
shared any common officers or employees. In narrowing this exception 
to ``those officers or employees that direct, effect or recommend 
transactions in securities'', the SEC stated that it ``believes that 
this modification will resolve substantially commenters'' concerns 
that sharing one or more senior executives with a distribution 
participant, issuer, or selling security holder would preclude an 
affiliate from availing itself of the exclusion''. 62 FR 520 at 523, 
fn. 22 (January 3, 1997). As the SEC also stated, the requirement 
would not preclude the affiliates from sharing common executives 
charged with risk management, compliance or general oversight 
responsibilities.
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    Substantive changes to the subsidiary underwriting activities. 
Generally, the regulations governing the securities underwriting 
activity of state nonmember banks have been streamlined to make 
compliance easier. In addition, state nonmember banks that deem any 
particular constraint to be burdensome may file an application with the 
FDIC to have the constraint removed for that bank and its majority-
owned subsidiary. The FDIC has eliminated those constraints that were 
deemed to overlap other requirements or that could be eliminated while 
maintaining safety and soundness standards. For example, the FDIC has 
eliminated the notice requirement for all state nonmember bank 
subsidiaries that engage in securities activities that are permissible 
for a national bank. Under the final regulation, a notice is required 
only of state nonmember banks with subsidiaries engaging in securities 
activities that would be impermissible for a national bank. The FDIC 
has determined that it can adequately monitor the other securities 
activities through its regular reporting and examination processes.
    As indicated in the following discussion on core eligibility 
requirements, the final rule permits a state nonmember bank meeting 
certain criteria to conduct, as principal, securities activities 
through a subsidiary that are not permissible for a national bank after 
filing an expedited notice with the FDIC, rather than a full 
application. The insured state bank must be an ``eligible depository 
institution'' and the subsidiary must be an ``eligible subsidiary''. 
Briefly, an ``eligible depository institution'' must be chartered and 
operating for at least three years, have satisfactory composite and 
management ratings under the Uniform Financial Institution Rating 
System (UFIRS) as well as satisfactory compliance and CRA ratings, and 
not be subject to any formal or informal corrective or supervisory 
order or agreement. These requirements are uniform with other part 362 
notice procedures for insured state banks to engage in activities not 
permissible for national banks. These requirements are not presently 
found in Sec. 337.4 but the FDIC believes that only banks that are 
well-run and well-managed should be given the opportunity to engage in 
securities activities that are not permissible for a national bank 
under the streamlined notice procedures. These criteria are imposed as 
expedited processing criteria rather than substantive criteria. Other 
banks that want to enter these activities should be subject to the 
scrutiny of the application process. Although operations not 
permissible for a national bank are conducted and managed by a separate 
majority-owned subsidiary, such activities are part of the analysis of 
the consolidated financial institution. The condition of the 
institution and the ability of its management are an important 
component in determining if the risks of the securities activities will 
have a negative impact on the insured institution. The ``eligible 
subsidiary'' definition, discussed below, recognizes the level of risk 
present in securities underwriting activities. Commenters did not 
object to using these standards for institutions that wish to engage in 
these securities activities.
    One of the other notable differences between the current and final 
regulations is the substitution of the ``eligible subsidiary'' criteria 
for that of the ``bona fide subsidiary'' definition contained in 
Sec. 337.4(a)(2). The definitions are similar, but changes have been 
made to the existing capital and physical separation requirements. 
Also, new requirements have been added to ensure that the subsidiary's 
business is conducted according to independent policies and procedures. 
With regard to those subsidiaries which engage in the public sale, 
distribution or underwriting of securities that are not permissible for 
a national bank, additional conditions also must be met. The conditions 
are that: (1) The state-chartered depository institution must adopt 
policies and procedures, including appropriate limits on exposure, to 
govern the institution's participation in financing transactions 
underwritten or arranged by an underwriting majority-owned subsidiary; 
(2) the state-chartered depository institution may not express an 
opinion on the value or the advisability of the purchase or sale of 
securities underwritten or dealt in by a majority-owned subsidiary 
unless the state-chartered depository institution notifies the customer 
that the majority-owned subsidiary is underwriting, making a market, 
distributing or dealing in the security; (3) the majority-owned 
corporate subsidiary is registered and is a member in good standing 
with the appropriate self-regulatory organization (SRO), and promptly 
informs the appropriate regional director of the Division of 
Supervision (DOS) in writing of any material actions taken against the 
majority-owned subsidiary or any of its employees by the state, the 
appropriate SROs or the SEC; and (4) the state-chartered depository 
institution does not knowingly purchase as principal or fiduciary 
during the existence of any underwriting or selling syndicate any 
securities underwritten by the majority-owned subsidiary unless the 
purchase is approved by the state-chartered depository institution's 
board of directors before the securities are initially offered for sale 
to the public. These additional requirements are similar to but 
simplify the requirements currently contained in Sec. 337.4. Commenters 
did not offer objection to these simplified standards and they have 
been adopted as proposed.
    In addition, the FDIC has eliminated the five-year period limiting 
the securities activities of a state nonmember bank's underwriting 
subsidiary's business operations. Rather, with notice and compliance 
with the safeguards, a state nonmember bank's securities subsidiary may 
conduct any securities business set forth in its business plan after 
the notice period has expired without an objection by the FDIC. The 
reasons the FDIC initially chose the more conservative posture are 
rooted in the time they were adopted. When the FDIC approved 
establishment of the initial underwriting subsidiaries, it had no 
experience supervising investment banking operations in the United 
States. Because affiliation between banks and securities underwriters 
and dealers was long considered impractical or illegal, banks had not 
operated such entities since enactment of the Glass-Steagall Act in 
1933. Moreover, pre-Glass-Steagall affiliations were considered to have 
caused losses to the banking industry and investors, although some 
modern
[[Page 66301]]
research questions this view.12 Thus, the affiliation of 
banks and investment banks presented unknown risks that were considered 
substantial in 1983. In addition, although the FDIC recognized that 
supervision and regulation of broker-dealers by the SEC provided 
significant protections, the FDIC had little experience with how these 
protections operated. The FDIC has now gained experience with 
supervising the securities activities of banks and is better able to 
assess which safeguards are appropriate to impose on these activities 
to protect the bank and the deposit insurance funds. For those reasons, 
the limitations and restrictions contained in Sec. 337.4 on 
underwriting other than ``investment quality debt securities'' or 
``investment quality equity securities'' have been eliminated from the 
regulation. It should be noted that certain safeguards have been added 
to the system since Sec. 337.4 was adopted. These safeguards include 
risk-based capital standards and the Interagency Statement. The FDIC 
has removed the disclosures currently contained in Sec. 337.4, which 
are similar to the disclosures required by the Interagency Statement. 
In lieu of the prescribed disclosures, the FDIC will rely on the 
Interagency Statement as applicable guidance when the subsidiary's 
products are sold on bank premises, by bank employees or when the bank 
receives remuneration for a referral. This change makes compliance 
easier. Comments support this change and recognize that any retail sale 
of nondeposit investment products to bank customers is subject to the 
Interagency Statement when the subsidiary's products are sold on bank 
premises, by bank employees, or as a result of a compensated referral.
---------------------------------------------------------------------------
    \12\ See, e.g., George J. Benston, The Separation of Commercial 
and Investment Banking: The Glass-Steagall Act Revisited and 
Reconsidered 41 (1990).
---------------------------------------------------------------------------
    The FDIC has changed its disclosure standards relating to 
subsidiaries engaged in insurance underwriting to those found in the 
Interagency Statement for reasons similar to those discussed above. In 
addition, securities firms are subject to a comprehensive Federal 
supervisory and regulatory system designed to inform investors of risks 
inherent in their transactions. However, as was also discussed above in 
connection with insurance subsidiaries, there is a risk of customer 
confusion where the insured state bank and the subsidiary selling the 
product have similar names. Those cases are addressed in this part by a 
separation standard which is discussed below. The separation standard 
requires that the subsidiary conduct its business pursuant to 
independent policies and procedures designed to inform customers and 
prospective customers of the subsidiary that the subsidiary is a 
separate organization from the state-chartered depository institution 
and that the state-chartered depository institution is not responsible 
for and does not guarantee the obligations of the subsidiary. The 
institution and its subsidiary should take any steps necessary to avoid 
customer confusion on behalf of non-bank customers, or bank customers 
in transactions not covered by the Interagency Statement.
    Finally, the FDIC will continue to impose many of the safeguards 
found in section 23A of the Federal Reserve Act and to impose the types 
of safeguards found in section 23B of the Federal Reserve Act. Although 
section 23B did not exist until 1987 and only covers transactions where 
banks and their subsidiaries are on one side and other affiliates are 
on the other side, the FDIC had included some similar constraints in 
the original version of Sec. 337.4. Now, most of the transaction 
restrictions found in section 23B are adopted by the FDIC in the final 
rule to promote consistency with the restrictions imposed by other 
banking agencies on similar activities. These restrictions require that 
bank/subsidiary transactions be on an arm's length basis and that the 
subsidiary disclose that the bank is not responsible for the 
subsidiary's obligations. The bank also is prohibited from purchasing 
certain products from the subsidiary. While imposing the arm's length 
restrictions, the FDIC is eliminating any overlapping safeguards. 
Comments received did not recommend reinstating any of the restrictions 
from the current Sec. 337.4.
    In contrast to the arm's length transaction restrictions, 
transaction limitations did exist and were incorporated into Sec. 337.4 
by reference to section 23A of the Federal Reserve Act. To simplify 
compliance for transactions between state nonmember banks and their 
subsidiaries, the FDIC has placed the transactions limits and arm's 
length requirements in the regulatory text language and only included 
the restrictions that are relevant to a particular activity. The FDIC 
hopes that this restatement will clarify the standards being imposed on 
state nonmember banks and their subsidiaries.
    On June 11, 1998, the FRB requested comment on an interpretation of 
section 23A that would exempt certain transactions between an insured 
depository institution and its affiliates. These interpretations would 
be published in part 250 of the FRB's regulations. 63 FR 32766 (June 
16, 1998). Specifically, the interpretation would expand the exemption 
of section 23A(d)(6), which permits a bank to purchase assets of an 
affiliate when the assets have a ``readily identifiable and publicly 
available market quotation''. The proposal would, with some caveats, 
bring within the exemption securities that have a ``ready market'', as 
defined by the SEC.
    The second interpretation would create two exemptions to the 
provision of section 23A relating to transactions with third parties 
that benefit the bank (and are therefore treated as ``covered 
transactions''.) The context for this exemption is an extension of 
credit by a bank to a third party to purchase securities through the 
bank's registered broker-dealer affiliate. The first exemption would 
apply when the affiliate acts solely as broker or riskless principal in 
a securities transaction. The second exemption would apply when the 
extension of credit is made pursuant to a preexisting line of credit 
that was not established for the purpose of buying securities from or 
through an affiliate.
    In light of the FRB's proposals, we have re-evaluated our proposed 
coverage of similar transactions and have determined that the language 
we have crafted to govern securities underwriting subsidiaries would 
already allow the transactions that the FRB proposes to exempt under 
these interpretations. We believe that these transactions do not raise 
safety and soundness issues if conducted under the arm's length 
standards that we proposed and adopt in our final rule. Thus, we will 
allow a bank to purchase assets (including securities) when those 
transactions are carried out on terms and conditions that are 
substantially similar to those prevailing at the time for comparable 
transactions with unaffiliated parties. In addition, we already allow 
an extension of credit to buy an asset from the subsidiary when those 
transactions are carried out on terms and conditions that are 
substantially similar to those prevailing at the time for comparable 
transactions with unaffiliated parties. We consider that language to be 
broad enough to include purchasing securities, including when the 
subsidiary acts solely as broker or riskless principal in a securities 
transaction. A preexisting line of credit that was not established for 
the purpose of buying securities from or through the subsidiary is also 
allowed, if it otherwise meets the terms of the FDIC's exception.
[[Page 66302]]
    In addition, the FDIC has sought to eliminate transaction 
restrictions that would duplicate the restrictions on information flow 
or transactions imposed by the SROs and/or by the SEC.13 The 
FDIC does not seek to eliminate the obligation to protect material 
nonpublic information nor does it seek to undercut or minimize the 
importance of the restrictions imposed by the SROs and SEC. Rather, the 
FDIC seeks to avoid imposing burdensome overlapping restrictions merely 
because a securities underwriting entity is owned by a bank. Further, 
the FDIC seeks to avoid restrictions where the risk of loss or 
manipulation is small or the costs of compliance are disproportionate 
to the purposes the restrictions serve. In addition, the FDIC defers to 
the expertise of the SEC which has found that greater flexibility for 
market activities during public offerings is appropriate due to greater 
securities market transparency, the surveillance capabilities of the 
SROs, and the continuing application of the anti-fraud and anti-
manipulation provisions of the federal securities laws.14
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    \13\ See ``Anti-manipulation Rules Concerning Securities 
Offerings,'' 62 FR 520 (January 3, 1997); 15 U.S.C. 78o(f), 
requiring registered brokers or dealers to maintain and enforce 
written policies and procedures reasonably designed to prevent the 
misuse of material nonpublic information; and ``Broker-Dealer 
Policies and Procedures Designed to Segment the Flow and Prevent the 
Misuse of Material Nonpublic Information,'' A Report by the Division 
of Market Regulation, U.S. SEC, (March 1990).
    \14\ Id. at 520.
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    Consistent with the current notice procedure found in Sec. 337.4, 
an insured state nonmember bank may indirectly through a majority-owned 
subsidiary engage in the public sale, distribution or underwriting of 
securities that would be impermissible for a national bank provided 
that the bank files notice prior to initiating the activities, the FDIC 
does not object prior to the expiration of the notice period and 
certain conditions are, and continue to be, met. The FDIC has shortened 
the notice period from the existing 60 days to 30 days and placed 
filing procedures in subpart G of part 303. Previously, specific 
instructions and guidelines on the form and content of any applications 
or notices required under Sec. 337.4 were found within that section. 
With regard to those insured state nonmember banks that have been 
engaging in a securities activity covered by the new Sec. 362.4(b)(5) 
under a notice filed and in compliance with Sec. 337.4, Sec. 362.5(b) 
of the regulation allows those activities to continue as long as the 
bank and its majority-owned subsidiaries meet the core eligibility 
requirements, the investment and transaction limitations, and capital 
requirements contained in Sec. 362.4 (c), (d), and (e). The revised 
regulation requires these securities subsidiaries to meet the 
additional conditions specified in Sec. 362.4(b)(5)(ii) that require 
securities subsidiaries to adopt appropriate policies and procedures, 
register with the SEC and take steps to avoid conflicts of interest. 
The revisions also require the state nonmember bank to adopt policies 
concerning the financing of issues underwritten or distributed by the 
subsidiary. The state nonmember bank and its securities subsidiary will 
have one year from the effective date of the regulation to meet these 
restrictions and would be expected to be working toward full compliance 
over that time period. Failure to meet the restrictions within a year 
after the adoption of a final rule will necessitate an application for 
the FDIC's consent to continue those activities.
    To qualify for the streamlined notice procedure, a bank must be 
well-capitalized after deducting from its tier one capital the equity 
investment in the subsidiary as well as the bank's pro rata share of 
any retained earnings of the subsidiary. The deduction must be 
reflected on the bank's consolidated report of income and condition and 
the resulting capital will be used for assessment risk classification 
purposes under part 327 and for prompt corrective action purposes under 
part 325. However, the capital deduction will not be used to determine 
whether the bank is ``critically undercapitalized'' under part 325. 
Since the risk-based capital requirements had not been adopted when the 
current version of Sec. 337.4 was adopted, no similar capital level was 
required of banks to establish an underwriting subsidiary, although the 
capital deduction has always been required. This requirement is uniform 
with the requirements found in the other part 362 notice procedures for 
insured state banks to engage in activities not permissible for 
national banks. The well-capitalized standard and the capital deduction 
recognize the level of risk present in securities underwriting 
activities by a subsidiary of a state nonmember bank. This risk 
includes the potential that a bank could reallocate capital from the 
insured depository institution to the underwriting subsidiary. Thus, it 
is appropriate for the FDIC to retain the capital deduction even though 
the FRB eliminated the requirement that a holding company deduct its 
investment in a section 20 subsidiary on August 21, 1997.
    Comment was divided on the issue of whether the FDIC should impose 
revenue limits similar to those the FRB has established for section 20 
affiliates. One comment noted that in order to provide for consistency 
between regulators and limit exposure to risk, the FDIC should adopt a 
limitation similar to that adopted by the FRB for section 20 affiliates 
that a securities subsidiary may earn no more than 25 percent of its 
income from activities that are ineligible for the bank. Other comments 
countered that there is not a legal or safety and soundness reason to 
apply such a revenue limit. We agree that there is no legal reason for 
a revenue limit. Because of the restrictions on transactions, the 
capital deduction, and separations required between a bank and a 
subsidiary, the FDIC does not believe that the revenue limit is 
necessary to control the risk to the affected deposit insurance fund.
    One comment asserts that there are significant benefits of 
securities underwriting and no material disadvantages. The revisions 
that have been made are intended to strike a balance between enabling 
banks to compete in the financial services arena and allowing 
activities without consideration of risks involved. With appropriate 
safeguards, any material disadvantages can be mitigated or eliminated.
    Notice for change in circumstances. The regulation requires the 
bank to provide written notice to the appropriate Regional Office of 
the FDIC within 10 business days of a change in circumstances in its 
real estate or securities subsidiary. Under the revised regulation, a 
change in circumstances is described as a material change in a 
subsidiary's business plan or management. The standard of material 
change would indicate such events as a change in chief executive 
officer of the subsidiary or a change in investment strategy or type of 
business or activity engaged in by the subsidiary. The regional 
director also may address other changes that come to the attention of 
the FDIC during the normal supervisory process. The FDIC received two 
comments concerning the change of circumstance notice. Both comments 
indicated that the notice is burdensome and unnecessary. The comments 
argue that a change in the chief executive office or investment 
strategies are routine. The FDIC is putting significant reliance on the 
management and the business plan presented when an activity is approved 
for a majority-owned subsidiary. The FDIC does not consider either 
change to be routine and believes that it is important that the FDIC be 
aware of material changes in the operations of the subsidiary. One
[[Page 66303]]
comment requested that the notice period be extended from ten days to 
30 days. The FDIC believes that both a change in management and a 
change in the business plan of the subsidiary should be matters that 
have received significant prior consideration before these events 
occur. It is not unreasonable to request notice of these events within 
ten days of the change. Therefore, after careful consideration of the 
comments, we have not changed the proposed requirement for a notice of 
change of circumstances to be submitted within 10 business days after 
any such change.
    In the case of a state member bank, the FDIC will communicate our 
concerns to the appropriate persons in the Federal Reserve System 
regarding the continued conduct of an activity after a change in 
circumstances. The FDIC will work with the identified persons within 
the Federal Reserve System to develop the appropriate response to the 
new circumstances.
    The FDIC does not intend to require a bank which falls out of 
compliance with eligibility conditions to immediately cease any 
activity in which the bank had been engaged. The FDIC will deal with 
each situation on a case-by-case basis through the supervision and 
examination process. In short, the FDIC intends to utilize its 
supervisory and regulatory tools in dealing with a bank's failure to 
meet the eligibility requirements on a continuing basis. The issue of 
the bank's ongoing activities will be dealt with in the context of that 
effort. The FDIC views the case-by-case approach to whether a bank will 
be permitted to continue an activity as preferable to forcing a bank 
to, in all instances, immediately cease the activity. Such an 
inflexible approach could exacerbate an already poor situation.
    Real estate leasing. As was discussed above, the FDIC has deleted 
the current exception allowing a majority-owned subsidiary to engage in 
activities included on the referenced list of activities determined by 
the FRB to be closely related to the business of banking under section 
4(c)(8) of the Bank Holding Company Act, because the activities 
included on that list are generally of a type permissible for national 
banks. The one exception that clearly is not generally permissible for 
a national bank involves real estate leasing. The FDIC has inserted a 
real estate leasing provision to allow continuation of activities that 
are permitted under the current exception but may be lost with the 
elimination of the reference to the 4(c)(8) list.
    For the purposes of part 362, the FDIC studied real estate leasing 
to make a determination if there is a significant risk to the fund. The 
FDIC's determination requires that we look at the possibility of loss 
inherent in the leasing transaction.
    In a real estate leasing transaction, the lessor is the owner of 
the parcel subject to the lease. The FDIC has defined equity investment 
to include any interest in real estate. A threshold question for the 
FDIC involves whether an ownership interest as lessor carries all of 
the risks and rewards of ownership when there is no lease.
    By inserting a reference to the 4(c)(8) list, the FDIC consented 
that real estate leasing could be conducted under the standards set by 
the FRB. These standards provided that leasing real property or acting 
as agent, broker, or adviser in leasing such property is allowed if: 
(1) The lease is on a nonoperating basis which means that the banking 
holding company may not engage in operating, servicing, maintaining, or 
repairing leased property during the lease term; (2) the initial term 
of the lease is at least 90 days; (3) at the inception of the lease, 
the effect of the transaction will yield a return that will compensate 
the lessor for not less than the lessor's full investment in the 
property plus the estimated cost of financing the property over the 
term of the lease from rental payments, estimated tax benefits, and the 
estimated residual value of the property and the expiration of the 
initial lease; and (4) the estimated residual value of the property 
shall not exceed 25 percent of the acquisition cost of the property to 
the lessor. In defining the real estate leasing parameters, the FRB's 
definition focuses on characteristics that make the activity closely 
related to banking.
    In making its risk to the fund determination, the FDIC looked not 
only at banking standards for leasing transactions but also at GAAP. 
Under GAAP, a lease is defined as the right to use an asset for a 
stated period of time. Generally, a transaction is not a lease if the 
right to use the property is not transferred; the transaction involves 
the right to explore natural resources; or the transaction represents 
licensing agreements. Also under GAAP, leases are considered under two 
broad categories: (1) Capital leases which effectively transfer the 
benefits and risks of ownership from the lessor to the lessee; and (2) 
operating leases which is everything that is not a capital lease and 
represents a series of cash flows. If any one of the following criteria 
is met, a lease may be considered to be a capital lease:
    <bullet> Ownership of the property is transferred to the lessee at 
the end of the lease term; or
    <bullet> The lease contains a bargain purchase option; or
    <bullet> The lease term represents at least 75 percent of the 
estimated economic life of the leased property; or
    <bullet> The present value of the minimum lease payments at the 
beginning of the lease term is 90 percent of more of the fair value of 
the leased property to the lessor at the inception of the lease less 
any related investment tax credit retained by and expected to be 
realized by the lessor.
    Two other criteria must be present in order for the lessor to 
determine that a lease is a capital lease: (1) Collection of minimum 
lease payments is reasonably predictable; and (2) no important 
uncertainties exist for unreimbursable costs to be borne by the lessor.
    The FDIC has decided that a majority-owned subsidiary acting as 
lessor under a real property lease which meets certain criteria does 
not represent a significant risk to the deposit insurance fund. To meet 
these criteria, the lease must qualify as a capital lease under GAAP 
and the bank and the majority-owned subsidiary may not provide 
servicing, repair, or maintenance to the property except to the extent 
needed to protect the value of the property. In addition, the majority-
owned subsidiary may not acquire real estate to be leased unless it has 
entered into a capital lease, or has a binding commitment to enter into 
such a lease, or has a binding written agreement that indemnifies the 
subsidiary against loss in connection with its acquisition of the 
property. Any expenditures by the majority-owned subsidiary to make 
reasonable repairs, renovations, and necessary improvements shall not 
exceed 25 percent of the subsidiary's full investment in the property. 
These standards provide a framework in which the risks and rewards of 
ownership of the leased property have effectively been transferred from 
the lessor to the lessee.
    A majority-owned subsidiary that acquires property for lease under 
this provision may not use this exception as a vehicle to acquire an 
equity investment in real estate. Upon expiration of the initial lease, 
the majority-owned subsidiary must as soon as practicable, but in any 
event in less than two years, re-lease the property under a capital 
lease or divest itself of the property. An application will be required 
if the subsidiary cannot meet the two-year deadline.
[[Page 66304]]
    Acquiring and retaining adjustable rate and money market preferred 
stock. The proposed regulation text has been revised in the final rule 
to provide that a majority-owned subsidiary may acquire and retain 
adjustable rate and money market preferred stock and any other 
instrument that the FDIC has determined to have the character of debt 
securities to the same extent that these activities may be conducted by 
the bank itself. Since these subsidiaries are fully consolidated with 
the bank, the 15 percent of tier one capital limitation will be 
calculated against the consolidated tier one capital of the bank and 
subsidiary. If a bank and its majority-owned subsidiary both engage in 
this activity, the authority to conduct this activity in a majority-
owned subsidiary may not be used to exceed the 15 percent limitation on 
this type of activity without further consent of the FDIC. This 
exception is provided to allow consistency between the authorized 
activities of the bank and its majority-owned subsidiary.
    Core eligibility requirements. Consistent with the proposal, the 
revised regulation has been organized much differently from the current 
regulation where separation standards between an insured state bank and 
its subsidiary are contained in the regulation's definition of ``bona 
fide'' subsidiary. The revised regulation introduces the concept of 
core eligibility requirements. These requirements are defined in two 
parts. The first part defines the eligible depository institution 
criteria and the second part defines the eligible subsidiary standards.
    Eligible depository institution. An ``eligible depository 
institution'' is a depository institution that has been chartered and 
operating for at least three years; received an FDIC-assigned composite 
UFIRS rating of 1 or 2 at its most recent examination; received a 
rating of 1 or 2 under the ``management'' component of the UFIRS at its 
most recent examination; received at least a satisfactory CRA rating 
from its primary federal regulator at its last examination; received a 
compliance rating of 1 or 2 from its primary federal regulator at its 
last examination; and is not subject to any corrective or supervisory 
order or agreement. The FDIC believes that these criteria are 
appropriate to ensure that expedited processing under the notice 
procedures is available only to well-managed institutions that do not 
present any supervisory, compliance or CRA concerns.
    The standards for an ``eligible depository institution'' are being 
coordinated with similar requirements for other types of notices and 
applications made to the FDIC. In developing the eligibility standards, 
several items have been added that previously were not a stated 
standard for banks wishing to engage in activities not permissible for 
a national bank.
    The requirement that the institution has been chartered and 
operated for three or more years reflects the experience of the FDIC 
that newly formed depository institutions need closer scrutiny. 
Therefore, a request by this type of institution to become involved in 
activities not permissible for a national bank should receive 
consideration under the application process rather than being eligible 
for a notice process. Several comments noted that the provision 
requiring the bank to be operating for three or more years ignores the 
presence of an established bank holding company or seasoned management. 
The FDIC is persuaded by the arguments that an exception is appropriate 
when there is an established holding company or seasoned management is 
present. Therefore, the criterion has been changed to require that the 
bank must have been chartered and operating for 3 or more years unless 
the appropriate regional director (DOS) finds that the bank is owned by 
an established, well-capitalized, well-managed holding company or is 
managed by seasoned management.
    The revised regulation provides that the notice procedures should 
be available only to well-managed, well-capitalized banks. Banks which 
have composite and management ratings of 1 or 2 have shown that they 
have the requisite financial and managerial resources to run a 
financial institution without presenting a significant risk to the 
deposit insurance fund. While lower-rated financial institutions may 
have the requisite financial and managerial resources and skills to 
undertake such activities, the FDIC believes that those institutions 
should be subject to the formal part 362 application process as opposed 
to the streamlined notice process. Institutions that do not meet the 
eligibility criteria have been evaluated and have been determined to 
have some weaknesses that may require additional attention before 
allowing them to engage in additional activities. For that reason, the 
FDIC has concluded that it is more prudent to require institutions 
rated 3 or below to utilize the application process.
    Comments received did not object to the standard of a composite 
rating of 1 or 2 or a management rating of 1 or 2; however, the 
regulatory language that the ratings used be assigned by the 
appropriate federal banking agency was questioned. Some comments 
contended that this provision fails to consider that the FDIC and FRB 
recognize and generally adopt the ratings assigned by the state banking 
departments under an alternate examination program. The language does 
not ignore ratings assigned by the state banking authorities. All 
ratings, whether state or Federal, considered by the FDIC for purposes 
of processing applications must be assigned by the FDIC after reviewing 
the results of an examination conducted by another banking agency. 
Although the language differs between this processing criteria and the 
proposal to amend our applications processing regulation (part 303), 
there is no intention of establishing a different standard. To reduce 
confusion, the language in the revised regulation has been changed to 
reflect that the ratings are the FDIC-assigned rating at the 
institution's most recent state or Federal examination.
    In setting criteria to define which banks are eligible to use the 
notice process, the FDIC has determined it is appropriate to take into 
account all areas of managerial and operational expertise. In 
particular, the revised regulation requires that the institution have a 
satisfactory or better CRA rating, a 1 or 2 compliance rating, and not 
be subject to any formal or informal enforcement action before it may 
use the notice procedures.
    The proposal to use the CRA ratings as an eligibility criteria drew 
negative comments. One commenter even expressed the opinion that the 
FDIC's use of a CRA rating as an eligibility criterion for expedited 
processing is a violation of the CRA itself. The FDIC is not proposing 
some alternative method of CRA enforcement. The CRA criterion is not 
intended to ``punish'' any bank which the FDIC has previously 
criticized for substandard CRA performance; nor is it intended to 
``reward'' a bank with satisfactory performance. The CRA criterion acts 
solely as a procedural device for application processing, in connection 
with the other criteria, to identify applications for further review if 
they come from banks which have not been meeting all the primary 
supervisory requirements. If a bank has not complied with all of these 
primary supervisory expectations, it may be a symptom of financial, 
management, or operational deficiencies which could be exacerbated by 
undertaking the proposed additional activities. The consequence of 
failing to meet all the eligibility criteria is only that the request 
will be subject to exactly the same kind and level of review to which
[[Page 66305]]
it is subject under the current rules which have no expedited 
processing procedures. Therefore, the FDIC retains the same eligibility 
criteria in the final regulation as proposed.
    Eligible Subsidiary. The eligible subsidiary requirements are also 
used to determine which institutions qualify for notice processing. 
Additionally, the requirements are also criteria the FDIC is likely to 
take into account when reviewing and considering applications. The 
FDIC's support of the concept of the expansion of bank powers is based 
in part on establishing a corporate separateness between the insured 
state bank and the entity conducting activities that are not 
permissible for the depository institution directly. The revised 
regulation establishes these separations as well as standards for 
operations through the concept of ``eligible subsidiary''. An entity is 
an ``eligible subsidiary'' if it: (1) Meets applicable statutory or 
regulatory capital requirements and has sufficient operating capital in 
light of the normal obligations that are reasonably foreseeable for a 
business of its size and character; (2) is physically separate and 
distinct in its operations from the operations of the bank, provided 
that this requirement shall not be construed to prohibit the bank and 
its subsidiary from sharing the same facility if the area where the 
subsidiary conducts business with the public is clearly distinct from 
the area where customers of the bank conduct business with the 
institution--the extent of the separation will vary according to the 
type and frequency of customer contact; (3) maintains separate 
accounting and other business records; (4) observes separate business 
formalities such as separate board of directors' meetings; (5) has a 
chief executive officer who is not an employee of the bank; (6) has a 
majority of its board of directors who are neither directors nor 
officers of the bank; (7) conducts business pursuant to independent 
policies and procedures designed to inform customers and prospective 
customers of the subsidiary that the subsidiary is a separate 
organization from the bank and that the bank is not responsible for and 
does not guarantee the obligations of the subsidiary; (8) has only one 
business purpose; (9) has a current written business plan that is 
appropriate to the type and scope of business conducted by the 
subsidiary; (10) has adequate management for the type of activity 
contemplated, including appropriate licenses and memberships, and 
complies with industry standards; and (11) establishes policies and 
procedures to ensure adequate computer, audit and accounting systems, 
internal risk management controls, and has the necessary operational 
and managerial infrastructure to implement the business plan.
    The separations currently necessary between the bank and subsidiary 
are outlined in the definitions of ``bona fide'' subsidiary contained 
in Sec. 337.4 and part 362. The broad principles of separation upon 
which the ``bona fide'' subsidiary definition and the ``eligible 
subsidiary'' definition are based include: (1) Adequate capitalization 
of the subsidiary; (2) separate corporate functions; (3) separation of 
facilities; (4) separation of personnel; and (5) advertising the bank 
and the subsidiary as separate entities. In developing the standards 
for an ``eligible subsidiary'', the FDIC has modified some of the 
criteria used in the current regulation. The changes are found in the 
capital requirement, the physical separation requirement, the separate 
employee standard, and the requirement that the subsidiary's business 
be conducted pursuant to independent policies and procedures.
    The language in the current part 362 allows the subsidiary and the 
parent bank to share officers so long as a majority of the subsidiary's 
executive officers were neither officers nor directors of the bank. 
Section 337.4 contains a requirement that there be no shared officers. 
The ``eligible subsidiary'' concept adopts a standard that the chief 
executive officer of the subsidiary should not be an employee of the 
bank. The eligible subsidiary requirements in this regard are thus less 
restrictive than those found in both Sec. 337.4 and the current version 
of part 362, as well as those in many FDIC orders authorizing real 
estate activities. The eligible subsidiary definition only requires 
that the chief executive officer not be an employee of the bank. 
Officers are employees of the bank. This limitation would allow the 
chief executive officer to be an employee of an affiliated entity or be 
on the board of directors of the bank. Two comments indicated that the 
requirement for an independent chief executive officer is too 
restrictive. One comment suggested that this requirement be dropped for 
small banks. The FDIC is sympathetic to the concerns of small banks; 
however, banks that desire relief from this standard may apply to the 
FDIC for approval. The FDIC recognizes that there may be instances in 
which this standard may not be needed. The FDIC will consider such 
requests and waive the standard in appropriate situations.
    The current rule's requirement that the subsidiary be adequately 
capitalized was revised to provide that the subsidiary must meet any 
applicable statutory or regulatory capital requirements, that the 
subsidiary have sufficient operating capital in light of the normal 
obligations that are reasonably foreseeable for a business of its size 
and character, and that the subsidiary's capital meet any commonly 
accepted industry standard for a business of its size and character. 
This definition clarifies that the FDIC expects the subsidiary to meet 
the capital requirements of its primary regulator, particularly those 
subsidiaries involved in securities and insurance. No comments objected 
to this change. This standard is unchanged in the final rule.
    The physical separation requirement of the current rule was 
clarified by the addition of a sentence which indicates that the extent 
to which the bank and the subsidiary must carry on operations in 
physically distinct areas will vary according to the type and frequency 
of public contacts. The FDIC does not intend to require physical 
separation where such a standard adds little value such as where a 
subsidiary engaged in developing commercial real estate has little or 
no customer contact. The possibility of customer confusion should be 
the determining factor in deciding the physical separation requirements 
for the subsidiary.
    One commenter stated that this clarification is an improvement over 
the existing regulation; however, the comment encourages the FDIC to 
clarify that the subsidiary and the bank may conduct activities in the 
same location if the subsidiary is engaging in activities that are 
permissible for the bank to engage. The FDIC agrees that this point is 
important. The requirements of this regulation apply to activities that 
are not permissible for a national bank. Activities such as the sale of 
securities are covered by the requirements of the Interagency 
Statement. We have decided that no change in the regulation language is 
necessary to further clarify that these standards do not apply to 
subsidiaries engaging solely in activities permissible for a national 
bank. We believe it is clear that the coverage of the core eligibility 
requirements is for institutions to conduct as principal activities 
through a subsidiary that are not permissible for a subsidiary of a 
national bank.
    We eliminated the provision contained in the current regulation 
that required employees of the bank and subsidiary to be separately 
compensated when they have contact with the public. This requirement 
was imposed to
[[Page 66306]]
reduce confusion relating to whether customers were dealing with the 
bank or the subsidiary. Since the adoption of the current regulation, 
the Interagency Statement was issued. The Interagency Statement 
recognizes the concept of employees who work both for a registered 
broker-dealer and the bank. Because of the disclosures required under 
the Interagency Statement informing the customer of the nature of the 
product being sold and the physical separation requirements, the need 
for separate public contact employees is diminished. No objections to 
the proposed changes were offered, and the requirement for separate 
public contact employees is dropped from the revised regulation.
    Language was added that the subsidiary must conduct business in a 
manner that informs customers that the bank is not responsible for and 
does not guarantee the obligations of the subsidiary. This standard is 
taken from section 23B of the Federal Reserve Act which prohibits banks 
from entering into any agreement to guarantee the obligations of their 
affiliates and prohibits banks as well as their affiliates from 
advertising that the bank is responsible for the obligations of its 
affiliates. In the proposal, we made this standard an affirmative duty 
of disclosure. This type of disclosure is intended to reduce customer 
confusion concerning who is responsible for the products purchased. Two 
comments questioned the affirmative nature of the standard. The duty to 
inform customers would in many cases be unnecessary. For instance, when 
a transaction is covered by the Interagency Statement disclosures are 
already required to inform customers that the product is not an 
obligation of the bank. The commenters believe that the requirement 
should be analogous to section 23B and only require that the subsidiary 
not mislead its customers. The FDIC has not been persuaded by the 
arguments. The affirmative requirement to make disclosures applies to 
the subsidiary and the Interagency Statement disclosures apply to the 
bank. One of the most important steps the subsidiary can take to assure 
a separate corporate existence from the parent bank is to make 
affirmative disclosures to its customers as prescribed. Therefore, the 
disclosure requirement remains as proposed.
    The regulation contains a standard that a majority of the board of 
directors of the eligible subsidiary act as neither a director nor an 
officer of the bank. Commenters suggested that this standard be 
altered. One comment suggested that the standard be eliminated for 
small banks. The issue of the need for management separation is not an 
issue that clearly relates to the size of the bank. We recognize that 
this requirement for some small banks may present a challenge. The FDIC 
believes that management separations are an important safeguard. If an 
institution desires a different structure than that proposed in these 
standards, they may submit an application for FDIC consideration. 
Another commenter suggested that the FDIC defer to the OCC standard 
that permits \2/3\ of the subsidiary's board members to be directors of 
the depository institution. The FDIC believes that the majority of the 
board standard provides a structure in which decisions relating to the 
subsidiary are being made by a majority of persons who are not 
associated with the bank. This standard provides an easily identifiable 
level of separation. If the standard creates a burden for a bank, the 
FDIC will consider a request for relief. After considering the 
comments, the FDIC has decided not to change this standard.
    In a previous proposal a question was raised if this standard 
prohibited directors of a subsidiary from serving as directors and 
officers of the parent holding company or an affiliated entity. The 
FDIC is primarily concerned about risk to the deposit insurance funds 
and is therefore looking to establish separation between the insured 
bank and its subsidiary. The eligible subsidiary requirement is 
designed to assure that the subsidiary is in fact a separate and 
distinct entity from the bank. This requirement should prevent 
``piercing of the corporate veil'' and insulate the bank, and the 
deposit insurance fund, from any liabilities of the subsidiary.
    We recognize that a director or officer employed by the bank's 
parent holding company or a sister affiliate is not as ``independent'' 
as a totally disinterested third party. The FDIC is, however, 
attempting to strike a reasonable balance between prudential safeguards 
and regulatory burden. The requirement that a majority of the board not 
be directors or officers of the bank will provide certain benefits that 
the FDIC thinks are very important in the context of subsidiary 
operations. The FDIC expects these persons to act as a safeguard 
against conflicts of interest and to be independent voices on the board 
of directors. While the presence of ``independent'' directors may not, 
in and of itself, prevent piercing of the corporate veil, it will add 
incremental protection and in some circumstances may be key to 
preserving the separation of the bank and its subsidiary in terms of 
liability. In view of the other standards of separateness that have 
been established under the eligible subsidiary standard as well as the 
imposition of investment and transaction limits, we do not believe that 
a connection between the bank's parent or affiliate will pose undue 
risk to the insured bank.
    In addition to the separation standards, the ``eligible 
subsidiary'' concept introduces operational standards that are not part 
of the current regulation. These standards provide guidance concerning 
the organization of the subsidiary that the FDIC believes important to 
the independent operation of the subsidiary.
    The revised regulation requires that a bank that wishes to file a 
notice to establish a subsidiary to engage in insurance, real estate or 
securities have only one business purpose among those categories. 
Several comments objected to this standard. One comment stated that the 
subsidiary should be allowed to engage in similar business lines rather 
than being held to a strict sole purpose standard. Other comments 
encouraged a broad definition of the term ``one business purpose''. 
Other comments recommended eliminating the requirement stating the FDIC 
should rely on the business plan for information needed to address any 
concerns. Because the FDIC is limiting a bank's transactions with 
subsidiaries engaged in real estate, or securities activities 
authorized under subpart A, and the aggregate limits only extend to 
subsidiaries engaged in the activities subject to the investment 
limits, the FDIC believes it is important to limit the scope of the 
subsidiary's activities when using the expedited procedures. The FDIC 
will use the business plan as a tool to review the lines of business 
engaged in by the subsidiary. The FDIC will be flexible in its 
interpretation of the term ``one business purpose.'' For instance, the 
FDIC would consider a subsidiary engaged in underwriting a financial 
product and also selling that product to have one business purpose.
    The regulation contains a standard that the subsidiary have a 
current written business plan that is appropriate to its type and scope 
of business. The FDIC believes that an institution that is 
contemplating involvement with activities that are not permissible for 
a national bank or a subsidiary of a national bank should have a 
carefully conceived plan for how it will operate the business. We 
recognize that certain activities do not require elaborate business 
plans; however, every activity should be considered by the board of the 
bank to determine the scope of the
[[Page 66307]]
activity allowed and how profitability is to be attained. We received 
no comments on this requirement. This standard is adopted without 
change.
    The requirement for adequate management of the subsidiary 
establishes the FDIC's view that insured depository institutions should 
consider the importance of management in the success of an operation. 
The requirement to obtain appropriate licenses and memberships and to 
comply with industry standards indicates the FDIC's support of 
securities and insurance industry standards in determining adequacy of 
subsidiary management. We received no comments, and this standard is 
adopted without change.
    An important factor in controlling the spread of liabilities from 
the subsidiary to the insured depository institution is that the 
subsidiary establishes necessary internal controls, accounting systems, 
and audit standards. The FDIC does not expect to supplement this 
requirement with specific guidance since the systems must be tailored 
to specific activities, some of which are otherwise regulated. We 
received no comments on this standard, and it is unchanged.
    Investment and transaction limits. The revised regulation contains 
investment limits and other requirements that apply to an insured state 
bank and its subsidiaries that engage in ``as principal'' activities 
that are not permissible for a national bank if the requirements are 
imposed by order or expressly imposed by regulation. The provision is 
not contained in the current regulation; however, Sec. 337.4 imposes by 
reference the limitations of section 23A of the Federal Reserve Act 
(Sec. 337.4 was adopted prior to the adoption of section 23B of the 
Federal Reserve Act). Both section 23A and section 23B restrictions 
have been imposed by the FDIC through its orders authorizing insured 
state banks to engage in activities not permissible for a national 
bank.
    Some of the provisions of sections 23A and 23B are inconsistent 
when applied in the context of a bank/subsidiary relationship. The FDIC 
believes that merely incorporating sections 23A and 23B by reference 
raises significant interpretative issues and only promotes confusion in 
an already complex area.
    For these reasons, the FDIC has adopted a separate subsection which 
sets forth the specific investment limits and arm's length transaction 
requirements. In general, the provisions impose an aggregate investment 
on all subsidiaries that engage in activities covered by the investment 
limits, require that extensions of credit from a bank to its 
subsidiaries be fully-collateralized when made, prohibit the bank from 
taking a low quality asset as collateral on such loans, and require 
that transactions between the bank and its subsidiaries be on an arm's 
length basis. The comments received state that the investment and 
transaction limits which have been proposed are preferable to 
incorporating sections 23A and 23B by reference. Two comments suggested 
that this section be eliminated if the FRB adopts its proposal to 
expand sections 23A and 23B coverage to subsidiaries engaged in 
activities not permissible for a national bank. The FDIC will not 
respond to this scenario until the FRB has issued a final regulation. 
Another comment expressed the opinion that in view of the explicit 
statutory exception in sections 23A and 23B for transactions between an 
insured bank and its subsidiaries, the restrictions in these provisions 
should not be applied in any form by the FDIC. The FDIC agrees that 
section 23A and 23B should not be applied to a bank/subsidiary 
relationship that is fully consolidated for capital reporting purposes. 
For subsidiaries that are engaged in activities for which the FDIC 
imposes a requirement that capital of the subsidiary be deducted from 
the bank's capital in determining the bank's capital adequacy, we 
believe that restrictions on transactions between the bank and the 
subsidiary are also necessary. Another comment indicated that the 
investment and transaction limits proposed are unnecessarily complex 
and would make many activities uneconomic. Specifically, the cost of 
collateral requirements would diminish if not eliminate the potential 
profit from the permitted activity. The FDIC is concerned that an 
insured bank not be allowed to easily and cheaply transfer risks from 
the uninsured entity to the insured depository institution. Collateral 
requirements are a method of assuring that any money lent by the bank 
to its subsidiary will ultimately be repaid. This comment also suggests 
that Regulation K of the FRB would provide a more appropriate analogue 
than sections 23A and 23B. In this regulation, appropriate safeguards 
are provided by focusing on the capital strength of the bank and the 
extent of its investment in the entity. We believe that capital 
strength of the bank and the extent of its investment in a subsidiary 
are important considerations. The revised regulation addresses each of 
those areas. In addition, restrictions on the flow of funds from an 
insured bank to a subsidiary engaged in activities not permissible for 
the bank itself are necessary. We have chosen to keep the investment 
and transaction limitations in the final regulation.
    The revised regulation expands the definition of bank for the 
purposes of the investment and transaction limitations. A bank includes 
not only the insured entity but also any subsidiary that is engaged in 
activities that are not subject to these investment and transaction 
limits. Sections 23A and 23B of the Federal Reserve Act combine the 
bank and all of its subsidiaries in imposing investment limitations on 
all affiliates. The FDIC is using the same concept in separating 
subsidiaries conducting activities that are subject to investment and 
transaction limits from the bank and any other subsidiary that engages 
in activities not subject to the investment and transaction limits. 
This rule will prohibit a bank from funding a subsidiary that is 
subject to the investment and transaction limits through a subsidiary 
that is not subject to the limits. One comment expressed support for 
this concept but emphasized that there is no need to include ``eligible 
subsidiaries'' in the restrictions since these entities have already 
been separated from the insured depository institution. The FDIC did 
not intend to extend these restrictions to transactions between 
``eligible subsidiaries''. Therefore, this language has not been 
changed.
    Investment limit. Under the proposed rule, the FDIC limited bank 
investments in certain subsidiaries. Those limits are basically the 
same as would apply between a bank and its affiliates under section 
23A. As is the case with covered transactions under section 23A, 
extensions of credit and other transactions that benefit the bank's 
subsidiary would be considered part of the bank's investment. The only 
exception would be for arm's length extensions of credit made by the 
bank to finance sales of assets by the subsidiary to third parties. 
These transactions would not need to comply with the collateral 
requirements and investment limitations of section 23A, provided that 
they met certain arm's length standards.
    In contrast to the bank-affiliate relationship being governed by 
the statutory limits of sections 23A and 23B, inherent in the idea of a 
subsidiary is the subsidiary's value to the bank as an asset. That 
value increases as the subsidiary earns profits and decreases as the 
subsidiary loses money. The increases are reflected in the subsidiary's 
retained earnings and the consolidated retained earnings of the bank as 
a whole. The FDIC wants to
[[Page 66308]]
separate the bank's equity investment in the subsidiary from any 
lending to or covered transactions with the subsidiary. Thus, the FDIC 
proposed to treat the bank's equity investment as a deduction from 
capital, while limiting any lending to or covered transactions with the 
subsidiary in a similar fashion as these transactions are limited in 
the bank-affiliate relationship. Then, the question arises as to how to 
properly treat retained earnings at the subsidiary level. If retained 
earnings at the subsidiary level were treated as subject to the 
investment limits, the bank could be forced to take the retained 
earnings out of the subsidiary to stay under the applicable limits. If 
retained earnings are allowed to accumulate without limit, then the 
bank could declare dividends to its shareholders based on the retained 
earnings at the subsidiary. Later, in the event that the subsidiary 
incurred losses, the bank's capital could become inadequate based on 
the subsidiary's losses. Thus, the FDIC decided that retained earnings 
should be deducted from capital in the same way as the equity 
investment is deducted.
    Comments were supportive of the proposed concept of investment 
limits for loans to and debt of the subsidiary in contrast to the 
capital deduction for equity investments in and retained earnings of 
the subsidiary. One commenter expressed reservations about the 
structure of the investment limits. The proposal to limit transactions 
between a bank and its eligible subsidiary to 10 percent of capital to 
any one subsidiary and 20 percent of capital to all eligible 
subsidiaries conducting the same activity was questioned. By including 
the 10 percent limitation to any one subsidiary, the FDIC would only 
create burden to institutions without the benefit of appreciably 
limiting or diversifying risk. The commenter points out that since the 
eligible subsidiaries are not subject to transaction limitations 
between each other, it would be easy to structure the use of the entire 
20 percent investment provision between the two subsidiaries but really 
for the benefit of the same project or business. The comment accepts 
that the 20 percent aggregate limit is appropriate, and recommends that 
the regulation be amended to apply only the 20 percent limitation. The 
FDIC is persuaded by this argument, and the final rule has dropped the 
10 percent to any one subsidiary limitation.
    The definition of ``investment'' under this provision has four 
components. The first component is any extension of credit by the bank 
to the subsidiary. The term ``extension of credit'' is defined in part 
362 to have the same meaning as that under section 22(h) of the Federal 
Reserve Act (12 U.S.C. 375b) and would therefore apply not only to 
loans but also to commitments of credit. The second component is ``any 
debt securities of the subsidiary'' held by the bank. This component 
recognizes that debt securities are very similar to extensions of 
credit. The third component is the acceptance of securities issued by 
the subsidiary as collateral for extensions of credit to any person or 
company. The fourth and final component addresses any extensions or 
commitments of credit to a third party for investment in the 
subsidiary, investment in a project in which the subsidiary has an 
interest, or extensions of credit or commitments of credit which are 
used for the benefit of, or transferred to, the subsidiary. Commenters 
did not object to these components of ``investment,'' and the 
definition is unchanged.
    The revised regulation calculates the 20 percent limit based on 
tier one capital. Also, the revisions limit the aggregate investment to 
all subsidiaries conducting activities subject to the investment 
limits. Comments note that the 20 percent limit is calculated against 
tier one capital instead of capital and surplus as is the standard for 
section 23A. One comment goes on to state that even though the FDIC has 
proposed a more restrictive standard, the 20 percent limit applies to 
an aggregate of the same activity rather than the section 23A standard 
covering all affiliates. In that respect, the 20 percent limit in the 
proposal is less restrictive. Although the FDIC does not intend to 
mimic section 23A in all respects, the FDIC has determined that an 
aggregate limit on activities that are covered by the investment limits 
is appropriate. The standard established is intended to reflect an 
appropriate limitation for subsidiary activities. The FDIC continues to 
use the more restrictive tier one capital as its measure to create 
consistency throughout the regulation. The FDIC does not find the 
burden of this more restrictive capital base to be unreasonable.
    Arm's length transaction requirement. For subsidiaries engaged in 
activities covered by the investment and transactions limitations, the 
revisions require that any transaction between a bank and its 
subsidiary must be on terms and conditions that are substantially the 
same as those prevailing at the time for comparable transactions with 
unaffiliated parties. This ``arm's length transaction'' requirement is 
intended to make sure that the business of the subsidiary does not take 
place to the disadvantage of the bank. The types of transactions 
covered by the requirement include: (1) Investments in the subsidiary; 
(2) the purchase from or sale to the subsidiary of any assets, 
including securities; (3) entering into any contract, lease or other 
agreement with the subsidiary; and (4) paying compensation to the 
subsidiary or any person who has an interest in the subsidiary. The 
revised regulation indicates, however, that the restrictions do not 
apply to an insured state bank giving immediate credit to a subsidiary 
for uncollected items received in the ordinary course of business.
    The arm's length transaction requirement is meant to protect the 
bank from abusive practices. To the extent that the subsidiary offers 
the parent bank a transaction which is at or better than market terms 
and conditions, the bank may accept such transaction since the bank is 
receiving a benefit, as opposed to being harmed. It may be the case, 
however, that a bank will be unable to meet the regulatory standard 
because there are no known comparable transactions between unaffiliated 
parties. In these situations, the FDIC will review the transactions and 
expect the bank to meet a ``good faith'' standard.
    This section and the language therein is not a substantive change 
from the proposal. Comments had mixed messages about this section of 
the regulation. Commenters agreed that this proposal is preferable to 
the incorporation by reference to section 23B. One comment stated that 
if the FRB's proposal to impose section 23B on subsidiaries is 
finalized, the FDIC should withdraw its regulatory language to avoid 
confusion. The FDIC is aware of the FRB proposal and will react once 
the final position of the FRB is known. Another comment stated that in 
view of the explicit statutory exception in section 23B between an 
insured depository institution and its subsidiaries, these restrictions 
in any form should not be applied by the FDIC. When engaging in 
transactions with a subsidiary, banks and bank counsel should be aware 
of the FDIC's separate corporate existence concerns. Bank subsidiaries 
should be organized and operated as separate corporate entities. 
Subsidiaries should be adequately capitalized for the business they are 
engaged in and separate corporate formalities should be observed. 
Frequent transactions between the bank and its subsidiary which are not 
on an arm's length basis may lead to questions as to whether the 
subsidiary is actually a separate corporate entity or merely the alter 
ego of the bank. One of the primary
[[Page 66309]]
reasons for the FDIC requiring that certain activities be conducted 
through an eligible subsidiary is to provide the bank, and the deposit 
insurance funds, with liability protection. To the extent a bank 
ignores the separate corporate existence of the subsidiary, this 
liability protection is jeopardized. We believe setting forth the exact 
requirements will reduce regulatory burden and confusion as banks and 
bank counsel will more readily know what requirements are to be 
followed.
    Banks will be prohibited from buying low quality assets from their 
subsidiaries. We received no comments objecting to this standard. The 
FDIC has taken the definition of ``low quality asset'' from the 
proposal without modification.
    The revised regulation contains provisions addressing insider 
transactions and product tying. The arm's length standard addresses 
transactions between an insured depository institution and its 
subsidiaries. The FDIC is adding a provision that an arm's length 
standard applies to transactions between the subsidiary and insiders of 
the insured depository institution. The revised regulation requires 
that any transactions with insiders must meet the requirements that 
transactions be on substantially the same terms and conditions as 
generally available to unaffiliated parties. Banks engaging in such 
transactions should retain proper documentation showing that the 
transactions meet the arm's length requirement. The FDIC will review 
transactions with insiders in the normal course of the examination 
process and take such actions as may be necessary and appropriate if 
problems arise. Questionable transactions will have to be justified 
under the standards of the regulation.
    Comments were not supportive of this standard. One comment stated 
that the new restriction is unnecessary since such insiders would 
already be subject to the restrictions set forth in Regulation O. The 
FDIC has recognized this overlap by excluding transactions covered by 
Sec. 337.3, which implements many of the restrictions contained in 
Regulation O for insured state nonmember banks. The comment also 
contends that if the subsidiary is isolated from the bank as would be 
required by the revised regulation, there should be no need to regulate 
transactions between bank insiders and the eligible subsidiary. The 
FDIC is implementing these provisions in an abundance of caution. The 
standard is that insider transactions should be on the same terms and 
conditions as those prevailing at the time for comparable transactions 
with persons not affiliated with the insured state bank. The standard 
does not prohibit transactions; it merely sets parameters that does not 
allow insiders to engage in transactions that are on terms more 
favorable than those available in the market. Another comment states 
that, for example, this standard potentially would prohibit an 
executive officer from participating in an employee benefit program 
that waives trustee fees for IRA accounts if the assets of such 
accounts are invested in mutual funds distributed by a securities firm 
affiliate of the bank. The FDIC is persuaded by this argument and has 
added an exception that the standard shall not prohibit any transaction 
made pursuant to a benefit or compensation program that is widely 
available to employees of the insured state bank and that does not give 
preference to any insider of the insured state bank over other 
employees of the insured state bank.
    The proposed regulation also contained a requirement that neither 
the insured state bank nor the majority-owned subsidiary may require a 
customer to either buy a product or use a service from the other as a 
condition of entering into a transaction. While the condition may 
duplicate existing standards under applicable law for banks to some 
extent, it is not clear that all circumstances addressed by the 
proposed condition are covered by the existing statutory and regulatory 
restrictions. Banks are subject to statutory anti-tying restrictions at 
12 U.S.C. Sec. 1972. The OCC extends anti-tying provisions to national 
bank subsidiaries. See OCC Bulletin 95-20. The extension of anti-tying 
restrictions to savings and loan holding companies and their affiliates 
in transactions involving a savings association is statutory. 
Consequently, the OTS is not authorized to exempt savings and loan 
holding companies and their affiliates entirely from all tying 
restrictions. 62 FR 15819.
    The FDIC specifically requested public comment on whether the 
proposed anti-tying restriction was appropriate. The FDIC received five 
comments opposed to the proposed anti-tying requirement. One commenter 
objected to the requirement on general grounds. The other four asserted 
that statutory tying limits imposed by Congress in 1970 (12 U.S.C. 
1972) are sufficient, and that the FDIC should not impose additional 
restrictions on tying by bank subsidiaries. Of these, two commenters 
were of the view that statutory tying limits are based on outdated 
views of banks' market power and constitute a competitive disadvantage 
for banks which should not be compounded by the addition of the FDIC's 
proposed tying restriction for real estate investment and securities 
underwriting subsidiaries. These commenters also made note of recent 
FRB action (as discussed in the FDIC's preamble to the proposed rule) 
eliminating the FRB's extension of tying restrictions to bank holding 
companies and their nonbank affiliates. The FRB based its action on its 
experience that bank holding companies and their nonbank affiliates do 
not possess the market power over credit or other unique competitive 
advantages that Congress assumed that banks enjoyed in 1970, when 
Congress adopted 12 U.S.C. 1972, and nonstatutory blanket anti-tying 
restrictions are therefore not justified. 62 FR 9312. The commenters 
suggest the FDIC take a similar approach.
    The FDIC is concerned that opportunities may exist for abusive 
tying arrangements. It is this concern which has caused the FDIC to 
include particular tying restrictions of varying types in its approval 
orders governing real estate investment activities, and in its rules 
under Sec. 337.4 on securities underwriting. In the real estate orders, 
the FDIC has typically prohibited the bank from conditioning an 
extension of credit on the borrower's agreement to also acquire real 
estate from the real estate development subsidiary. Under Sec. 337.4, a 
bank could not directly or indirectly condition an extension of credit 
on the borrower's agreement to contract with the securities subsidiary 
to underwrite or distribute the borrower's securities, or to purchase 
any security currently underwritten by the subsidiary. The inclusion of 
these conditions highlighted the FDIC's concerns with these particular 
practices. Because of the FDIC's concern about the potential for 
abusive tying practices, and because the tying restrictions as proposed 
are only used to further delineate the circumstances in which a notice, 
rather than an application, is required, the FDIC has decided to adopt 
the tying restriction as proposed. Any bank wishing to conduct business 
on a basis different than the general rule set out in the tying 
restriction may submit an application. Then, the FDIC can evaluate the 
arrangement in light of its particular facts, including the 
permissibility of the arrangement under other applicable tying laws, 
its safety and soundness, and what risk it poses to the fund.
    Collateralization requirements. The revised regulation provides 
that an insured state bank is prohibited from
[[Page 66310]]
making an extension of credit to a subsidiary covered by the investment 
and transaction limits unless such transaction is fully-collateralized 
at the time the bank makes the loan or extension of credit. This 
requirement is intended to protect the bank in the event of a loan 
default. ``Fully collateralized'' under the regulation means extensions 
of credit secured by collateral with a market value at the time the 
extension of credit is entered into of at least 100 percent of the 
extension of credit amount for government securities or a segregated 
deposit in a bank; 110 percent of the extension of credit amount for 
municipal securities; 120 percent of the extension of credit amount for 
other debt securities; and 130 percent of the extension of credit 
amount for other securities, leases or other real or personal property. 
One comment objected to the fact that the FDIC proposed to use this 
schedule as minimum guidance. The comment questions if the FDIC intends 
to require collateral standards that are more rigid than those in 
effect under section 23A. As stated, the FDIC intends to look to the 
collateralization schedule as minimum guidance, but wants to retain 
flexibility in making the determination if additional collateral is 
necessary. Maintaining flexibility does not mean that the FDIC intends 
to impose harsh new standards; however, we intend on a case-by-case 
basis to reserve the ability to require greater collateral in 
situations where the risk potential is higher.
    Two comments were received on this issue. Both commenters believe 
the collateral requirements are unnecessary. The comments argue that if 
collateralization were a normal term of the transaction, it would be 
required by the arms length transaction requirements. One commenter 
noted that the cost of the collateral requirements would diminish if 
not eliminate the potential profit from the permitted activity. The 
FDIC understands the concerns about the collateral requirement; 
however, this provision provides a higher level of protection to the 
insured state bank. If there are instances in which the collateral 
requirements are uneconomical, the insured state bank may use the 
application procedures of this regulation to request relief. Therefore, 
the FDIC has decided to make no change to the collateral requirements 
of this section.
    Capital requirements. Under the revised rule, a bank using the 
notice process to invest in a subsidiary engaging in certain activities 
authorized by subpart A would be required to deduct its equity 
investment in the subsidiary as well as its pro rata share of retained 
earnings of the subsidiary when reporting its capital position on the 
bank's consolidated report of income and condition, in assessment risk 
classification and for prompt corrective action purposes (except for 
the purposes of determining if an institution is critically 
undercapitalized). Such a capital deduction may be required as a 
condition of an order issued by the FDIC, is required to use the notice 
procedure to request consent for real estate investment activities and 
securities underwriting and distribution, and is required to engage in 
grandfathered insurance underwriting. The purpose of the restriction is 
to ensure that the bank has sufficient capital devoted to its banking 
operations and that it would not be adversely impacted even if its 
entire investment in the subsidiary is lost.
    This treatment of the bank's investment in subsidiaries engaged in 
activities not permissible for a national bank creates a regulatory 
capital standard. Section 37 of the FDI Act (12 U.S.C. 1831n) generally 
requires that accounting principles applicable to depository 
institutions for regulatory reporting purposes must be consistent with, 
or not less stringent than, GAAP. The FDIC believes that this 
requirement does not extend to the Federal banking agencies' 
definitions of regulatory capital. It is well established that the 
calculation of regulatory capital for supervisory purposes may differ 
from the measurement of equity capital for financial reporting 
purposes, and section 37 by its terms contemplates the necessity of 
such differences. For example, statutory restrictions against the 
recognition of goodwill for regulatory capital purposes may lead to 
differences between the reported amount of equity capital and the 
regulatory capital calculation for tier one capital. Other types of 
intangible assets are also subject to limitations under the agencies' 
regulatory capital rules. In addition, subordinated debt and the 
allowance for loan and lease losses are examples of items where the 
regulatory reporting and the regulatory capital treatments differ.
    The capital deduction as contained in the revised regulation is not 
a new concept for the federal banking regulators. The FDIC has required 
a capital deduction for investments by state nonmember banks in 
securities underwriting subsidiaries for years. See 12 CFR 325.5(c). In 
addition, the OCC recently endorsed the idea of deducting from capital 
a national bank's investments in certain types of operating 
subsidiaries. See 12 CFR 5.34(f)(3)(i), 61 FR 60342, 60377 (Nov. 27, 
1996).
    The calculation of the amount deducted from capital in this 
proposal includes the bank's equity investment in the subsidiary as 
well as the bank's share of retained earnings. The calculation does not 
require the deduction of any loans from the bank to the subsidiary or 
the bank's investment in the debt securities of the subsidiary.
    Several comments questioned the capital deduction requirement. One 
commenter suggested that the FDIC should consider the impact of this 
provision on state laws, standards and policies. For example, state 
loan-to-one borrower restrictions that are determined by the bank's 
capital level may be affected. The FDIC is setting a capital standard 
for regulatory purposes. The effect of this standard on limitations 
based on capital under state law depend on the construction of state 
laws and regulations.
    One comment was supportive of the capital deduction concept but 
also encouraged the FDIC to reconsider activities at a future date to 
determine whether it is appropriate to eliminate this requirement. The 
FDIC agrees with this suggestion and will consider such requests as 
experience is gained. Affected institutions also have the option of 
applying to the FDIC and setting forth their arguments why the capital 
deduction is unnecessary in their cases.
    One other comment suggests that if the FDIC imposes the capital 
deduction, then it is essential that the deduction be limited to the 
bank's investment in the subsidiaries and not include retained 
earnings. The commenter contends that this requirement would result in 
the bank's capital being adversely affected by the subsidiary's 
success. The FDIC does not agree with this conclusion. The capital 
deduction required by this standard is a requirement for calculating 
regulatory capital. Under GAAP, a majority-owned subsidiary is fully 
consolidated with the bank and included in the amount reported on 
Statements of Condition and Income in the Consolidated Reports of 
Condition and Income. The subsidiary's retained earnings are 
incorporated into the bank's capital through this consolidation 
process. The treatment required by Sec. 362.4(e) simply isolates the 
capital used to support the insured state bank from that supporting the 
subsidiary for regulatory capital purposes. The referenced requirement 
accomplishes that goal by subtracting both the bank's stock investment 
in the
[[Page 66311]]
subsidiary and the bank's share of the subsidiary's retained earnings 
from the parent bank's capital. This requirement is not punitive as the 
only amounts subtracted are those equity investments already included 
on the balance sheet (and thereby balance sheet capital) through 
consolidation.
    Other underwriting activities. The regulatory text does not 
directly address the underwriting of annuities. The FDIC has opined 
that annuities are not an insurance product and are not subject to 
section 24(b) and 24(d)(2), prohibiting the FDIC from authorizing 
insurance underwriting. The FDIC has approved two requests from insured 
state banks to engage in annuity underwriting activities through a 
majority-owned subsidiary. The revised regulation does not provide a 
notice procedure to engage in such activities. No comment was received 
on this activity. The FDIC has decided to continue handling such 
requests on a case-by-case basis through the applications procedures 
established under this regulation.
Section 362.5  Approvals Previously Granted
    There are a number of areas in which the final rule differs in 
approach from the current part 362. Because of these differing 
approaches, the revised regulation contains a section dealing with 
approvals previously granted.
    Insured state banks that have previously received consent by order 
or notice from this agency should not need to reapply to continue the 
activity, including real estate investment activities, provided the 
bank and subsidiary, as applicable, continue to comply with the 
conditions of the order of approval. It is not the intent of the FDIC 
to require insured state banks to request consent to engage in an 
activity which has already been approved previously by this agency. 
Section 362.5(a) of the final rule makes this clear.
    One comment stated that banks that have previously received 
approval from the FDIC should have the option of complying with the 
original order or the new regulation. The FDIC agrees with this 
approach. Because previously granted approvals may contain conditions 
that are different from the standards that are established in this 
proposal, in certain circumstances, the bank may elect to operate under 
the restrictions of this proposal. Specifically, the bank may comply 
with the investment and transaction limitations between the bank and 
its subsidiaries contained in Sec. 362.4(d), the capital requirement 
limitations detailed in Sec. 362.4(e), and the subsidiary restrictions 
as outlined in the term ``eligible subsidiary'' and contained in 
Sec. 362.4(c)(2) in lieu of similar requirements contained in its 
approval order. Any conditions that are specific to a bank's situation 
and do not fall within the above limitations will continue to be 
effective. Language has been added to the final rule to clarify that 
once a bank elects to follow the regulatory restrictions instead of 
those in the approval order, the bank may not elect to revert to the 
applicable conditions of the order.
    An insured state bank that has received a previous approval and 
qualifies for the exception in Sec. 362.4(b)(5)(i) relating to real 
estate investment activities that do not exceed 2 percent of the bank's 
tier one capital may take advantage of the exceptions contained in that 
section without further application or notice to the FDIC. Additional 
regulatory language clarifying this point has been added to the final 
rule in Sec. 362.5(a).
    The FDIC has also approved certain activities through its current 
regulations. Specifically, the FDIC has incorporated and modified the 
restrictions of Sec. 337.4 in this revision. The revised rule will 
allow an insured state nonmember bank engaging in a securities activity 
covered by Sec. 362.4(b)(5)(ii), which has engaged in such activity 
prior to this rule's effective date in accordance with Sec. 337.4, to 
continue those activities if the bank and its subsidiary meet the 
restrictions of Sec. 362.4(b)(5)(ii), (c), (d), and (e). For securities 
activity covered by Sec. 362.4(b)(5)(ii), the FDIC intends that these 
requirements replace the restrictions contained in Sec. 337.4.
    The FDIC recognizes that the requirements of the final rule differ 
from the requirements of Sec. 337.4. Because the transition from the 
current Sec. 337.4 requirements to the new regulatory requirements may 
have unforeseen implementation problems, the bank and its subsidiary 
will have one year from the effective date to comply with new 
restrictions and conditions without further application or notice to 
the FDIC. If the bank and its subsidiary are unable to comply within 
the one-year time period, the bank must apply in accordance with 
Sec. 362.4(b)(1) and subpart G of part 303 to continue with the 
securities underwriting activity. Commenters did not object to this 
transition language and it is being implemented as proposed.
    The restrictions for engaging in grandfathered insurance 
underwriting through a subsidiary have also been changed from the 
current regulation. The current regulation prescribes disclosures, 
requires that the subsidiary be a bona fide subsidiary, and requires 
that the bank be adequately capitalized after deducting the bank's 
investment in the grandfathered insurance subsidiary. The revisions 
rely on disclosures to bank customers when required by the Interagency 
Statement, require that the subsidiary meet the requirements of an 
eligible subsidiary, and require that the bank be well-capitalized 
after deducting its investment in the grandfathered insurance 
subsidiary. The FDIC recognizes that these standards are not the same 
as previous requirements, and the capital standard in particular is 
more stringent. For grandfathered insurance conducted at the bank 
level, the final rule also makes certain changes from the current rule, 
including the requirement that the bank disclose the separate nature of 
the department to insurance customers. Section 362.5(b)(2) of the final 
rule provides that an insured state bank which is engaged in providing 
insurance as principal may continue that activity if it complies with 
the final rule within 90 days of the effective date of the regulation. 
If the bank is unable to comply with these provisions setting forth the 
FDIC's guidance for conducting grandfathered insurance activities in a 
safe and sound manner, the bank should submit a notice to the FDIC 
concerning the deficiencies.
    Insured state banks that have subsidiaries that have been operating 
under the exceptions relating to owning stock of a company engaged in 
activities permissible for a bank service corporation or activities 
that are not ``as principal'' in the current regulation are now subject 
to new requirements including the requirement that the subsidiary have 
at least a control interest in the company conducting the activity. The 
scope of authorized activities has also been changed slightly. Any bank 
affected by these changes will have 90 days to meet the requirements of 
the final rule. If the bank or its subsidiary does not meet these 
requirements, the bank must apply for the FDIC's consent. The FDIC does 
not intend to use this request for consent as a punitive measure; 
however, the FDIC would like to review a bank's investment in these 
equity securities of companies that are engaged in these activities. 
Comments did not indicate any circumstance in which this request for 
consent may be necessary.
    The FDIC also is requiring that an insured state bank that converts 
from a savings association charter and engages in activities through a 
subsidiary, even if such activity was permissible for a subsidiary of a 
federal savings
[[Page 66312]]
association, shall make application or provide notice, whichever 
applies, to the FDIC to continue the activity unless the activity and 
manner and amount in which the activity is operated is one that the 
FDIC has determined by regulation does not pose a significant risk to 
the deposit insurance fund. Since the statutory and regulatory systems 
developed for savings associations are different from the bank systems, 
the FDIC believes that any institution that converts its charter should 
be subject to the same regulatory requirements as other institutions 
with the same type of charter.
    If, prior to conversion, the savings association had received 
approval from the FDIC to continue through a subsidiary the activity of 
a type or in an amount that was not permissible for a federal savings 
association, the converted insured state bank need not reapply for 
consent provided the bank and subsidiary continue to comply with the 
terms of the approval order, meet all the conditions and restrictions 
for being an eligible subsidiary contained in Sec. 362.4(c)(2), comply 
with the investment and transactions limits of Sec. 362.4(d), and meet 
the capital requirement of Sec. 362.4(e). If the converted bank or its 
subsidiary, as applicable, does not comply with all these requirements, 
the bank must obtain the FDIC's consent to continue the activity. The 
FDIC has imposed these conditions to fill a regulatory gap. Savings 
associations and their service corporations are subject to regulatory 
standards of separation, the savings association is limited in the 
amount it may invest in the service corporation, and the savings 
association must deduct its investment in the service corporation from 
its capital if the service corporation engages in activities that are 
not permissible for a national bank. The eligible subsidiary standard, 
the investment and transaction limits, and the capital requirements 
replace these standards once the savings association has converted its 
charter to a bank.
    If the bank does not receive the FDIC's consent for its subsidiary 
to continue an activity, the bank must divest its nonconforming 
investment in the subsidiary within two years of the date of conversion 
either by divesting itself of its subsidiary or by the subsidiary 
divesting itself of the impermissible activity. The FDIC did not 
receive comment concerning these transition issues for charter 
conversions. The final rule adopts the language as proposed.
B. Subpart B--Safety and Soundness Rules Governing State Nonmember 
Banks
Section 362.6  Purpose and Scope
    This subpart, along with the notice and application provisions of 
subpart G of part 303, applies to certain banking practices that may 
have adverse effects on the safety and soundness of insured state 
nonmember banks. The FDIC intends to allow insured state nonmember 
banks and their subsidiaries to undertake only safe and sound 
activities and investments that would not present a significant risk to 
the deposit insurance fund and that are consistent with the purposes of 
federal deposit insurance and other law. The safety and soundness 
standards of this subpart apply to activities undertaken by insured 
state nonmember banks through a subsidiary if those activities are 
permissible for a national bank subsidiary but that are not permissible 
for the national bank itself. This subpart addresses only real estate 
investment activities undertaken through a subsidiary; however, the 
FDIC is issuing concurrently a notice of proposed rulemaking published 
elsewhere in today's Federal Register which addresses securities 
underwriting and distribution activities conducted by a subsidiary of 
an insured state nonmember bank if those activities are permissible for 
a national bank only through a subsidiary. The FDIC has a long history 
of considering the risks from activities such as real estate investment 
and securities underwriting and distribution to be unsafe and unsound 
for a bank to undertake without appropriate safeguards to address that 
risk. The FDIC also proposes a notice requirement for other activities 
permissible for a national bank only through a subsidiary.
    Additionally, this subpart sets forth the standards that apply when 
affiliated organizations of insured state nonmember banks that are not 
affiliated with a bank holding company conduct securities activities. 
The collective business enterprises of these entities are commonly 
described as nonbank bank holding company affiliates. The FDIC has a 
long history of considering the risks from the conduct of securities 
activities by affiliates of insured state nonmember banks to be unsafe 
and unsound without appropriate safeguards to address those risks. This 
rule incorporates many of the standards currently applicable to these 
entities through Sec. 337.4 of the FDIC's regulations. This rule will 
replace Sec. 337.4 although that section of the FDIC's rules will not 
be eliminated until the FDIC finalizes its rule regarding securities 
activities of subsidiaries. The scope of this regulation is narrower 
than Sec. 337.4 due to intervening regulations promulgated by other 
Federal banking agencies that render more comprehensive rules 
unnecessary. In addition, the FDIC has updated the restrictions and 
brought them into line with modern views of appropriate securities 
safeguards between affiliates and insured banks.
Section 362.7  Definitions
    The definitions of ``activity'', ``company'', ``control'', ``equity 
security'', ``insured state nonmember bank'', ``real estate investment 
activity'', ``security'', and ``subsidiary'' apply as is described 
above in subpart A. These definitions remain consistent to avoid 
confusion among the various subparts of this regulation.
    This subpart introduces restrictions on activities of entities that 
are commonly owned with the insured state bank by a holding company 
that is not considered to be a bank holding company under the Bank 
Holding Company Act. Therefore, for the purposes of this subpart, 
``affiliate'' is defined as any company that directly or indirectly, 
through one or more intermediaries, controls or is under common control 
with an insured state nonmember bank. The proposed definition of the 
term ``affiliate'' was not intended to include a subsidiary of an 
insured state nonmember bank, and language expressly stating this has 
been added in the final rule to clarify this point. Subsidiaries of 
insured state nonmember banks engaged in these activities are already 
covered by Sec. 362.4(b)(5)(ii).
Section 362.8  Restrictions on Activities of Insured State Nonmember 
Banks
    Real Estate. Since national banks are generally prohibited from 
owning and developing real estate, insured state banks have been 
required to apply to the FDIC under section 24 before undertaking or 
continuing such real estate activities. The FDIC has concluded as a 
result of its experience in reviewing these applications that while 
real estate investments generally possess many risks that are not 
readily comparable to other equity investments, institutions may 
contain these risks by undertaking real estate investments within 
certain parameters. The FDIC has considered the manner under which an 
insured state nonmember bank may undertake real estate investment 
activities and determined that insured state nonmember banks and their
[[Page 66313]]
subsidiaries should generally meet certain standards before engaging in 
real estate investment activities that are not permissible for national 
banks. As a result, the final rule establishes standards under which 
insured state nonmember banks may participate in real estate investment 
activities. These standards address the FDIC's safety and soundness 
concerns with real estate investment activities permissible for a 
national bank subsidiary but not for the national bank itself. 
Providing this listing of such standards will allow insured state 
nonmember banks to initiate investment activities with knowledge of 
what the FDIC considers when evaluating the safety and soundness of the 
operations of the institution and its subsidiaries. This rule 
simplifies and clarifies the standards under which insured state 
nonmember banks may conduct their investment activities while providing 
comprehensive and flexible regulation of the dealings between a bank 
and its subsidiaries.
    Certain standards under the regulation also pertain to the FDIC's 
willingness to allow an eligible institution to commence the activity 
after expedited notice to the FDIC, rather than a full application 
process. Under the FDIC's regulation, if an institution and its real 
estate investment operations meet the standards established, the 
institution need only file notice with the FDIC as outlined in subpart 
G of part 303. However, if the institution and its operations do not 
meet the general standards set forth in this rule, or if the 
institution so chooses, it may file application with the FDIC for the 
FDIC's consent, in accordance with procedures set out in subpart G of 
part 303.
    One commenter stated that establishing additional regulations on 
insured state nonmember banks is excessive. Such banks are already 
regulated by the state in which they are domiciled. The FDIC believes 
that the risks associated with real estate investment activities are 
such that it must establish standards for the conduct of that activity. 
The notice of proposed rulemaking contained an extensive discussion of 
these risks. In addition to the high degree of market variability, real 
estate markets are, for the most part, localized; investments are 
normally not securitized; financial information flow is often poor; and 
the market is generally not very liquid. A financial institution--like 
any other investor--faces substantial risks when it takes an equity 
position in a real estate venture. Market participants face a general 
trade-off: the riskier the project, the higher the required rate of 
return. A key aspect of that trade-off is the notion that a riskier 
project will entail a higher probability of significant losses for the 
investor. Assessments of the degree of risk will depend on factors 
affecting future returns such as cyclical economic developments, 
technological advances, structural market changes, and the project's 
sensitivity to financial market changes.
    The FDIC recognizes its ongoing responsibility to ensure the safe 
and sound operation of insured state nonmember banks and their 
subsidiaries. Although this subpart creates new regulation for insured 
state nonmember banks, the FDIC does not believe that this burden is 
too great in relation to the risks of real estate investment 
activities.
    Another commenter expressed concern about consistency stating that 
the unintended consequence of this approach may result in different 
regulatory treatment applicable to insured state nonmember banks as 
opposed to national banks and state member banks. Another comment 
echoes this sentiment stating that it is likely that national banks 
will be subject to case by case restrictions of the OCC but these 
restrictions will not carry the weight and force of those set by 
regulation. The commenter recommends parallel treatment between 
national and state banks. The FDIC does not believe it is in the best 
interest of insured state nonmember banks to automatically follow the 
safety and soundness restrictions of an interpretation, order, circular 
or official bulletin issued by the OCC regarding real estate investment 
activities that are permissible for the subsidiary of a national bank 
but are not permissible for a national bank itself. The process 
established in this subpart gives insured state nonmember banks the 
option to apply to the FDIC to engage in real estate investment 
activities suggesting whatever criteria the applicant believes to be 
appropriate for the risk involved with the activity. The standards set 
forth in this regulation allow applicants to use an expedited notice 
procedure. These standards are not absolute criteria that the FDIC 
cannot vary. If the FDIC adopted the regulatory and interpretive 
standards set by the OCC, insured state nonmember banks would have no 
flexibility to request variance from these standards. The FDIC believes 
that the risks may be different for different real estate investment 
activities. Therefore, the flexible approach established in this 
regulation is important in finding appropriate standards for the risks 
presented. State nonmember banks are treated consistently with national 
banks in that each must submit a request to their primary Federal 
regulator to engage in real estate investment activities through a 
subsidiary.
    Another comment states that the regulatory differences between 
state and national institutions harm the dual banking system especially 
during a period of rapid interstate expansion. The FDIC is a strong 
supporter of the dual banking system. For insured state nonmember banks 
to compete effectively, the supervisory system should be expeditious in 
its response to the industry. This regulation establishes procedures in 
which insured state nonmember banks may use a notice procedure and 
follow standards established in this regulation or may file an 
application and request variance from these standards. The FDIC 
believes that a system that allows an insured state nonmember bank to 
directly petition its primary federal regulator to conduct real estate 
investment activities in a subsidiary is more appropriate than a 
situation in which these activities of insured state nonmember banks 
are restricted by regulations, orders and interpretations of the OCC.
    Section 362.8(a) of the regulation addresses the FDIC's ongoing 
supervisory concerns regarding real estate investment activities and 
imposes procedures to address the FDIC's concerns about the safety and 
soundness of these activities. Depending upon the facts, the potential 
risks inherent in a bank subsidiary's involvement in real estate 
investment activities may make restrictions and limitations necessary 
to protect the bank and ultimately the deposit insurance funds from 
losses associated with the significant risks inherent in real estate 
investment activities.
    To address its safety and soundness concerns about real estate 
investment activities not permissible for a national bank, the FDIC has 
adopted the same standards when insured state banks conduct those real 
estate investment activities regardless of whether those real estate 
investment activities are permissible for a national bank subsidiary. 
This subpart addresses the impact on insured state nonmember banks if 
the OCC were to approve applications submitted by national banks to 
conduct real estate investment activities through operating 
subsidiaries.
    Unless the FDIC has previously given its approval for the bank to 
engage in the particular real estate investment activity that is not 
permissible for a national bank, an insured state nonmember bank must 
file a notice or
[[Page 66314]]
application with the FDIC in order to directly or indirectly undertake 
a real estate investment activity, even if the real estate investment 
activity is permissible for the subsidiary of a national bank. To 
qualify for the notice provision under this new regulation, the insured 
state nonmember bank and its subsidiary must meet the standards 
established in Sec. 362.4(b)(5)(i). After filing a notice as provided 
for in subpart G of part 303 to which the FDIC does not object, the 
institution may then proceed with its investment activities. If the 
insured state nonmember bank and its subsidiary do not meet the 
standards established under the rule, or if the institution so chooses, 
an application for the FDIC's consent may be filed under the procedures 
set out in subpart G of part 303.
    Affiliation With Securities Companies. Section 362.8(b) reflects 
the FDIC's longstanding view that an unrestricted affiliation with a 
securities company may have adverse effects on the safety and soundness 
of insured state nonmembers banks. This section reiterates the 
Sec. 337.4 prohibition against any affiliation by an insured state 
nonmember bank with any company that directly engages in the 
underwriting of stocks, bonds, debentures, notes, or other securities 
which is not permissible for a national bank unless certain conditions 
are met. The final rule permits the affiliation only if:
    (1) The securities business of the affiliate is physically separate 
and distinct in its operations from the operations of the bank, 
provided that this requirement shall not be construed to prohibit the 
bank and its affiliate from sharing the same facility if the area where 
the affiliate conducts retail sales activity with the public is 
physically distinct from the routine deposit taking area of the bank;
    (2) The affiliate has a chief executive officer who is not an 
employee of the bank;
    (3) A majority of the affiliate's board of directors are not 
directors, officers, or employees of the bank;
    (4) The affiliate conducts business pursuant to independent 
policies and procedures designed to inform customers and prospective 
customers of the affiliate that the affiliate is a separate 
organization from the bank and the state-chartered depository 
institution is not responsible for and does not guarantee the 
obligations of the affiliate;
    (5) The bank adopts policies and procedures, including appropriate 
limits on exposure, to govern their participation in financing 
transactions underwritten by an underwriting affiliate;
    (6) The bank does not express an opinion on the value or the 
advisability of the purchase or sale of securities underwritten or 
dealt in by an affiliate unless it notifies the customer that the 
entity underwriting, making a market, distributing or dealing in the 
securities is an affiliate of the bank;
    (7) The bank does not purchase as principal or fiduciary during the 
existence of any underwriting or selling syndicate any securities 
underwritten by the affiliate unless the purchase is approved by the 
bank's board of directors before the securities are initially offered 
for sale to the public;
    (8) The bank did not condition any extension of credit to any 
company on the requirement that the company contract with, or agree to 
contract with, the bank's affiliate to underwrite or distribute the 
company's securities;
    (9) The bank did not condition any extension of credit or the 
offering of any service to any person or company on the requirement 
that the person or company purchase any security underwritten or 
distributed by the affiliate; and
    (10) The bank complies with the investment and transaction 
limitations of Sec. 362.4(d). These standards have been adopted as 
proposed although the language of Sec. 362.8(b)(4) has been changed to 
be consistent with that proposed in subpart A.
    Many of the restrictions and prohibitions listed above are 
contained currently in Sec. 337.4. Additionally, the conditions that 
are imposed, under Sec. 362.4(b)(5)(ii), on subsidiaries which engage 
in the sale, distribution, or underwriting of securities such as 
adopting independent policies and procedures governing participation in 
financing transactions underwritten by an affiliate, expressing 
opinions on the advisability of the purchase or sale of particular 
securities, and purchasing securities as principal or fiduciary only 
with prior board approval have been added. As indicated earlier, the 
prohibition against shared officers has been eased and now only refers 
to the chief executive officer. Comments did not object to these 
standards and they are not being adopted as proposed.
    As written, the regulation only applies these restrictions to an 
insured state nonmember bank affiliated with a company not treated as a 
bank holding company pursuant to section 4(f) of the Bank Holding 
Company Act (12 U.S.C. 1843(f)), that directly engages in the 
underwriting of stocks, bonds, debentures, notes, or other securities 
which are not permissible for a national bank. Other affiliates now 
covered by the safeguards of Sec. 337.4 would no longer be covered 
under the FDIC's regulations. Other affiliates are adequately separated 
from the banks by the restrictions imposed by the FRB. Therefore, the 
final regulation has been streamlined to eliminate duplicative coverage 
of these affiliates.
    Because of the bank/affiliate relationship covered by this subpart, 
the term ``investment'' also includes the bank's investment in the 
equity securities of the affiliate. This treatment is consistent with 
section 23A. No comment was received on this treatment and the 
definition of investment for subpart B is adopted as proposed.
    Disclosure provisions contained in Sec. 337.4 are not contained in 
this rule. If securities underwritten, distributed or sold by the 
affiliate are sold on bank premises, are sold by employees of the bank, 
or are sold subject to the bank receiving remuneration for the 
transaction, the sale is covered by the disclosures contained in the 
Interagency Statement on Retail Sales of Nondeposit Investment 
Products. Sales occurring outside these parameters are not likely to 
generate customer confusion; however, the affiliate is responsible for 
informing its customers that the affiliate is a separate organization 
from the bank and the bank is not responsible for and does not 
guarantee the obligations of the affiliate whenever confusion is likely 
to occur.
C. Subpart C--Activities of Insured State Savings Associations
Section 362.9  Purpose and Scope
    The intent of Sec. 362.9 is to clarify that the purpose and scope 
of subpart C is to ensure that activities and investments undertaken by 
insured state savings associations and their service corporations do 
not present a significant risk to the deposit insurance funds, are not 
unsafe and are not unsound, are consistent with the purposes of federal 
deposit insurance, and are otherwise consistent with law. This subpart, 
together with the notice and application procedures of subpart H of 
part 303, implements the provisions of section 28 of the FDI Act that 
restrict and prohibit insured state savings associations and their 
service corporations from engaging in activities and investments of a 
type that are not permissible for federal savings associations and 
their service corporations. The phrase ``activity permissible for a 
federal savings association'' means any activity authorized for federal 
savings associations under any statute including the Home Owners Loan 
Act (HOLA), as well as activities recognized as
[[Page 66315]]
permissible for a federal savings association in regulations, official 
thrift bulletins, orders or written interpretations issued by the OTS, 
or its predecessor, the Federal Home Loan Bank Board.
    Regarding insured state savings associations, this subpart governs 
only activities conducted ``as principal'' and therefore does not 
govern activities conducted as agent for a customer, conducted in a 
brokerage, custodial, advisory, or administrative capacity, conducted 
as trustee, or conducted in any substantially similar capacity. In the 
final rule, the FDIC has added a list of examples of what types of 
activities are not ``as principal.'' This change is consistent with the 
addition of such material to the purpose and scope section of subpart 
A. However, this subpart covers all activities regardless of whether 
conducted ``as principal'' or in another capacity at the service 
corporation level. This subpart does not restrict any interest in real 
estate in which the real property is (a) used or intended in good faith 
to be used within a reasonable time by an insured state savings 
association or its service corporations as offices or related 
facilities for the conduct of its business or future expansion of its 
business or (b) used as public welfare investments of a type and in an 
amount permissible for federal savings associations. Equity investments 
acquired in connection with debts previously contracted that are held 
within the shorter of the time limits prescribed by state or federal 
law are not subject to the limitations of this subpart.
    The FDIC intends to allow insured state savings associations and 
their service corporations to undertake only safe and sound activities 
and investments that do not present a significant risk to the deposit 
insurance funds and that are consistent with the purposes of federal 
deposit insurance and other applicable law. This subpart does not 
authorize any insured state savings association to make investments or 
conduct activities that are not authorized or that are prohibited by 
either federal or state law.
Section 362.10  Definitions
    Section 362.10 of the final regulation contains the definitions 
used in this subpart. Rather than repeating terms defined in subpart A, 
the definitions contained in Sec. 362.2 are incorporated into subpart C 
by reference. Included in the definitions are most of the terms 
currently defined in subpart G of Part 303, effective October 1, 1998, 
(formerly Sec. 303.13) of the FDIC's regulations. The proposed rule 
made editing changes primarily to enhance clarity without changing the 
meaning. However, certain changes were made to alter the meaning of the 
terms and these changes are identified in this discussion. The final 
rule adopts the proposed definitions without further change.
    The terms ``corporate debt securities not of investment grade'' and 
``qualified affiliate'' have been directly imported into subpart C from 
subpart G (Sec. 303.141) without substantive change. Substantially the 
same ``control'' and ``equity security'' definitions are incorporated 
by reference to subpart A. The last sentence of the current ``equity 
security'' definition, which excludes equity securities acquired 
through foreclosure or settlement in lieu of foreclosure, was deleted 
for the same reason that similar language was deleted from several 
definitions in subpart A. Language is now included in the purpose and 
scope paragraph explaining that equity investments acquired through 
such actions are not subject to the regulation. No substantive change 
from current rules is intended by this modification.
    Consistent with the proposal, modified versions of ``activity'', 
``equity investment'', ``significant risk to the fund'', and 
``subsidiary'' were also carried forward by reference to subpart A. As 
proposed, the definition of activity was expanded to encompass all 
activities including acquiring or retaining equity investments. This 
change was made to conform the ``activity'' definition used in the 
regulation to that provided in the governing statutes. Both sections 24 
and 28 of the FDI Act define activity to include acquiring or retaining 
any investment. Sections of this part governing activities other than 
acquiring or retaining equity investments include statements 
specifically excluding the activity of acquiring or retaining equity 
investments.
    Consistent with the proposal, the ``equity investment'' definition 
was modified to better identify its components. The definition includes 
any ownership interest in any company. This change was made to clarify 
that ownership interests in limited liability companies, business 
trusts, associations, joint ventures and other entities separately 
defined as a ``company'' are considered equity investments. 
Additionally, as proposed, the definition was expanded to include any 
membership interest that includes a voting right in any company, and a 
sentence was added excluding from the definition any of the identified 
items when taken as security for a loan. The intended effect of these 
changes is not to broaden the scope of the regulation, but instead to 
clarify the FDIC's position that such investments are all considered 
equity investments notwithstanding the form of business organization.
    Consistent with the proposal, the definition of ``significant 
risk'' was effectively retitled ``significant risk to the fund'' by the 
reference to subpart A. As proposed, a second sentence was added to the 
definition explaining that a significant risk to the fund may be 
present either when an activity or an equity investment contributes or 
may contribute to the decline in condition of a particular state-
chartered depository institution or when a type of activity or equity 
investment is found by the FDIC to contribute or potentially contribute 
to the deterioration of the overall condition of the banking system. 
This sentence is intended to elaborate on the FDIC's position that the 
absolute size of a projected loss in comparison to the deposit 
insurance funds is not determinative of the issue. Additionally, it 
clarifies the FDIC's position that risk to the fund may be present even 
if a particular activity or investment may not result in the imminent 
failure of an institution. The FDIC received four comments addressing 
this definition which are detailed in the discussion of the applicable 
definition in subpart A.
    With the exception of substituting the separately defined term 
``company'' for the list of entities such as corporations, business 
trusts, associations, and joint ventures currently in the 
``subsidiary'' definition, the final rule makes little change from the 
current definition. It is noted that limited liability companies are 
now included in the company definition and, by extension, are included 
in the subsidiary definition. The only other change from current rules 
is that in the definition of subsidiary, the exclusion of ``insured 
depository institutions'' for purposes of Sec. 303.146 (as effective 
October 1, 1998, formerly Sec. 303.13(f)) has been moved to the purpose 
and scope section of proposed subpart D. No substantive changes are 
intended by these modifications. The FDIC received no comments on these 
definitions which are adopted as proposed.
    While proposed subpart C retained substantially the same ``service 
corporation'' definition as the current rule, the proposal deleted the 
word ``only'' from the phrase ``available for purchase only by savings 
associations''. This change was intended to make it clear that a 
service corporation of an insured state savings association may invest 
in lower-tier service corporations if allowed by this part or FDIC 
order, and it is consistent with the recently
[[Page 66316]]
amended part 559 of the OTS' regulations (12 CFR part 559). The change 
was not intended to alter the nature of the requirements governing the 
savings association's equity investment in the first-tier service 
corporation. No comments were received on this change and the final 
rule adopts it as proposed.
    As in subpart A and consistent with the proposal, the definition of 
``equity interest in real estate'' was deleted in the final regulation. 
The exceptions detailed in Sec. 303.141(e) (as effective October 1, 
1998, formerly Sec. 303.13(a)(5)) of the current definition were moved 
to the purpose and scope paragraph. As a result, readers are now 
informed that these excepted real estate investments are not subject to 
this regulation. The FDIC believes that the remaining content of the 
current definition fails to provide any meaningful clarity or 
understanding. Therefore, the FDIC will instead rely on the ``equity 
investment'' definition to include relevant real estate investments. A 
related change was made to the ``equity investment'' definition by 
deleting the reference to ``equity interest in real estate'' and 
replacing it with language to include any interest in real estate 
(excluding real estate that is not within the scope of this part). No 
substantive changes are intended by these modifications.
    Consistent with the proposal, a definition for the term ``insured 
state savings association'' is added to the final rule. Because this 
term is not explicitly defined in section 3 of the FDI Act, this 
definition was added to ensure readers clearly understand that an 
insured state savings association means any state chartered savings 
association insured by the FDIC.
    Other terms that were previously undefined, but that are added by 
the general incorporation of the definitions in subpart A should not 
result in any substantive changes to the meanings of those terms as 
currently used in subpart G of part 303, effective October 1, 1998, 
(formerly Sec. 303.13) of the FDIC's regulations.
Section 362.11  Activities of Insured State Savings Associations
    Equity investment prohibition. Section 362.11(a)(1) of the final 
regulation replaces the provisions of Sec. 303.144(a) (as effective 
October 1, 1998, formerly Sec. 303.13(d)) of the FDIC's current 
regulations and restates the statutory prohibition preventing insured 
state savings associations from making or retaining any equity 
investment of a type, or in an amount, not permissible for a federal 
savings association. The prohibition does not apply if the statutory 
exception (restated in the current regulation and carried forward in 
the proposal) contained in section 28 of the FDI Act applies. With the 
exception of deleting items no longer applicable due to the passage of 
time, this provision is retained as currently in effect without any 
substantive changes.
    Exception for service corporations. The final regulation retains 
the exception now in Sec. 303.144(b) (as effective October 1, 1998, 
formerly Sec. 303.13(d)(2)) which allows investments in service 
corporations as currently in effect without any substantive change. 
However, consistent with the proposal, the FDIC has modified the 
language of this section using a structure paralleling that found in 
proposed subpart A permitting insured state banks to invest in 
majority-owned subsidiaries. Similar to the treatment accorded insured 
state banks, an insured state savings association must meet and 
continue to be in compliance with the capital requirements prescribed 
by the appropriate federal banking agency and the FDIC must determine 
that the activities to be conducted by the service corporation do not 
present a significant risk to the relevant deposit insurance fund. 
However, unlike the treatment accorded banks, the FDIC must also 
determine that the amount of the investment does not present a 
significant risk to the relevant deposit insurance fund. The criteria 
identified in the preceding sentences are derived directly from the 
underlying statutory language. For an insured state savings association 
to invest in service corporations engaging in activities that are not 
permissible for a service corporation of a federal savings association, 
the service corporation must be engaging in activities or acquiring and 
retaining investments described in Sec. 362.12(b) as regulatory 
exceptions to the general prohibition.
    We moved language currently in Sec. 303.144(b)(2) (as effective 
October 1, 1998, formerly Sec. 303.13(d)) concerning the filing of 
applications to acquire an equity investment in a service corporation 
to Sec. 303.141 of the amended subpart H of part 303.
    Activities other than equity investments. Section 362.11(b) of the 
final regulation replaces the sections now found at Secs. 303.142, 
303.143 and 303.144 (as effective October 1, 1998, formerly 
Secs. 303.13(b), 303.13(c), and 303.13(e), respectively) of the FDIC's 
regulations. As proposed, some portions of the existing sections have 
been eliminated because they are no longer necessary due to the passage 
of time, and other portions have been edited and reformatted in a 
manner consistent with the corresponding sections of subpart A. 
Language currently in the referenced sections of part 303 concerning 
notices and applications has been edited, reformatted, and moved to the 
amended subpart H of part 303.
    Prohibited activities. Section 362.11(b)(1) of the final regulation 
restates the statutory prohibition that insured state savings 
associations may not directly engage as principal in any activity of a 
type, or in an amount, that is not permissible for a federal savings 
association unless the activity meets a statutory or regulatory 
exception. Similar to language found in subpart A for insured state 
banks, the proposed rule added language to clarify that this 
prohibition does not supersede the equity investment exception of 
Sec. 362.11(a)(2). The FDIC added this language because acquiring or 
retaining any investment is defined as an activity. The language has 
been adopted in the final rule without change from the proposal.
    The statutory prohibition preventing state and federal savings 
associations from directly, or indirectly through a subsidiary (other 
than a subsidiary that is a qualified affiliate), acquiring or 
retaining any corporate debt that is not of investment grade after 
August 9, 1989, is also carried forward from what is now Sec. 303.145 
(as effective October 1, 1998, formerly Sec. 303.13(e)) of the FDIC's 
regulations. However, consistent with the proposal, the Sec. 303.145 
requirement was deleted. The referenced section required savings 
institutions to file divestiture plans concerning corporate debt that 
was not of investment grade and that was held in a capacity other than 
through a qualified affiliate. Divestiture was required by no later 
than July 1, 1994, rendering that provision unnecessary due to the 
passage of time.
    Exceptions to the other activities prohibition. The statutory 
exception to the other activities prohibition contained in section 28 
of the FDI Act continues to function in a manner similar to the 
relevant provisions of what is now found in subpart H of part 303. The 
regulation continues to permit an insured state savings association to 
retain any asset (including a nonresidential real estate loan) acquired 
prior to August 9, 1989. However, corporate debt securities that are 
not of investment grade may only be purchased or held by a qualified 
affiliate. Whether or not the security is of investment grade is 
measured only at the time of acquisition.
    Additionally, the FDIC has provided regulatory exceptions to the 
other
[[Page 66317]]
activities prohibition. The first exception retains the application 
process now found at Sec. 303.142 (as effective October 1, 1998, 
formerly Secs. 303.13(b)(1)) and provides insured state savings 
associations with the option of applying to the FDIC for approval to 
engage in an activity of a type that is not permissible for a federal 
savings association. Additionally, the notice process currently found 
at Sec. 303.143 (as effective October 1, 1998, formerly 
Sec. 303.13(c)(1)) is carried forward for insured state savings 
associations that want to engage in activities of a type permissible 
for a federal savings association, but in an amount exceeding that 
permissible for federal savings associations. The final regulation adds 
a regulatory exception enabling insured state savings associations to 
acquire and retain adjustable rate, money market preferred stock, and 
instruments determined by the FDIC to have similar characteristics 
without submitting an application to the FDIC if the acquisition is 
done within the prescribed limits.
    The final regulation deletes a proposed exception that would have 
allowed an insured state savings association to engage as principal in 
any activity that is not permissible for a federal savings association 
provided that the FRB has found the activity to be closely related to 
banking pursuant to 4(c)(8) of the Bank Holding Company Act (12 U.S.C. 
1843(c)(8)). Upon further analysis, the FDIC determined that this 
exception would have little utility because most of the activities 
authorized by the FRB under the referenced authority are already 
permissible for federal savings associations or are otherwise addressed 
in this regulation. In the preamble to the proposal, the FDIC requested 
comment from savings associations on whether the proposed standard was 
appropriate and beneficial. The FDIC received only one comment, 
indicating that state savings associations were generally unaware of 
what is authorized by the 4(c)(8) list and that the FDIC should be more 
specific. The FDIC has decided to eliminate the reference and 
specifically address those activities that are allowed. The elimination 
of this proposed authority is consistent with the FDIC's elimination of 
the corresponding authority for state banks in subpart A.
    Consent obtained through application. Section 28 prohibits insured 
state savings associations from directly engaging in activities of a 
type or in an amount not permissible for a federal savings association 
unless: (1) The association meets and continues to meet the capital 
standards prescribed by the appropriate federal financial institution 
regulator; and (2) the FDIC determines that conducting the activity in 
the additional amount will not present a significant risk to the 
relevant deposit insurance fund. Section 362.11(b)(2)(i) establishes an 
application option for savings associations that meet the relevant 
capital standards and that seek the FDIC's consent to engage in 
activities that are otherwise prohibited. The substance of this process 
is unchanged from the relevant sections of part 303 of the FDIC's 
current regulations. The regulation is being adopted without change 
from its proposed form.
    Nonresidential realty loans permissible for a federal savings 
association conducted in an amount not permissible. Consistent with the 
proposal, the final regulation carries forward and modifies the 
provision now found at Sec. 303.142 (as effective October 1, 1998, 
formerly Sec. 303.13(b)(1)) of this chapter requiring an insured state 
savings association that wants to hold nonresidential real estate loans 
in an amount exceeding the limits described in section 5(c)(2)(B) of 
HOLA (12 U.S.C. 1464 (c)(2)(B)) to apply for the FDIC's consent. Unlike 
the current regulation, the final regulation enables the insured state 
savings association to submit a notice to seek the FDIC's approval 
instead of an application. This change is nonsubstantive and is made to 
expedite the process for insured state savings associations wanting to 
exceed the referenced limits. None of the comments submitted addressed 
this change.
    Acquiring and retaining adjustable rate and money market preferred 
stock. The final regulation extends to insured state savings 
associations a revised version of the proposed regulatory exception 
allowing an insured state bank to invest in up to 15 percent of its 
tier one capital in adjustable rate preferred stock and money market 
(auction rate) preferred stock without filing an application with the 
FDIC. By statute, however, insured savings associations are restricted 
in their ability to purchase debt that is not of investment grade. This 
regulatory exception does not override that statutory prohibition and 
any instruments purchased must comply with that statutory constraint. 
Additionally, this exception is only extended to savings associations 
meeting and continuing to meet the applicable capital standards 
prescribed by the appropriate federal financial institution regulator.
    When this regulatory exception was adopted for insured state banks 
in 1992, the FDIC found that adjustable rate preferred stock and money 
market (auction rate) preferred stock were essentially substitutes for 
money market investments such as commercial paper and that their 
characteristics are closer to debt than to equity securities. 
Therefore, money market preferred stock and adjustable rate preferred 
stock were excluded from the definition of equity security. As a 
result, these investments are not subject to the equity investment 
prohibitions of the statute and the regulation, and they are considered 
an ``other activity'' for the purposes of this regulation.
    This exception focuses on two categories of preferred stock. This 
first category, adjustable rate preferred stock refers to shares where 
dividends are established by contract through the use of a formula 
based on Treasury rates or some other readily available interest rate 
levels. Money market preferred stock refers to those issues where 
dividends are established through a periodic auction process that 
establishes yields in relation to short term rates paid on commercial 
paper issued by the same or a similar company. The credit quality of 
the issuer determines the value of the security, and money market 
preferred shares are sold at auction.
    The FDIC continues to believe that the activity of investing up to 
15 percent of an institution's tier one capital in the referenced 
instruments does not represent a significant risk to the deposit 
insurance funds. Furthermore, the FDIC believes the same funding option 
should be available to insured state savings associations and extends a 
similar exception to savings associations subject to the same revised 
limits.
    Additionally, like a similar provision in subpart A, the final 
regulation allows the state savings associations to acquire and retain 
other instruments of a type determined by the FDIC to have the 
character of debt securities provided the instruments do not represent 
a significant risk to the deposit insurance funds. A recent example of 
such an instrument is trust preferred stock. Trust preferred stock is a 
hybrid instrument possessing characteristics typically associated with 
debt obligations. Trust preferred securities are issued by an issuer 
trust that uses the proceeds to purchase subordinated deferrable 
interest debentures in a corporation. The corporation guarantees the 
obligations of the issuer trust and agrees to indemnify third parties 
for other expenses and liabilities incurred by the issuer trust. Taken 
together, the debentures, guarantee, and expense indemnity agreement 
constitute a full, irrevocable, and unconditional guarantee of the 
obligations of the issuer
[[Page 66318]]
trust by the issuer corporation. With the exception of credit risk, 
investors in trust preferred stock are protected from changes in the 
value of the instruments. Like investors in debt securities, trust 
preferred stock investors do not share any appreciation in the value of 
the issuer and have no voting rights in the management or ordinary 
course of business of the issuer. Additionally, trust preferred stock 
is not perpetual and distributions on the stock resemble the periodic 
interest payments on debt. In essence, such investments are 
functionally equivalent to investments in the underlying debentures. 
Investments in such instruments are aggregated with investments in 
adjustable rate and money market preferred stock for purposes of 
applying the limit of 15 percent of tier one capital.
    Guarantee activities. When drafting the proposal, the FDIC 
considered adding an exception for guarantee activities including 
credit card guarantee programs and comparable arrangements that would 
have been similar to that which we proposed to delete from subpart A. 
These programs typically involve a situation where an institution 
guarantees the credit obligations of its retail customers. Although the 
FDIC continues to believe that these activities present no significant 
risk to the deposit insurance funds, the FDIC proposed deleting this 
activity from subpart A because it was determined that national banks, 
and therefore insured state banks, may already engage in the 
activities. The FDIC determined that federal savings associations, and 
by extension insured state savings associations, may engage in these 
activities as well. The FDIC received no comments advocating the 
addition of an exception for these activities and, as a result, no 
exception was crafted.
Section 362.12  Service Corporations of Insured State Savings 
Associations
    Section 362.12 of the final regulation governs the activities of 
service corporations of insured state savings associations and 
generally replaces what is now found at Sec. 303.144(b) (as effective 
October 1, 1998, formerly Sec. 303.13(d)(2)) of the FDIC's regulations. 
The section reorganizes the substance of the current regulation and 
consolidates all provisions concerning the activities of service 
corporations into the same section. Language currently in 
Sec. 303.144(b) (as effective October 1, 1998, formerly 
Sec. 303.13(d)(2)) concerning applications was revised and moved to 
Secs. 303.141 and 303.142 of subpart H of part 303. Additionally, the 
FDIC extended several regulatory exceptions closely resembling similar 
exceptions provided to subsidiaries of insured state banks in subpart A 
of this final regulation. The FDIC notes that if the service 
corporation is a new subsidiary or is a subsidiary conducting a new 
activity, all of the exceptions in Sec. 362.12 remain subject to the 
notice provisions contained in section 18(m) of the FDI Act which are 
now being implemented in subpart D of this regulation.
    General prohibition. A service corporation of an insured state 
savings association may not engage in any activity that is not 
permissible for a service corporation of a federal savings association 
unless the savings association submits an application and receives the 
FDIC's consent or the activity qualifies for a regulatory exception. 
This provision does not represent a substantive change from the current 
regulation. The regulatory language implementing this prohibition has 
been separated from the restrictions in Sec. 362.11 prohibiting an 
insured state savings association from directly engaging in activities 
which are not permissible for a federal savings association. By 
separating the savings association's activities and those of a service 
corporation, Sec. 362.12 deals exclusively with activities that may be 
conducted by a service corporation of an insured state savings 
association.
    Consent obtained through application. Consistent with the proposal, 
the final regulation continues to allow insured state savings 
associations to submit applications seeking the FDIC's consent to 
engage in activities through a service corporation that are otherwise 
prohibited. Section 362.12(b)(1) carries forward the substance of the 
application option in Sec. 303.144(b) (as effective October 1, 1998, 
formerly Sec. 303.13(d)(2)) of the FDIC's current regulations. Approval 
will be granted only if: (1) The savings association meets and 
continues to meet the applicable capital standards prescribed by the 
appropriate federal banking agency; and (2) the FDIC determines that 
conducting the activity in the requested amount will not present a 
significant risk to the relevant deposit insurance fund.
    Service corporations conducting unrestricted activities.
    The FDIC has found that it is not a significant risk to the deposit 
insurance fund if a service corporation engages in certain activities 
as long as the insured state savings association continues to meet the 
applicable capital standards prescribed by the appropriate federal 
banking agency. One of these activities, authorized by 
Sec. 362.12(b)(2)(i) of the final rule, is owning a control interest in 
a company that engages in securities activities authorized by 
Sec. 362.12(b)(4), provided the activity is conducted pursuant to the 
limitations and requirements of Sec. 362.12(b)(4), including the 
requirement that the insured state savings association files a notice 
with the FDIC to which the FDIC does not object. The regulation 
specifies that both the service corporation and the lower tier company 
must meet the investment and transaction limits, and the capital 
deduction, that would apply if the service corporation engaged in the 
securities activities directly under Sec. 362.12(b)(4), to ensure that 
the service corporation is not used as a conduit to the lower tier 
company in derogation of these requirements. The savings association 
must also meet the same core eligibility requirements that would apply 
if the service corporation engaged in the activity directly, and the 
savings association and the lower tier company must meet certain 
additional requirements in Sec. 362.12(b)(4). However, with regard to 
the core eligibility requirements applicable to a service corporation 
conducting the activity under Sec. 362.12(b)(4), these may be observed 
by the service corporation, or in the alternative by the lower tier 
company if the company takes corporate form.
    The FDIC also extended a regulatory exception enabling service 
corporations to acquire and retain equity securities of a company 
engaged in the following activities: (1) Activities permissible for a 
federal savings association; (2) any activity permissible for the 
savings association itself under Sec. 362.11(b)(2)(iii); or (3) 
insurance agency activities. The service corporation must either own a 
controlling interest in a company engaging in these activities, or the 
company must be controlled by insured depository institutions. The FDIC 
provided similar exceptions to majority-owned subsidiaries of insured 
state banks in subpart A. Sections 362.12(b)(2) (i) through (ii) are 
intended to cover a service corporation's investment in lower level 
subsidiaries engaged in activities that the FDIC has found to present 
no significant risk to the deposit insurance fund.
    The final version differs from the proposal in that, as is the case 
in the corresponding provision of subpart A, the FDIC created a limited 
exception to the control requirement under Sec. 362.12(b)(2)(ii) if the 
company is controlled by a group of insured depository institutions. 
This accommodates community associations
[[Page 66319]]
wishing to form a consortium of associations to provide financial 
services for their customers that one association cannot provide on a 
cost effective basis.
    The final version also differs from the proposal in that, as is the 
case in the corresponding provision of subpart A, the activities 
authorized for the lower-level company are not identical to the 
activities proposed.15 The FDIC made this change to remain 
consistent with subpart A. The rule as adopted does not eliminate any 
authorization granted by current rules, and the FDIC received no 
comments on the proposal, so the change from the proposed activities 
will have no impact on state savings associations.
---------------------------------------------------------------------------
    \15\ The proposal would have authorized the lower tier company 
to engage in any activity permissible for a federal savings 
association; hold adjustable rate or money market preferred stock up 
to 15 percent of tier one capital; engage in activities (subject to 
certain exceptions) authorized by the FRB under section 4(c)(8) of 
the Bank Holding Company Act; or engage in activity not as 
principal.
---------------------------------------------------------------------------
    Section 28 of the FDI Act requires the FDIC's consent before a 
service corporation may engage in any activity that is not permissible 
for a service corporation of a federal savings association. While the 
language of section 28 governs only activities conducted ``as 
principal'' by insured state savings associations, the ``as principal'' 
language was not extended to service corporations in the governing 
statute. This means that even if the activity is not conducted ``as 
principal'', the subpart C prohibition applies if the activity is not 
permissible for a service corporation of a federal savings association.
    Because the FDIC believes that activities conducted other than ``as 
principal'' present no significant risk to the relevant deposit 
insurance fund, we provided an exception in Sec. 362.12(b)(2)(iii) 
allowing a service corporation of an insured state savings association 
to act other than ``as principal,'' if the savings association meets 
and continues to meet the applicable capital standards prescribed by 
its appropriate federal banking agency. The FDIC received no comments 
on this exception. The final regulation also requires a savings 
association to own a control interest in a service corporation 
conducting the activities. The control requirement was added to more 
closely approximate the treatment accorded to insured state banks and 
their subsidiaries. Insured state bank subsidiaries can act other than 
``as principal.'' However, a subsidiary is defined as being a company 
controlled by a depository institution. Therefore, the control standard 
imposed in this section equates the ownership interest requirements of 
insured state savings associations and insured state banks. 
Additionally, it helps differentiate between an insured state savings 
association controlling a company and simply investing in the shares of 
a company.
    The FDIC also provided, at Sec. 362.12(b)(2)(iv) of the final rule, 
an exception allowing service corporations of qualifying savings 
associations to invest in adjustable rate preferred stock, money market 
(auction rate) preferred stock, and other instruments of a type 
determined by the FDIC to have the character of debt securities 
provided the instruments do not represent a significant risk to the 
deposit insurance funds. Investments by a service corporation in these 
instruments are combined with and subject to the same limits applicable 
to the parent savings association. The FDIC did not receive any 
comments on extending this exception to insured state savings 
associations and the exception is adopted as proposed.
    Owning equity securities that do not represent a control interest. 
For the same reasons previously stated in the preamble discussion of 
subpart A, no notice procedure is being adopted at this time. Staff has 
been instructed to undertake further study of the proposal.
    Securities underwriting. Section 362.12(b)(4) of the final 
regulation allows an insured state savings association to acquire or 
retain an investment in a service corporation that underwrites or 
distributes securities that would not be permissible for a federal 
savings association to underwrite or distribute if notice is filed with 
the FDIC, the FDIC does not object to the notice before the end of the 
notice period, and a number of conditions are and continue to be met.
    This exception enabling service corporations to underwrite or 
distribute securities is patterned on the exception found in subpart A 
(see Sec. 362.4(b)(5)(ii)). In both cases, the state-chartered 
depository institution must conduct the securities activity in 
compliance with the core eligibility requirements, the same additional 
requirements listed for this activity in subpart A, and the investment 
and transaction limits. The savings association also must meet the 
capital requirements and the service corporation must meet the 
``eligible subsidiary'' requirements as an ``eligible service 
corporation''. Since the requirements are the same as those imposed in 
subpart A and the risks of the activity are identical, the discussion 
in subpart A is not repeated here.
    Notice of change in circumstance. Like subpart A, the final rule 
requires the insured state savings association to provide written 
notice to the appropriate Regional Office of the FDIC within 10 
business days of a change in circumstances concerning its securities 
subsidiary authorized by Sec. 362.12(b)(4). Under the regulation, a 
change in circumstances is described as a material change in the 
service corporation's business plan or management. Together with the 
insured state savings association's primary federal financial 
institution regulator, the FDIC believes that it may address a savings 
association's falling out of compliance with any of the other 
conditions of approval through the normal supervision and examination 
process.
    The FDIC is concerned about changes in circumstances which result 
from changes in management or changes in a service corporation's 
business plan. If material changes to either condition occur, the 
regulation requires the association to submit a notice of such changes 
to the appropriate FDIC regional director (DOS) within 10 days of the 
material change. The material change standard includes such events as a 
change in chief executive officer of the service corporation or a 
change in investment strategy or type of business or activity engaged 
in by the service corporation. The FDIC received two comments 
concerning the change of circumstance notice. Both comments indicated 
that the notice is burdensome and unnecessary. The comments argue that 
a change in the chief executive office or investment strategies are 
routine. The FDIC places significant reliance on the management 
structure and business plan presented when an activity is approved for 
a service corporation. The FDIC does not consider either change to be 
routine and believes that it is important that the FDIC be aware of 
material changes in the operations of service corporations engaging in 
activities that are not permissible for a service corporation of a 
federal savings association. One comment requested that the notice 
period be extended from 10 to 30 days. The FDIC believes that both a 
change in management and a change in the business plan of the service 
corporation are matters that should receive significant consideration 
before these events occur. The FDIC does not believe that it is 
unreasonable to require notices of these events within 10 days. 
Therefore, the final regulation retains the requirement that a notice 
of change of circumstances be submitted to the
[[Page 66320]]
Regional Director within 10 business days after any such change.
    The FDIC will communicate its concerns regarding the continued 
conduct of an activity after a change in circumstances with the 
appropriate persons from the insured state savings association's 
primary federal banking agency. The FDIC will work with the identified 
persons from the primary federal banking agency to develop the 
appropriate response to the new circumstances.
    The FDIC does not intend to require any savings association which 
falls out of compliance with eligibility conditions to immediately 
cease any activity in which the savings association had been engaged. 
Instead, the FDIC will deal with each situation on a case-by-case basis 
through its supervision and examination process. In short, the FDIC 
intends to utilize its supervisory and regulatory tools in dealing with 
any savings association's failure to meet the eligibility requirements 
on a continuing basis. The issue of the savings association's ongoing 
activities will be dealt with in the context of that effort. The FDIC 
believes that the case-by-case approach to whether a savings 
association will be permitted to continue an activity is preferable to 
forcing a savings association to, in all instances, immediately cease 
the activity. Such an inflexible approach could exacerbate an already 
unfortunate situation that probably is receiving supervisory attention.
    Core eligibility requirements. The proposed regulation imports by 
reference the core eligibility requirements listed in subpart A. Refer 
to the discussion on this topic provided under subpart A for additional 
information. When reading the referenced discussion, ``subsidiary'' and 
``majority-owned subsidiary'' should be replaced with ``service 
corporation''. Additionally, ``eligible subsidiary'' should be replaced 
with ``eligible service corporation''. Finally, ``insured state savings 
association'' should be read to replace ``bank'' or ``insured state 
bank''. Comments addressing these provisions and the FDIC's response 
are discussed in the relevant section of the preamble for subpart A. 
The FDIC received no comments directly relating to the application of 
these requirements to insured state savings associations.
    Investment and transaction limits. The final regulation contains 
investment limits and other requirements that apply to an insured state 
savings association and its service corporations engaging in activities 
that are not permissible for a federal savings association if the 
requirements are imposed by FDIC order or expressly imposed by 
regulation. In general, the provisions: (1) Impose an aggregate limit 
on a savings association's investment in all service corporations that 
engage in an activity that is covered by the investment limits; (2) 
require extensions of credit from a savings association to these 
service corporations to be fully-collateralized when made; (3) prohibit 
low quality assets from being taken as collateral on such loans; and 
(4) require that transactions between the savings association and its 
service corporations be on an arm's length basis. The proposed limit 
restricting a savings association's investment in any one service 
corporation engaging in the same activity that is not permissible for a 
service corporation of a federal savings association was deleted for 
the same reason the requirement was dropped from subpart A.
    Like the treatment accorded insured state banks, the regulation 
expands the definition of insured state savings association for the 
purposes of the investment and transaction limitations. A savings 
association includes not only the insured entity, but also any service 
corporation or subsidiary that is engaged in activities that are not 
subject to these investment and transaction limits. Sections 23A and 
23B of the Federal Reserve Act combine a bank and all of its 
subsidiaries in imposing investment limitations and transaction 
restrictions between the bank and its affiliates. The FDIC is using the 
same concept in separating subsidiaries and service corporations 
conducting activities that are subject to investment and transaction 
limits from the insured state savings association and any other service 
corporations and subsidiaries engaging in activities not subject to the 
investment and transaction limits.
    The only exception to these restrictions is for arm's length 
extensions of credit made by the savings association to finance sales 
of assets by the service corporation to third parties. These 
transactions do not need to comply with the collateral requirements and 
investment limitations, provided they meet certain arm's-length 
standards. The imposition of section 23A-type restrictions is intended 
to make sure that adequate safeguards are in place for the dealings 
between the insured state savings association and its service 
corporations.
    Investment limits. In a manner similar to that applied to insured 
state banks in subpart A, the final rule imposes limits on certain of 
the insured state savings association's investments in service 
corporations conducting activities that are not permissible for a 
service corporation of a federal savings association. These investments 
are limited to 20 percent of the association's tier one capital for the 
aggregate of all activities covered by the investment limits. As is the 
case with the ``investment'' definition used in the relevant section of 
subpart A, investments subject to the applicable limits include: (1) 
Extensions of credit to any person or company for which an insured 
state savings association accepts securities issued by the service 
corporation as collateral; and (2) any extensions or commitments of 
credit to a third party for investment in the subsidiary, investment in 
a project in which the subsidiary has an interest, or extensions of 
credit or commitments of credit which are used for the benefit of, or 
transferred to, the subsidiary. These provisions also resemble items 
included in covered transactions subject to the section 23A limits.
    However, the ``investment'' definition also is somewhat dissimilar 
from that used in subpart A due to underlying statutory differences. 
The definition of investment for insured state savings associations 
excludes extensions of credit provided to the service corporation and 
any of its debt securities owned by the savings association. While 
these items are included in the investment definition in subpart A, 
insured state banks are not, unlike state savings associations, 
required by law to deduct these items from regulatory capital. The 
investment definition coverage in subpart C has been limited because an 
insured state savings association is required by the Home Owners' Loan 
Act or OTS regulations to deduct from its regulatory capital any 
extensions of credit provided to a service corporation and any debt 
securities owned by the savings association that were issued by a 
service corporation engaging in activities that are not permissible for 
a national bank. 12 U.S.C. 1464(t)(5)(A). Since the regulatory 
exceptions in subpart C that invoke the investment limits are not 
activities permissible for a national bank, insured state savings 
associations are required by the referenced statute to deduct these 
items from regulatory capital. The FDIC finds no reason to impose 
investment limits on amounts completely deducted from capital and 
therefore imposes the investment limit only on items that are not 
deducted from regulatory capital.
    Like subpart A, the regulation calculates the 20 percent limit 
based on tier one capital while section 23A uses total capital. As was 
discussed in reference to subpart A, the FDIC is using
[[Page 66321]]
tier one capital as its standard to create consistency throughout the 
regulation.
    Transaction requirements. The arm's length transaction requirement, 
prohibition on purchasing low quality assets, the insider transaction 
restriction, and the anti-tying restriction are applicable between an 
insured state savings association and a service corporation to the same 
extent and in the same manner as that described in subpart A between an 
insured state bank and certain majority-owned subsidiaries. The 
discussion of this topic in subpart A discusses the comments and 
changes from the proposal.
    Collateralization requirement. The collateralization requirement in 
Sec. 362.4(d)(4) also is applicable between an insured state savings 
association and a service corporation to the same extent and in the 
same manner as described in subpart A. Refer to the discussion of this 
topic in subpart A for the treatment of the comments.
    Capital requirements. Under the final rule, an insured state 
savings association using the notice process to invest in a service 
corporation engaging in certain activities not permissible for a 
federal savings association must be ``well-capitalized'' after 
deducting from its regulatory capital any investment in the service 
corporation, both debt and equity, unless otherwise relieved of this 
requirement. The bank's risk classification assessment under part 327 
is also determined after making the same deduction. This standard 
reflects the FDIC's belief that only well-capitalized institutions 
should be allowed, either without notice or by using the notice 
process, to engage through service corporations in activities that are 
not permissible for service corporations of federal savings 
associations. All savings associations failing to meet this standard 
and wanting to engage in such activities should be subject to the 
scrutiny of the application process. The FDIC received no comments 
concerning this provision.
    Approvals previously granted. The final regulation, at Sec. 362.13, 
does not require insured state savings associations that have 
previously received consent by order or notice from this agency to 
reapply to continue the activity provided the savings association and 
service corporation, as applicable, continue to comply with the 
conditions of the order of approval. The FDIC does not intend to 
require insured state savings associations to request consent to engage 
in an activity which has already been approved.
    Because previously granted approvals may contain conditions that 
are different from the standards that are established in the final 
rule, in certain circumstances, the insured state savings association 
may elect to operate under the restrictions of the rule, instead of the 
order. In that case, the insured state savings association may comply 
with the investment and transaction limitations between the savings 
association and its service corporations contained in Sec. 362.12(c), 
the capital requirement detailed in Sec. 362.12(d), and the service 
corporation restrictions as outlined in the term ``eligible service 
corporation'' (by substitution) and contained in Sec. 362.4(c)(2) in 
lieu of any similar requirements in its approval order. Any conditions 
that are specific to a savings association's situation and do not fall 
within the above limitations will continue to be effective. The FDIC 
intends that once a savings association elects to follow these proposed 
restrictions instead of those in the approval order, it may not elect 
to revert to the applicable conditions of the order.
    Real estate investment activities. Comments describing the contents 
of subpart A include an extensive discussion of the FDIC's concerns 
with real estate investment activities. Subpart A of the final 
regulation contains significant provisions regarding the real estate 
investment activities of majority-owned subsidiaries of insured state 
banks. Additionally, subpart B addresses real estate activities of 
majority-owned subsidiaries that may become permissible for national 
bank subsidiaries.
    The FDIC believes real estate investment activities present similar 
risks when conducted by a service corporation of an insured state 
savings association. However, subpart C of the proposal does not 
incorporate any of the requirements imposed in subparts A and B on real 
estate activities conducted by bank subsidiaries. While the FDIC 
attempted to conform the treatment of insured state banks and their 
subsidiaries and that of insured state savings associations and their 
service corporations, differences in the governing statutes resulted in 
some variances.
    Service corporations of federal savings associations may engage in 
numerous real estate investment activities and, therefore, these 
activities are permissible for service corporations of insured state 
savings associations. However, because real estate investment 
activities are not permissible for a national bank, insured state 
savings associations are required by the Home Owners' Loan Act or 
regulations issued by the OTS to deduct from their regulatory capital 
any investment in a service corporation engaging in these activities. 
This deduction includes both the savings association's investments in 
debt and equity of, and extensions of credit to, the service 
corporation. There are also statutory limitations on the amount of a 
savings association's investments in and credit extensions to service 
corporations.
    Given that: (1) Real estate investment activities are permissible 
for service corporations of federal savings associations; (2) there are 
statutory requirements regarding the capital deduction; and (3) there 
are statutory limitations on investments and credit extensions, the 
proposal did not contain any provisions concerning the real estate 
investment activities of service corporations of insured savings 
associations. As a result, the arm's length transaction requirements, 
the prohibition on purchasing low quality assets, the insider 
transaction restriction, and the collateralization requirements were 
not applied to transactions between an insured savings association and 
a service corporation engaging in real estate investment activities. 
Additionally, neither the insured savings association nor the service 
corporation was required to meet the eligibility standards; nor was a 
notice required to be submitted to the FDIC (unless a notice is needed 
pursuant to proposed subpart D).
    The FDIC specifically requested comment on whether provisions 
should be added to part 362 subjecting service corporations of insured 
savings state savings associations to the eligibility requirements and 
various restrictions implemented in subparts A and B. Despite this 
request, no comments were received addressing this issue. After further 
consideration, the FDIC has decided not to impose any of the discussed 
requirements at this time. The FDIC will instead continue to defer to 
the statutory authority enabling service corporations to engage in the 
subject real estate activities.
    Notice that a federal savings association is conducting activities 
grandfathered under section 5(i)(4) of HOLA. Section 303.147 (as 
effective October 1, 1998, formerly Sec. 303.13(g)) of the FDIC's 
current regulations requires any federal savings association that is 
authorized by section 5(i)(4) of HOLA to conduct activities that are 
not normally permitted for federal savings associations to file a 
notice of that fact with the FDIC. Section 5(i)(4) of HOLA provides 
that any federal savings bank chartered as such prior to October 15, 
1982, may continue to make investments and continue to conduct
[[Page 66322]]
activities it was permitted to conduct prior to October 15, 1982. It 
also provides that any federal savings bank organized prior to October 
15, 1982, that was formerly a state mutual savings bank may continue to 
make investments and engage in activities that were authorized to it 
under state law. Finally, the provision confers this grandfather on any 
federal savings association that acquires by merger or consolidation 
any federal savings bank that enjoys the grandfather.
    The notice requirement contained in Sec. 303.147 (as effective 
October 1, 1998, formerly Sec. 303.13(g)) was deleted in the final 
regulation. The notice was not required by law and was formerly imposed 
by the FDIC as an information gathering tool. The FDIC determined that 
eliminating the notice will reduce burden and will not materially 
affect the FDIC's supervisory responsibilities.
D. Subpart D of Part 362 Acquiring, Establishing, or Conducting New 
Activities Through a Subsidiary by an Insured Savings Association
Section 362.14  Purpose and Scope
    Subpart D implements the statutory requirement of section 18(m) of 
the FDI Act. Section 18(m) requires that prior notice be given to the 
FDIC when an insured savings association, either federal or state, 
establishes or acquires a subsidiary or engages in any new activity in 
a subsidiary. This requirement is based on the FDIC's role of ensuring 
that activities and investments of insured savings associations do not 
represent a significant risk to the affected deposit insurance fund. In 
fulfilling that role, the FDIC needs to be aware of the activities 
contemplated by subsidiaries of insured savings associations. It is 
noted that for purposes of this subpart, a service corporation is a 
subsidiary, but the term subsidiary does not include any insured 
depository institution as that term is defined in the FDI Act. Because 
this requirement applies to both federal and state savings 
associations, the final regulation segregates the implementing 
requirements of the FDIC's regulations into a separate subpart D. In 
that manner, the requirement is highlighted for both federal and state 
savings associations. The FDIC adopts Sec. 362.14 without change from 
the proposal.
    Notice of the acquisition or establishment of a subsidiary, or 
notice that an existing subsidiary will conduct new activities. Section 
303.146 (as effective October 1, 1998, formerly Sec. 303.13(f)) of the 
FDIC's current regulations establishes an abbreviated notice procedure 
concerning subsidiaries created to hold real estate acquired pursuant 
to DPC (after the first notice, additional real estate subsidiaries 
created to hold real estate acquired through DPC could be established 
after providing the FDIC with 14 days prior notice) and lists the 
content of the notice. The second item is also deleted because the FDIC 
seeks to conform all notice periods used in this regulation. While 
Sec. 362.15 continues to require a prior notice, the required content 
of the notice was revised in a manner consistent with that required for 
other notices under this regulation and moved to Sec. 303.141 of 
subpart H of part 303. The FDIC wants to make it clear that any notice 
or application submitted to the FDIC pursuant to a provision of subpart 
C of this regulation will satisfy the notice requirement of this 
subpart D.
    The FDIC received no comments on either the proposed structure of 
this subpart or the proposed treatment of the required notices. The 
final regulation incorporates these changes as proposed, with one 
exception. Consistent with the current rule, the savings association 
must submit the notice at least 30 days before establishing the new 
subsidiary or commencing the new activity.
Part 303
Subpart G--Activities of Insured State Banks
Overview
    As a part of this rulemaking, Part 303--Filing Procedures and 
Delegations of Authority, is amended to include a new subpart G 
containing application procedures and delegations of authority for the 
substantive matters covered by the regulation for insured state 
banks.\16\ As discussed above, the FDIC has prepared a complete 
revision of part 303 of the FDIC's rules and regulations containing the 
FDIC's applications procedures and delegations of authority. As part of 
these revisions to part 303, subpart G of part 303 has been reserved 
for this purpose. The application procedures were detailed in subpart E 
of the part 362 proposal but are now being relocated to subpart G of 
part 303, to centralize all banking application and notice procedures 
in one convenient place.
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    \16\ Under the FDIC's current rules, these application 
requirements are located in various sections of three different 
regulations: 12 CFR 303, 12 CFR 337.4 and 12 CFR 362.
---------------------------------------------------------------------------
    The FDIC received four comments about its proposed application 
procedures. One commenter generally applauded the FDIC's adoption of 
expedited notice procedures as being consistent with congressional 
intent to reduce regulatory burden on banks. The remaining three 
comments are discussed in turn below. After careful consideration of 
these comments, the FDIC has decided they raise no issues warranting 
substantive changes to the proposed procedures. The FDIC has made 
certain technical changes to the proposed procedures, but these consist 
of minor revisions in order to make the procedures consistent with the 
other subparts of part 303, as adopted in its final form and published 
at 63 FR 44686 (August 20, 1998).
Section 303.120  Scope
    This subpart contains the procedural and other information for any 
application or notice that must be submitted under the requirements 
specified for activities and investments of insured state banks and 
their subsidiaries under subparts A and B of part 362, including the 
format, information requirements, FDIC processing deadlines, and other 
pertinent guidelines or instructions. The regulation also contains 
delegations of authority from the Board of Directors to the director 
and deputy director of the Division of Supervision.
    Definitions. The proposed subpart E of part 362 contained 
definitions of the following terms: ``Appropriate regional director'', 
``appropriate deputy regional director'', ``appropriate regional 
office'', ``associate director'', ``deputy director'', ``deputy 
regional director'', ``DOS'', ``director'', and ``regional director''. 
These definitions have been eliminated since these terms are defined in 
part 303, and separate definitions are unnecessary.
    Although other subparts of part 303 rely on part 303's definition 
of an ``eligible insured depository institution'' in connection with 
granting expedited processing for certain FDIC applications, subpart G 
does not rely on the part 303 definition. A bank's eligibility for 
expedited notice processing in connection with an approval required 
under subpart A or B of part 362 is determined under the criteria 
contained in part 362.
Section 303.121  Filing Procedures
    This section explains to insured state banks where they should 
file, how they should file and the contents of any filing, including 
any copies of any application or notice filed with another agency.
    This section also explains that the appropriate regional director 
may request additional information. The FDIC does not anticipate that 
there will
[[Page 66323]]
be a need routinely to request additional information; however, this 
reservation is made in anticipation of differences in the way 
activities are proposed to be conducted.
    One commenter expressed concerns regarding the regulation's 
requirement that the bank submit a copy of the order or other document 
from the appropriate regulatory authority granting approval for the 
bank to conduct the activity, if such approval is necessary and has 
already been granted. The commenter was concerned that this would 
foreclose the bank from making simultaneous submissions to state 
regulatory authorities and the FDIC. To the contrary, the language at 
the end of the sentence, ``if such approval * * * has already been 
granted'' will accommodate parallel processing. The bank need not wait 
until the state has issued an approval before applying to the FDIC. The 
regulatory language permits the bank to make necessary submissions to 
the state and FDIC in whatever order the bank sees fit. Of course, 
banks are reminded that an FDIC approval under subpart A or B of part 
362 is not sufficient on its own; the activity in question must still 
be authorized under state law, including any approvals thereunder, 
before the bank may commence the activity. Where the pendency of state 
approval creates uncertainty as to the manner or extent to which the 
activity will be conducted, the appropriate regional director will 
request additional information from the bank concerning the state 
approval, and the notice or application may not be sufficiently 
complete for the FDIC to be able to process it until such uncertainties 
are resolved.
Section 303.122  Processing
    This section sets out the procedures for the FDIC's processing of 
notices and applications. The expedited processing period for notices 
will normally be 30 days, subject to extension for an additional 15 
days upon written notice to the bank. If the FDIC removes a notice from 
expedited processing because of significant supervisory concerns, legal 
or policy issues, or other good cause, as set out in the rule, standard 
processing will be used. For notices removed in this manner, or for 
activities requiring a full application rather than a notice, the FDIC 
will normally review and act within 60 days after receipt of a 
completed application, subject to extension for an additional 30 days 
upon written notice to the bank. One comment supported the notice 
process as regulatory burden reduction. Two comments questioned the 
time periods for processing. One stated that the 30-and 60-day time 
frames do not reflect business reality. The commenter requested that 
institutions have advanced approval to invest up to 10 percent of 
capital. The other questioned the notice process, stating that the FDIC 
will not have sufficient opportunity to review the request. Because of 
the differences among the activities presented, the FDIC does not feel 
that advance approval is a viable alternative. Given normal lead times 
for business planning appropriate to a bank's decision to enter into a 
new field of business activity, and given that the regulation does not 
require FDIC approval on a project-by-project basis, the FDIC does not 
believe the proposed time periods will impede banks' ability to compete 
effectively. The notice and application procedures provide an expedited 
processing time, but the FDIC feels the time constraints are sufficient 
for appropriate supervisory consideration. Therefore, no changes have 
been made to the proposed processing times.
Section 303.123  Delegation of Authority
    The authority to review and act upon applications and notices is 
delegated in this section. One substantive change to the existing 
delegation is the addition of the deputy director of the Division of 
Supervision. Another change authorizes the Director (DOS) to make 
determinations concerning instruments having the character of debt 
securities. This authority is granted to allow the FDIC to efficiently 
respond to market changes. Section 24 prohibits insured state banks 
from investing in equity securities. The FDIC has found that certain 
instruments have sufficient characteristics of debt securities that 
they may be excluded from the prohibition of investment in equity 
securities. If the capital markets create similar such instruments in 
the future, this provision permits the Director (DOS), either upon 
request or at the FDIC's instigation, to identify them as such and 
designate them as being eligible investments for state nonmember banks, 
subject to the 15 percent of tier one capital limit set under 
Sec. 362.3. The FDIC would notify state banks of such determination by 
issuing a Financial Institution Letter, or through other appropriate 
means.
Subpart H--Activities of Insured Savings Associations
Overview
    As a part of this rulemaking, part 303--Filing Procedures and 
Delegations of Authority, is amended to include a revised subpart H 
containing application procedures and delegations of authority for the 
substantive matters covered by the regulation for insured state savings 
associations. As discussed above, the FDIC has prepared a complete 
revision of part 303 of the FDIC's rules and regulations containing the 
FDIC's applications procedures and delegations of authority. As part of 
these revisions to part 303, subpart H of part 303 has been reserved 
for this purpose. The application procedures were detailed in subpart F 
of the part 362 proposal but are now being relocated to subpart H of 
part 303 to centralize all savings association application and notice 
procedures in one convenient place.
    The FDIC received no comments about its proposed application 
procedures. The FDIC has made certain technical changes to the proposed 
procedures, but these changes consist of minor revisions to make the 
procedures consistent with the other subparts of part 303, as adopted 
in its final form.
Section 303.140  Scope
    This subpart contains the procedural and other information for any 
application or notice that must be submitted under the requirements 
specified for activities and investments of insured state savings 
associations and their subsidiaries under subparts C and D or part 362, 
including the format, information requirements, FDIC processing 
deadlines, and other pertinent guidelines or instructions. The 
regulation also contains delegations of authority from the Board of 
Directors to the director and deputy director of the Division of 
Supervision.
Section 303.141  Definitions
    The proposed subpart F contained definitions of the following 
terms: ``Appropriate regional director'', ``appropriate deputy regional 
director'', ``appropriate regional office'', ``associate director'', 
``deputy director'', ``deputy regional director'', ``DOS'', 
``director'', and ``regional director''. These definitions have been 
eliminated since these terms are defined in part 303 and separate 
definitions are unnecessary.
    Although other subparts of part 303 rely on part 303's definition 
of an ``eligible insured depository institution'' in connection with 
granting expedited processing for certain FDIC applications, subpart H 
does not rely on the part 303 definition. A savings association's 
eligibility for expedited notice processing in connection with an 
approval required under subpart C or D of part 362 is determined under 
the criteria contained in part 362.
[[Page 66324]]
Section 303.141  Filing Procedures
    This section explains to insured savings associations where they 
should file, how they should file and the contents of any filing, 
including any copies of any application or notice filed with another 
agency.
    This section also explains that the appropriate regional director 
may request additional information. The FDIC does not anticipate that 
there will be a need routinely to request additional information; 
however, this reservation is made in anticipation of differences in the 
way activities are proposed to be conducted.
Section 303.142  Processing
    This section sets out the procedures for the FDIC's processing of 
notices and applications. The expedited processing period for notices 
will normally be 30 days, subject to extension for an additional 15 
days upon written notice to the bank. If the FDIC removes a notice from 
expedited processing because of significant supervisory concerns, legal 
or policy issues, or other good cause, as set out in the rule, standard 
processing will be used. For notices removed in this manner, or for 
activities requiring a full application rather than a notice, the FDIC 
will normally review and act within 60 days after receipt of a 
completed application, subject to extension for an additional 30 days 
upon written notice to the savings association.
Section 303.148  Delegation of Authority
    The authority to review and act upon applications and notices is 
delegated in this section. One substantive change to the existing 
delegation is the addition of the deputy director of the Division of 
Supervision. Another change authorizes the Director (DOS) to make 
determinations concerning instruments having the character of debt 
securities. This authority is granted to allow the FDIC to efficiently 
respond to market changes. Section 28 prohibits insured state 
associations from investing in equity securities. The FDIC has found 
that certain instruments have characteristics of debt securities and 
may be excluded from the prohibition of investment in equity 
securities. If the capital markets create similar such instruments in 
the future, this provision permits the Director (DOS), either upon 
request or at the FDIC's instigation, to identify them as such and 
designate them as being eligible investments for state nonmember banks, 
up to the 15 percent of tier one capital limit set under Sec. 362.3. 
The FDIC would notify state banks of such determination by issuing a 
Financial Institution Letter, or other appropriate means.
V. Paperwork Reduction Act
    In accordance with the requirements of the Paperwork Reduction Act 
of 1995 (PRA) (44 U.S.C. 3501 et seq.), the FDIC may not conduct or 
sponsor, and a person is not required to respond to, a collection of 
information unless it displays a currently valid OMB control number. 
Public comment was invited on two collections of information contained 
in the part 362 notice of proposed rulemaking and the two collections 
were submitted to the Office of Management and Budget (OMB) for review. 
No comment was received regarding either collection. OMB approved the 
first collection, Activities and Investments of Insured State Banks, 
under control number 3064-0111, which will expire November 30, 2000. 
OMB approved the second collection, Activities and Investments of 
Insured Savings Associations, under control number 3064-0104, which 
will expire November 30, 2000. The FDIC continues to welcome comment 
about the PRA aspects of this regulation. Such comment should identify 
the particular subpart and information collection for which 
consideration is desired and should be sent to Steven F. Hanft, 
Assistant Executive Secretary (Regulatory Analysis), Federal Deposit 
Insurance Corporation, Room F-4062, 550 17th Street NW, Washington, DC 
20429.
VI. Regulatory Flexibility Act Analysis
    Pursuant to section 605(b) of the Regulatory Flexibility Act, the 
FDIC certifies that this rule will not have a significant economic 
impact on a substantial number of small entities. The rule streamlines 
requirements for all insured state banks and insured state savings 
associations. The requirements for insured federal savings associations 
are statutory and remain unchanged by this rule. It simplifies the 
requirements that apply when insured state banks and insured state 
savings associations create, invest in, or conduct new activities 
through majority-owned corporate subsidiaries and service corporations, 
respectively, by eliminating requirements for any filing or reducing 
the burden from filing an application to filing a notice in other 
instances. The rule also simplifies the information required for both 
notices and applications. Whenever possible, the rule clarifies the 
expectations of the FDIC when it requires notices or applications to 
consent to activities by insured state banks and insured state savings 
associations. The rule will make it easier for small insured state 
banks and insured state savings associations to locate the rules that 
apply to their investments.
VII. Small Business Regulatory Enforcement Fairness Act
    The Small Business Regulatory Enforcement Fairness Act of 1996 
(SBREFA) (Title II, Public Law 1004-121) provides generally for 
agencies to report rules to Congress for review. The reporting 
requirement is triggered when a federal agency issues a final rule. 
Accordingly, the FDIC will file the appropriate reports with Congress 
as required by SBREFA.
    The Office of Management and Budget has determined that this final 
rule does not constitute a ``major rule'' as defined by SBREFA.
List of Subjects
12 CFR Part 303
    Administrative practice and procedure, Authority delegations 
(Government agencies), Bank deposit insurance, Banks, banking, Bank 
merger, Branching, Foreign branches, Golden parachute payments, Insured 
branches, Interstate branching, Reporting and recordkeeping 
requirements, Savings associations.
12 CFR Part 337
    Banks, banking, Reporting and recordkeeping requirements, 
Securities.
12 CFR Part 362
    Administrative practice and procedure, Authority delegations 
(Government agencies), Bank deposit insurance, Banks, banking, Insured 
depository institutions, Investments, Reporting and recordkeeping 
requirements.
Authority and Issuance
    For the reasons set forth above and under the authority of 12 
U.S.C. 1819(a)(Tenth), the FDIC Board of Directors hereby amends 12 CFR 
chapter III as follows:
PART 303--FILING PROCEDURES AND DELEGATIONS OF AUTHORITY
    1. The authority citation for part 303 is revised to read as 
follows:
    Authority: 12 U.S.C. 378, 1813, 1815, 1816, 1817, 1818, 1819 
(Seventh and Tenth), 1820, 1823, 1828, 1831a, 1831e, 1831o, 1831p-1, 
1835a, 3104, 3105, 3108, 3207; 15 U.S.C. 1601-1607.
    2. Revise the subpart G heading and add subpart G, consisting of 
Secs. 303.120 through 303.123, to read as follows:
[[Page 66325]]
Subpart G--Activities of Insured State Banks
Sec.
303.120  Scope.
303.121  Filing procedures.
303.122  Processing.
303.123  Delegation of authority.
Subpart G--Activities of Insured State Banks
Sec. 303.120  Scope.
    This subpart sets forth procedures for complying with notice and 
application requirements contained in subpart A of part 362 of this 
chapter, governing insured state banks and their subsidiaries engaging 
in activities which are not permissible for national banks and their 
subsidiaries. This subpart also sets forth procedures for complying 
with notice and application requirements contained in subpart B of part 
362 of this chapter, governing certain activities of insured state 
nonmember banks, their subsidiaries, and certain affiliates.
Sec. 303.121  Filing procedures.
    (a) Where to file. A notice or application required by subpart A or 
subpart B of part 362 of this chapter shall be submitted in writing to 
the appropriate regional director (DOS).
    (b) Contents of filing--(1) Filings generally. A complete letter 
notice or letter application shall include the following information:
    (i) A brief description of the activity and the manner in which it 
will be conducted;
    (ii) The amount of the bank's existing or proposed direct or 
indirect investment in the activity as well as calculations sufficient 
to indicate compliance with any specific capital ratio or investment 
percentage limitation detailed in subpart A or B of part 362 of this 
chapter;
    (iii) A copy of the bank's business plan regarding the conduct of 
the activity;
    (iv) A citation to the state statutory or regulatory authority for 
the conduct of the activity;
    (v) A copy of the order or other document from the appropriate 
regulatory authority granting approval for the bank to conduct the 
activity if such approval is necessary and has already been granted;
    (vi) A brief description of the bank's policy and practice with 
regard to any anticipated involvement in the activity by a director, 
executive office or principal shareholder of the bank or any related 
interest of such a person; and
    (vii) A description of the bank's expertise in the activity.
    (2) [Reserved]
    (3) Copy of application or notice filed with another agency. If an 
insured state bank has filed an application or notice with another 
federal or state regulatory authority which contains all of the 
information required by paragraph (b) (1) of this section, the insured 
state bank may submit a copy to the FDIC in lieu of a separate filing.
    (4) Additional information. The appropriate regional director (DOS) 
may request additional information to complete processing.
Sec. 303.122  Processing.
    (a) Expedited processing. A notice filed by an insured state bank 
seeking to commence or continue an activity under Sec. 362.4(b)(3)(i), 
Sec. 362.4(b)(5), or Sec. 362.8(a)(2) of this chapter will be 
acknowledged in writing by the FDIC and will receive expedited 
processing, unless the applicant is notified in writing to the contrary 
and provided a basis for that decision. The FDIC may remove the notice 
from expedited processing for any of the reasons set forth in 
Sec. 303.11(c)(2). Absent such removal, a notice processed under 
expedited processing is deemed approved 30 days after receipt of a 
complete notice by the FDIC (subject to extension for an additional 15 
days upon written notice to the bank) or on such earlier date 
authorized by the FDIC in writing.
    (b) Standard processing for applications and notices that have been 
removed from expedited processing. For an application filed by an 
insured state bank seeking to commence or continue an activity under 
Sec. 362.3(a)(2)(iii)(A), Sec. 362.3(b)(2)(i), Sec. 362.3(b)(2)(ii)(A), 
Sec. 362.3(b)(2)(ii)(C), Sec. 362.4(b)(1), Sec. 362.4(b)(2), 
Sec. 362.4(b)(4), Sec. 362.5(b)(2), Sec. 362.8(a)(2), or Sec. 362.8(b) 
of this chapter or for notices which are not processed pursuant to the 
expedited processing procedures, the FDIC will provide the insured 
state bank with written notification of the final action as soon as the 
decision is rendered. The FDIC will normally review and act in such 
cases within 60 days after receipt of a completed application or notice 
(subject to extension for an additional 30 days upon written notice to 
the bank), but failure of the FDIC to act prior to the expiration of 
these periods does not constitute approval.
Sec. 303.123  Delegations of authority.
    (a) Instruments having the character of debt securities. Authority 
is delegated to the Director (DOS) to make determinations contemplated 
under Secs. 362.2(h) and 362.3(b)(2)(iii)(B) of this chapter.
    (b) Other applications, notices, and actions. The authority to 
review and act upon applications and notices filed pursuant to this 
subpart G and to take any other action authorized by this subpart G or 
subparts A and B of part 362 of this chapter is delegated to the 
Director (DOS), and except as limited by paragraph (a) of this section, 
to the Deputy Director and where confirmed in writing by the Director 
to an associate director and the appropriate regional director and 
deputy regional director.
    3. Revise subpart H to read as follows:
Subpart H--Activities of Insured Savings Associations
Sec.
303.140  Scope.
303.141  Filing procedures.
303.142  Processing.
303.143  Delegation of authority.
Subpart H--Activities of Insured Savings Associations
Sec. 303.140  Scope.
    This subpart sets forth procedures for complying with the notice 
and application requirements contained in subpart C of part 362 of this 
chapter, governing insured state savings associations and their service 
corporations engaging in activities which are not permissible for 
federal savings associations and their service corporations. This 
subpart also sets forth procedures for complying with the notice 
requirements contained in subpart D of part 362 of this chapter, 
governing insured savings associations which establish or engage in new 
activities through a subsidiary.
Sec. 303.141  Filing procedures.
    (a) Where to file. All applications and notices required by subpart 
C or subpart D of part 362 of this chapter are to be in writing and 
filed with the appropriate regional director.
    (b) Contents of filing--(1) Filings generally. A complete letter 
notice or letter application shall include the following information:
    (i) A brief description of the activity and the manner in which it 
will be conducted;
    (ii) The amount of the association's existing or proposed direct or 
indirect investment in the activity as well as calculations sufficient 
to indicate compliance with any specific capital ratio or investment 
percentage limitation detailed in subpart C or D of this chapter;
    (iii) A copy of the association's business plan regarding the 
conduct of the activity;
    (iv) A citation to the state statutory or regulatory authority for 
the conduct of the activity;
[[Page 66326]]
    (v) A copy of the order or other document from the appropriate 
regulatory authority granting approval for the association to conduct 
the activity if such approval is necessary and has already been 
granted;
    (vi) A brief description of the association's policy and practice 
with regard to any anticipated involvement in the activity by a 
director, executive officer or principal shareholder of the association 
or any related interest of such a person; and
    (vii) A description of the association's expertise in the activity.
    (2) [Reserved]
    (3) Copy of application or notice filed with another agency. If an 
insured savings association has filed an application or notice with 
another federal or state regulatory authority which contains all of the 
information required by paragraph (b) (1) of this section, the insured 
state bank may submit a copy to the FDIC in lieu of a separate filing.
    (4) Additional information. The appropriate regional director (DOS) 
may request additional information to complete processing.
Sec. 303.142  Processing.
    (a) Expedited processing. A notice filed by an insured state 
savings association seeking to commence or continue an activity under 
Sec. 362.11(b)(2)(i), Sec. 362.12(b)(2)(i), or Sec. 362.12(b)(4) of 
this chapter will be acknowledged in writing by the FDIC and will 
receive expedited processing, unless the applicant is notified in 
writing to the contrary and provided a basis for that decision. The 
FDIC may remove the notice from expedited processing for any of the 
reasons set forth in Sec. 303.11(c)(2). Absent such removal, a notice 
processed under expedited processing is deemed approved 30 days after 
receipt of a complete notice by the FDIC (subject to extension for an 
additional 15 days upon written notice to the bank) or on such earlier 
date authorized by the FDIC in writing.
    (b) Standard processing for applications and notices that have been 
removed from expedited processing. For an application filed by an 
insured state savings association seeking to commence or continue an 
activity under Sec. 362.11(a)(2), Sec. 362.11(b)(2), Sec. 362.12(b)(1) 
of this chapter or for notices which are not processed pursuant to the 
expedited processing procedures, the FDIC will provide the insured 
state savings association with written notification of the final action 
as soon as the decision is rendered. The FDIC will normally review and 
act in such cases within 60 days after receipt of a completed 
application or notice (subject to extension for an additional 30 days 
upon written notice to the bank), but failure of the FDIC to act prior 
to the expiration of these periods does not constitute approval.
    (c) Notices of activities in excess of an amount permissible for a 
federal savings association; subsidiary notices. Receipt of a notice 
filed by an insured state savings association as required by 
Sec. 362.11(b)(3) or Sec. 362.15 of this chapter will be acknowledged 
in writing by the appropriate regional director (DOS). The notice will 
be reviewed at the appropriate regional office, which will take such 
action as it deems necessary and appropriate.
Sec. 303.143  Delegations of authority.
    (a) Instruments having the character of debt securities. Authority 
is delegated to the Director (DOS) to make determinations contemplated 
under Secs. 362.2(h) and 362.3(b)(2)(iii)(B) of this chapter.
    (b) Other applications, notices, and actions. The authority to 
review and act upon applications and notices filed pursuant to this 
subpart H and to take any other action authorized by this subpart H or 
subparts C and D of part 362 of this chapter is delegated to the 
Director (DOS), and except as limited by paragraph (a) of this section, 
to the Deputy Director and where confirmed in writing by the Director 
to an associate director and the appropriate regional director and 
deputy regional director.
PART 337--UNSAFE AND UNSOUND BANKING PRACTICES
    4. The authority citation for part 337 continues to read as 
follows:
    Authority: 12 U.S.C. 375a(4), 375b, 1816, 1818(a), 1818(b), 
1819, 1820(d)(10), 1821(f), 1828(j)(2), 1831f, 1831f-1.
    5. In Sec. 337.4, a new paragraph (i) is added to read as follows:
Sec. 337.4  Securities activities of subsidiaries of insured nonmember 
banks; bank transactions with affiliated securities companies.
* * * * *
    (i) Coordination with part 362 of this chapter--(1) New subsidiary 
or affiliate relationships. Beginning January 1, 1999, every insured 
state nonmember bank that establishes a new subsidiary relationship 
subject to the provisions of Sec. 362.4(b)(4) or Sec. 362.4(b)(5)(ii) 
of this chapter or a new affiliate relationship that is subject to 
Sec. 362.8(b) of this chapter shall comply with Sec. 362.4(b)(4), 
Sec. 362.4(b)(5)(ii) or Sec. 362.8(b) of this chapter, respectively, or 
to the extent the insured state nonmember bank's planned subsidiary or 
affiliate will not comply with all requirements thereunder, submit an 
application to the FDIC under Sec. 362.4(b)(1) or Sec. 362.8(b) of this 
chapter, respectively. This section shall not apply to such subsidiary 
or affiliate.
    (2) Existing insured state nonmember bank subsidiaries subject to 
Sec. 362.4. Applicable transition rules for insured state nonmember 
bank subsidiaries engaged, before January 1, 1999, in securities 
activities pursuant to this section and also subject to Sec. 362.4 of 
this chapter are set out in Sec. 362.5 of this chapter.
    (3) Continued effectiveness of this section. Insured state 
nonmember banks establishing or holding subsidiaries or affiliates 
subject to this section, but not covered by Sec. 362.4 or Sec. 362.8 of 
this chapter, remain subject to the requirements of this section, 
except that to the extent such subsidiaries or affiliates engage only 
in activities permissible for a national bank directly, including such 
permissible activities that may require the subsidiary or affiliate to 
register as a securities broker, no notice under paragraph (d) of this 
section is required.
    6. Part 362 is revised to read as follows:
PART 362--ACTIVITIES OF INSURED STATE BANKS AND INSURED SAVINGS 
ASSOCIATIONS
Subpart A--Activities of Insured State Banks
Sec.
362.1  Purpose and scope.
362.2  Definitions.
362.3  Activities of insured state banks.
362.4  Subsidiaries of insured state banks.
362.5  Approvals previously granted.
Subpart B--Safety and Soundness Rules Governing Insured State 
Nonmember Banks
362.6  Purpose and scope.
362.7  Definitions.
362.8  Restrictions on activities of insured state nonmember banks.
Subpart C--Activities of Insured State Savings Associations
362.9 Purpose and scope.
362.10  Definitions.
362.11  Activities of insured state savings associations.
362.12  Service corporations of insured state savings associations.
362.13  Approvals previously granted.
[[Page 66327]]
Subpart D--Acquiring, Establishing, or Conducting New Activities 
Through a Subsidiary by an Insured Savings Association
362.14  Purpose and scope.
362.15  Acquiring or establishing a subsidiary; conducting new 
activities through a subsidiary.
    Authority: 12 U.S.C. 1816, 1818, 1819(a)(Tenth), 1828(m), 1831a, 
1831e.
Subpart A--Activities of Insured State Banks
Sec. 362.1  Purpose and scope.
    (a) This subpart, along with the notice and application procedures 
in subpart G of part 303 of this chapter, implements the provisions of 
section 24 of the Federal Deposit Insurance Act (12 U.S.C. 1831a) that 
restrict and prohibit insured state banks and their subsidiaries from 
engaging in activities and investments that are not permissible for 
national banks and their subsidiaries. The phrase ``activity 
permissible for a national bank'' means any activity authorized for 
national banks under any statute including the National Bank Act (12 
U.S.C. 21 et seq.), as well as activities recognized as permissible for 
a national bank in regulations, official circulars, bulletins, orders 
or written interpretations issued by the Office of the Comptroller of 
the Currency (OCC).
    (b) This subpart does not cover the following activities:
    (1) Activities conducted other than ``as principal,'' defined for 
purposes of this subpart as activities conducted as agent for a 
customer, conducted in a brokerage, custodial, advisory, or 
administrative capacity, or conducted as trustee, or in any 
substantially similar capacity. For example, this subpart does not 
cover acting solely as agent for the sale of insurance, securities, 
real estate, or travel services; nor does it cover acting as trustee, 
providing personal financial planning advice, or safekeeping services;
    (2) Interests in real estate in which the real property is used or 
intended in good faith to be used within a reasonable time by an 
insured state bank or its subsidiaries as offices or related facilities 
for the conduct of its business or future expansion of its business or 
used as public welfare investments of a type permissible for national 
banks; and (3) Equity investments acquired in connection with debts 
previously contracted (DPC) if the insured state bank does not hold the 
property for speculation and takes only such actions as would be 
permissible for a national bank's DPC. The bank must dispose of the 
property within the shorter of the period set by federal law for 
national banks or the period allowed under state law. For real estate, 
national banks may not hold DPC for more than 10 years. For equity 
securities, national banks must generally divest DPC as soon as 
possible consistent with obtaining a reasonable return.
    (c) A subsidiary of an insured state bank may not engage in real 
estate investment activities that are not permissible for a subsidiary 
of a national bank unless the bank does so through a subsidiary of 
which the bank is a majority owner, is in compliance with applicable 
capital standards, and the FDIC has determined that the activity poses 
no significant risk to the appropriate deposit insurance fund. This 
subpart provides standards for majority-owned subsidiaries of insured 
state banks engaging in real estate investment activities that are not 
permissible for a subsidiary of a national bank. Because of safety and 
soundness concerns relating to real estate investment activities, 
subpart B of this part reflects special rules for subsidiaries of 
insured state nonmember banks that engage in real estate investment 
activities of a type that are not permissible for a national bank, but 
may be otherwise permissible for a subsidiary of a national bank.
    (d) The FDIC intends to allow insured state banks and their 
subsidiaries to undertake only safe and sound activities and 
investments that do not present significant risks to the deposit 
insurance funds and that are consistent with the purposes of federal 
deposit insurance and other applicable law. This subpart does not 
authorize any insured state bank to make investments or to conduct 
activities that are not authorized or that are prohibited by either 
state or federal law.
Sec. 362.2  Definitions.
    For the purposes of this subpart, the following definitions will 
apply:
    (a) Bank, state bank, savings association, state savings 
association, depository institution, insured depository institution, 
insured state bank, federal savings association, and insured state 
nonmember bank shall each have the same respective meaning contained in 
section 3 of the Federal Deposit Insurance Act (12 U.S.C. 1813).
    (b) Activity means the conduct of business by a state-chartered 
depository institution, including acquiring or retaining an equity 
investment or other investment.
    (c) Change in control means any transaction:
    (1) By a state bank or its holding company for which a notice is 
required to be filed with the FDIC, or the Board of Governors of the 
Federal Reserve System (FRB), pursuant to section 7(j) of the Federal 
Deposit Insurance Act (12 U.S.C. 1817(j)) except a transaction that is 
presumed to be an acquisition of control under the FDIC's or FRB's 
regulations implementing section 7(j);
    (2) As a result of which a state bank eligible for the exception 
described in Sec. 362.3(a)(2)(iii) is acquired by or merged into a 
depository institution that is not eligible for the exception, or as a 
result of which its holding company is acquired by or merged into a 
holding company which controls one or more bank subsidiaries not 
eligible for the exception; or
    (3) In which control of the state bank is acquired by a bank 
holding company in a transaction requiring FRB approval under section 3 
of the Bank Holding Company Act (12 U.S.C. 1842), other than a one bank 
holding company formation in which all or substantially all of the 
shares of the holding company will be owned by persons who were 
shareholders of the bank.
    (d) Company means any corporation, partnership, limited liability 
company, business trust, association, joint venture, pool, syndicate or 
other similar business organization.
    (e) Control means the power to vote, directly or indirectly, 25 
percent or more of any class of the voting securities of a company, the 
ability to control in any manner the election of a majority of a 
company's directors or trustees, or the ability to exercise a 
controlling influence over the management and policies of a company.
    (f) Convert its charter means an insured state bank undergoes any 
transaction that causes the bank to operate under a different form of 
charter than it had as of December 19, 1991, except a change from 
mutual to stock form shall not be considered a charter conversion.
    (g) Equity investment means an ownership interest in any company; 
any membership interest that includes a voting right in any company; 
any interest in real estate; any transaction which in substance falls 
into any of these categories even though it may be structured as some 
other form of business transaction; and includes an equity security. 
The term ``equity investment'' does not include any of the foregoing if 
the interest is taken as security for a loan.
    (h) Equity security means any stock (other than adjustable rate 
preferred stock, money market (auction rate) preferred stock, or other 
newly developed instrument determined by the FDIC to have the character 
of debt
[[Page 66328]]
securities), certificate of interest or participation in any profit-
sharing agreement, collateral-trust certificate, preorganization 
certificate or subscription, transferable share, investment contract, 
or voting-trust certificate; any security immediately convertible at 
the option of the holder without payment of substantial additional 
consideration into such a security; any security carrying any warrant 
or right to subscribe to or purchase any such security; and any 
certificate of interest or participation in, temporary or interim 
certificate for, or receipt for any of the foregoing.
    (i) Extension of credit, executive officer, director, principal 
shareholder, and related interest each has the same respective meaning 
as is applicable for the purposes of section 22(h) of the Federal 
Reserve Act (12 U.S.C. 375b) and Sec. 337.3 of this chapter.
    (j) Institution shall have the same meaning as ``state-chartered 
depository institution.''
    (k) Majority-owned subsidiary means any corporation in which the 
parent insured state bank owns a majority of the outstanding voting 
stock.
    (l) National securities exchange means a securities exchange that 
is registered as a national securities exchange by the Securities and 
Exchange Commission pursuant to section 6 of the Securities Exchange 
Act of 1934 (15 U.S.C. 78f) and the National Market System, i.e., the 
top tier of the National Association of Securities Dealers Automated 
Quotation System.
    (m) Real estate investment activity means any interest in real 
estate (other than as security for a loan) held directly or indirectly 
that is not permissible for a national bank.
    (n) Residents of the state includes individuals living in the 
state, individuals employed in the state, any person to whom the 
company provided insurance as principal without interruption since such 
person resided in or was employed in the state, and companies or 
partnerships incorporated in, organized under the laws of, licensed to 
do business in, or having an office in the state.
    (o) Security has the same meaning as it has in part 344 of this 
chapter.
    (p) Significant risk to the deposit insurance fund shall be 
understood to be present whenever the FDIC determines there is a high 
probability that any insurance fund administered by the FDIC may suffer 
a loss. Such risk may be present either when an activity contributes or 
may contribute to the decline in condition of a particular state-
chartered depository institution or when a type of activity is found by 
the FDIC to contribute or potentially contribute to the deterioration 
of the overall condition of the banking system.
    (q) State-chartered depository institution means any state bank or 
state savings association insured by the FDIC.
    (r) Subsidiary means any company controlled by an insured 
depository institution.
    (s) Tier one capital has the same meaning as set forth in part 325 
of this chapter for an insured state nonmember bank. For other state-
chartered depository institutions, the term ``tier one capital'' has 
the same meaning as set forth in the capital regulations adopted by the 
appropriate federal banking agency.
    (t) Well-capitalized has the same meaning set forth in part 325 of 
this chapter for an insured state nonmember bank. For other state-
chartered depository institutions, the term ``well-capitalized'' has 
the same meaning as set forth in the capital regulations adopted by the 
appropriate federal banking agency.
Sec. 362.3  Activities of insured state banks.
    (a) Equity investments. (1) Prohibited equity investments. No 
insured state bank may directly or indirectly acquire or retain as 
principal any equity investment of a type that is not permissible for a 
national bank unless one of the exceptions in paragraph (a)(2) of this 
section applies.
    (2) Exceptions. (i) Equity investment in majority-owned 
subsidiaries. An insured state bank may acquire or retain an equity 
investment in a subsidiary of which the bank is a majority owner, 
provided that the subsidiary is engaging in activities that are allowed 
pursuant to the provisions of or by application under Sec. 362.4(b).
    (ii) Investments in qualified housing projects. An insured state 
bank may invest as a limited partner in a partnership, or as a 
noncontrolling interest holder of a limited liability company, the sole 
purpose of which is to invest in the acquisition, rehabilitation, or 
new construction of a qualified housing project, provided that the 
bank's aggregate investment (including legally binding commitments) 
does not exceed, when made, 2 percent of total assets as of the date of 
the bank's most recent consolidated report of condition prior to making 
the investment. For the purposes of this paragraph (a)(2)(ii), 
Aggregate investment means the total book value of the bank's 
investment in the real estate calculated in accordance with the 
instructions for the preparation of the consolidated report of 
condition. Qualified housing project means residential real estate 
intended to primarily benefit lower income persons throughout the 
period of the bank's investment including any project that has received 
an award of low income housing tax credits under section 42 of the 
Internal Revenue Code (26 U.S.C. 42) (such as a reservation or 
allocation of credits) from a state or local housing credit agency. A 
residential real estate project that does not qualify for the tax 
credit under section 42 of the Internal Revenue Code will qualify under 
this exception if 50 percent or more of the housing units are to be 
occupied by lower income persons. A project will be considered 
residential despite the fact that some portion of the total square 
footage of the project is utilized for commercial purposes, provided 
that such commercial use is not the primary purpose of the project. 
Lower income has the same meaning as ``low income'' and ``moderate 
income'' as defined for the purposes of Sec. 345.12(n) (1) and (2) of 
this chapter.
    (iii) Grandfathered investments in common or preferred stock; 
shares of investment companies. (A) General. An insured state bank that 
is located in a state which as of September 30, 1991, authorized 
investment in:
    (1)(i) Common or preferred stock listed on a national securities 
exchange (listed stock); or
    (ii) Shares of an investment company registered under the 
Investment Company Act of 1940 (15 U.S.C. 80a-1 et seq.) (registered 
shares); and
    (2) Which during the period beginning on September 30, 1990, and 
ending on November 26, 1991, made or maintained an investment in listed 
stock or registered shares, may retain whatever lawfully acquired 
listed stock or registered shares it held and may continue to acquire 
listed stock and/or registered shares, provided that the bank files a 
notice in accordance with section 24(f)(6) of the Federal Deposit 
Insurance Act in compliance with Sec. 303.121 of this chapter and the 
FDIC processes the notice without objection under Sec. 303.122 of this 
chapter. Approval will be granted only if the FDIC determines that 
acquiring or retaining the stock or shares does not pose a significant 
risk to the appropriate deposit insurance fund. Approval may be subject 
to whatever conditions or restrictions the FDIC determines are 
necessary or appropriate.
    (B) Loss of grandfather exception. The exception for grandfathered 
investments under paragraph (a)(2)(iii)(A) of this section shall no 
longer apply if the bank converts its charter or the bank or its parent 
holding company undergoes a change in control. If any of these events 
occur, the bank may retain its existing
[[Page 66329]]
investments unless directed by the FDIC or other applicable authority 
to divest the listed stock or registered shares.
    (C) Maximum permissible investment. A bank's aggregate investment 
in listed stock and registered shares under paragraph (a)(2)(iii)(A) of 
this section shall in no event exceed, when made, 100 percent of the 
bank's tier one capital as measured on the bank's most recent 
consolidated report of condition (call report) prior to making any such 
investment. The lower of the bank's cost as determined in accordance 
with call report instructions or the market value of the listed stock 
and shares shall be used to determine compliance. The FDIC may 
determine when acting upon a notice filed in accordance with paragraph 
(a)(2)(iii)(A)(2) of this section that the permissible limit for any 
particular insured state bank is something less than 100 percent of 
tier one capital.
    (iv) Stock investment in insured depository institutions owned 
exclusively by other banks and savings associations. An insured state 
bank may acquire or retain the stock of an insured depository 
institution if the insured depository institution engages only in 
activities permissible for national banks; the insured depository 
institution is subject to examination and regulation by a state bank 
supervisor; the voting stock is owned by 20 or more insured depository 
institutions, but no one institution owns more than 15 percent of the 
voting stock; and the insured depository institution's stock (other 
than directors' qualifying shares or shares held under or acquired 
through a plan established for the benefit of the officers and 
employees) is owned only by insured depository institutions.
    (v) Stock investment in insurance companies--(A) Stock of director 
and officer liability insurance company. An insured state bank may 
acquire and retain up to 10 percent of the outstanding stock of a 
corporation that solely provides or reinsures directors', trustees', 
and officers' liability insurance coverage or bankers' blanket bond 
group insurance coverage for insured depository institutions.
    (B) Stock of savings bank life insurance company. An insured state 
bank located in Massachusetts, New York, or Connecticut may own stock 
in a savings bank life insurance company, provided that the savings 
bank life insurance company provides written disclosures to purchasers 
or potential purchasers of life insurance policies, other insurance 
products, and annuities that are consistent with the disclosures 
described in the Interagency Statement on the Retail Sale of Nondeposit 
Investment Products (FIL-9-94,1 February 17, 1994) or any 
successor requirement which indicates that the policies, products, and 
annuities are not FDIC insured deposits, are not guaranteed by the bank 
and are subject to investment risks, including possible loss of the 
principal amount invested.
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    \ 1\ Financial institution letters (FILs) are available in the 
FDIC Public Information Center, room 100, 801 17th Street, N.W., 
Washington, D.C. 20429.
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    (b) Activities other than equity investments--(1) Prohibited 
activities. An insured state bank may not directly or indirectly engage 
as principal in any activity, that is not an equity investment, and is 
of a type not permissible for a national bank unless one of the 
exceptions in paragraph (b)(2) of this section applies.
    (2) Exceptions--(i) Consent obtained through application. An 
insured state bank that meets and continues to meet the applicable 
capital standards set by the appropriate federal banking agency may 
conduct activities prohibited by paragraph (b)(1) of this section if 
the bank obtains the FDIC's prior written consent. Consent will be 
given only if the FDIC determines that the activity poses no 
significant risk to the affected deposit insurance fund. Applications 
for consent should be filed in accordance with Sec. 303.121 of this 
chapter and will be processed under Sec. 303.122(b) of this chapter. 
Approvals granted under Sec. 303.122(b) of this chapter may be made 
subject to any conditions or restrictions found by the FDIC to be 
necessary to protect the deposit insurance funds from risk, to prevent 
unsafe or unsound banking practices, and/or to ensure that the activity 
is consistent with the purposes of federal deposit insurance and other 
applicable law.
    (ii) Insurance underwriting--(A) Savings bank life insurance. An 
insured state bank that is located in Massachusetts, New York or 
Connecticut may provide as principal savings bank life insurance 
through a department of the bank, provided that the department meets 
the core standards of paragraph (c) of this section or submits an 
application in compliance with Sec. 303.121 of this chapter and the 
FDIC grants its consent under the procedures in Sec. 303.122(b) of this 
chapter, and the department provides purchasers or potential purchasers 
of life insurance policies, other insurance products and annuities 
written disclosures that are consistent with the disclosures described 
in the Interagency Statement on the Retail Sale of Nondeposit 
Investment Products (FIL-9-94, February 17, 1994) and any successor 
requirement which indicates that the policies, products and annuities 
are not FDIC insured deposits, are not guaranteed by the bank, and are 
subject to investment risks, including the possible loss of the 
principal amount invested.
    (B) Federal crop insurance. Any insured state bank that was 
providing insurance as principal on or before September 30, 1991, which 
was reinsured in whole or in part by the Federal Crop Insurance 
Corporation, may continue to do so.
    (C) Grandfathered insurance underwriting. A well-capitalized 
insured state bank that on November 21, 1991, was lawfully providing 
insurance as principal through a department of the bank may continue to 
provide the same types of insurance as principal to the residents of 
the state or states in which the bank did so on such date provided that 
the bank's department meets the core standards of paragraph (c) of this 
section, or submits an application in compliance with Sec. 303.121 of 
this chapter and the FDIC grants its consent under the procedures in 
Sec. 303.122(b) of this chapter.
    (iii) Acquiring and retaining adjustable rate and money market 
preferred stock. (A) An insured state bank's investment of up to 15 
percent of the bank's tier one capital in adjustable rate preferred 
stock or money market (auction rate) preferred stock does not represent 
a significant risk to the deposit insurance funds. An insured state 
bank may conduct this activity without first obtaining the FDIC's 
consent, provided that the bank meets and continues to meet the 
applicable capital standards as prescribed by the appropriate federal 
banking agency. The fact that prior consent is not required by this 
subpart does not preclude the FDIC from taking any appropriate action 
with respect to the activities if the facts and circumstances warrant 
such action.
    (B) An insured state bank may acquire or retain other instruments 
of a type determined by the FDIC to have the character of debt 
securities and not to represent a significant risk to the deposit 
insurance funds. Such instruments shall be included in the 15 percent 
of tier one capital limit imposed in paragraph (b)(2)(iii)(A) of this 
section. An insured state bank may conduct this activity without first 
obtaining the FDIC's consent, provided that the bank meets and 
continues to meet the applicable capital standards as prescribed by the 
appropriate federal banking agency. The fact that prior consent is not 
required by this subpart does not preclude the FDIC from taking any 
appropriate action with respect to
[[Page 66330]]
the activities if the facts and circumstances warrant such action.
    (c) Core standards. For any insured state bank to be eligible to 
conduct insurance activities listed in paragraph (b)(2)(ii)(A) or (C) 
of this section, the bank must conduct the activities in a department 
that meets the following core separation and operating standards:
    (1) The department is physically distinct from the remainder of the 
bank;
    (2) The department maintains separate accounting and other records;
    (3) The department has assets, liabilities, obligations and 
expenses that are separate and distinct from those of the remainder of 
the bank;
    (4) The department is subject to state statute that requires its 
obligations, liabilities and expenses be satisfied only with the assets 
of the department; and
    (5) The department informs its customers that only the assets of 
the department may be used to satisfy the obligations of the 
department.
Sec. 362.4  Subsidiaries of insured state banks.
    (a) Prohibition. A subsidiary of an insured state bank may not 
engage as principal in any activity that is not of a type permissible 
for a subsidiary of a national bank, unless it meets one of the 
exceptions in paragraph (b) of this section.
    (b) Exceptions--(1) Consent obtained through application. A 
subsidiary of an insured state bank may conduct otherwise prohibited 
activities if the bank obtains the FDIC's prior written consent and the 
insured state bank meets and continues to meet the applicable capital 
standards set by the appropriate federal banking agency. Consent will 
be given only if the FDIC determines that the activity poses no 
significant risk to the affected deposit insurance fund. Applications 
for consent should be filed in accordance with Sec. 303.121 of this 
chapter and will be processed under Sec. 303.122(b) of this chapter. 
Approvals granted under Sec. 303.122(b) of this chapter may be made 
subject to any conditions or restrictions found by the FDIC to be 
necessary to protect the deposit insurance funds from risk, to prevent 
unsafe or unsound banking practices, and/or to ensure that the activity 
is consistent with the purposes of federal deposit insurance and other 
applicable law.
    (2) Grandfathered insurance underwriting subsidiaries. A subsidiary 
of an insured state bank may:
    (i) Engage in grandfathered insurance underwriting if the insured 
state bank or its subsidiary on November 21, 1991, was lawfully 
providing insurance as principal. The subsidiary may continue to 
provide the same types of insurance as principal to the residents of 
the state or states in which the bank or subsidiary did so on such date 
provided that:
    (A)(1) The bank meets the capital requirements of paragraph (e) of 
this section; and
    (2) The subsidiary is an ``eligible subsidiary'' as described in 
paragraph (c)(2) of this section; or
    (B) The bank submits an application in compliance with Sec. 303.121 
of this chapter and the FDIC grants its consent under the procedures in 
Sec. 303.122(b) of this chapter.
    (ii) Continue to provide as principal title insurance, provided the 
bank was required before June 1, 1991, to provide title insurance as a 
condition of the bank's initial chartering under state law and neither 
the bank nor its parent holding company undergoes a change in control.
    (iii) May continue to provide as principal insurance which is 
reinsured in whole or in part by the Federal Crop Insurance Corporation 
if the subsidiary was engaged in the activity on or before September 
30, 1991.
    (3) Majority-owned subsidiaries' ownership of equity investments 
that represent a control interest in a company. The FDIC has determined 
that investment in the following by a majority-owned subsidiary of an 
insured state bank does not represent a significant risk to the deposit 
insurance funds:
    (i) Equity investment in a company engaged in real estate or 
securities activities authorized in paragraph (b)(5) of this section if 
the bank complies with the following restrictions and files a notice in 
compliance with Sec. 303.121 of this chapter and the FDIC processes the 
notice without objection under Sec. 303.122(a) of this chapter. The 
FDIC is not precluded from taking any appropriate action or imposing 
additional requirements with respect to the activity if the facts and 
circumstances warrant such action. If changes to the management or 
business plan of the company at any time result in material changes to 
the nature of the company's business or the manner in which its 
business is conducted, the insured state bank shall advise the 
appropriate regional director (DOS) in writing within 10 business days 
after such change. Investment under this paragraph is authorized if:
    (A) The majority-owned subsidiary controls the company;
    (B) The bank meets the core eligibility criteria of paragraph 
(c)(1) of this section;
    (C) The majority-owned subsidiary meets the core eligibility 
criteria of paragraph (c)(2) of this section (including any 
modifications thereof applicable under paragraph (b)(5)(i) of this 
section), or the company is a corporation meeting such criteria;
    (D) The bank's transactions with the majority-owned subsidiary, and 
the bank's transactions with the company, comply with the investment 
and transaction limits of paragraph (d) of this section;
    (E) The bank complies with the capital requirements of paragraph 
(e) of this section with respect to the majority-owned subsidiary and 
the company; and
    (F) To the extent the company is engaged in securities activities 
authorized by paragraph (b)(5)(ii) of this section, the bank and the 
company comply with the additional requirements therein as if the 
company were a majority-owned subsidiary.
    (ii) Equity securities of a company engaged in the following 
activities, if the majority-owned subsidiary controls the company or 
the company is controlled by insured depository institutions, and the 
bank meets and continues to meet the applicable capital standards as 
prescribed by the appropriate federal banking agency. The FDIC consents 
that a majority-owned subsidiary may conduct such activity without 
first obtaining the FDIC's consent. The fact that prior consent is not 
required by this subpart does not preclude the FDIC from taking any 
appropriate action with respect to the activity if the facts and 
circumstances warrant such action:
    (A) Any activity that is permissible for a national bank, including 
such permissible activities that may require the company to register as 
a securities broker;
    (B) Acting as an insurance agency;
    (C) Engaging in any activity permissible for an insured state bank 
under Sec. 362.3(b)(2)(iii) to the same extent permissible for the 
insured bank thereunder, so long as instruments held under this 
paragraph (b)(3)(ii)(C), paragraph (b)(7) of this section, and 
Sec. 362.3(b)(2)(iii) in the aggregate do not exceed the limit set by 
Sec. 362.3(b)(2)(iii);
    (D) Engaging in any activity permissible for a majority-owned 
subsidiary of an insured state bank under paragraph (b)(6) of this 
section to the same extent and manner permissible for the majority-
owned subsidiary thereunder; and
    (4) Majority-owned subsidiary's ownership of certain securities 
that do not represent a control interest. (i) Grandfathered investments 
in common or preferred stock and shares of
[[Page 66331]]
investment companies. Any insured state bank that has received approval 
to invest in common or preferred stock or shares of an investment 
company pursuant to Sec. 362.3(a)(2)(iii) may conduct the approved 
investment activities through a majority-owned subsidiary of the bank 
without any additional approval from the FDIC provided that any 
conditions or restrictions imposed with regard to the approval granted 
under Sec. 362.3(a)(2)(iii) are met.
    (ii) Bank stock. An insured state bank may indirectly through a 
majority-owned subsidiary organized for such purpose invest in up to 
ten percent of the outstanding stock of another insured bank.
    (5) Majority-owned subsidiaries conducting real estate investment 
activities and securities underwriting. The FDIC has determined that 
the following activities do not represent a significant risk to the 
deposit insurance funds, provided that the activities are conducted by 
a majority-owned subsidiary of an insured state bank in compliance with 
the core eligibility requirements listed in paragraph (c) of this 
section; any additional requirements listed in paragraph (b)(5) (i) or 
(ii) of this section; the bank complies with the investment and 
transaction limitations of paragraph (d) of this section; and the bank 
meets the capital requirements of paragraph (e) of this section. The 
FDIC consents that these listed activities may be conducted by a 
majority-owned subsidiary of an insured state bank if the bank files a 
notice in compliance with Sec. 303.121 of this chapter and the FDIC 
processes the notice without objection under Sec. 303.122(a) of this 
chapter. The FDIC is not precluded from taking any appropriate action 
or imposing additional requirements with respect to the activities if 
the facts and circumstances warrant such action. If changes to the 
management or business plan of the majority-owned subsidiary at any 
time result in material changes to the nature of the majority-owned 
subsidiary's business or the manner in which its business is conducted, 
the insured state bank shall advise the appropriate regional director 
(DOS) in writing within 10 business days after such change. Such a 
majority-owned subsidiary may:
    (i) Real estate investment activities. Engage in real estate 
investment activities. However, the requirements of paragraph (c)(2) 
(ii), (v), (vi), and (xi) of this section need not be met if the bank's 
investment in the equity securities of the subsidiary does not exceed 2 
percent of the bank's tier one capital; the bank has only one 
subsidiary engaging in real estate investment activities; and the 
bank's total investment in the subsidiary does not include any 
extensions of credit from the bank to the subsidiary, any debt 
instruments issued by the subsidiary, or any other transaction 
originated by the bank that is used to benefit the subsidiary.
    (ii) Securities activities. Engage in the public sale, distribution 
or underwriting of securities that are not permissible for a national 
bank under section 16 of the Banking Act of 1933 (12 U.S.C. 24 
Seventh), provided that the following additional conditions are, and 
continue to be, met:
    (A) The state-chartered depository institution adopts policies and 
procedures, including appropriate limits on exposure, to govern the 
institution's participation in financing transactions underwritten or 
arranged by an underwriting majority-owned subsidiary;
    (B) The state-chartered depository institution may not express an 
opinion on the value or the advisability of the purchase or sale of 
securities underwritten or dealt in by a majority-owned subsidiary 
unless the state-chartered depository institution notifies the customer 
that the majority-owned subsidiary is underwriting or distributing the 
security;
    (C) The majority-owned subsidiary is registered with the Securities 
and Exchange Commission, is a member in good standing with the 
appropriate self-regulatory organization, and promptly informs the 
appropriate regional director (DOS) in writing of any material actions 
taken against the majority-owned subsidiary or any of its employees by 
the state, the appropriate self-regulatory organizations or the 
Securities and Exchange Commission; and
    (D) The state-chartered depository institution does not knowingly 
purchase as principal or fiduciary during the existence of any 
underwriting or selling syndicate any securities underwritten by the 
majority-owned subsidiary unless the purchase is approved by the state-
chartered depository institution's board of directors before the 
securities are initially offered for sale to the public.
    (6) Real estate leasing. A majority-owned subsidiary of an insured 
state bank acting as lessor under a real property lease which is the 
equivalent of a financing transaction, meeting the lease criteria of 
paragraph (b)(6)(i) of this section and the underlying real estate 
requirements of paragraph (b)(6)(ii) of this section, does not 
represent a significant risk to the deposit insurance funds. A 
majority-owned subsidiary may conduct this activity without first 
obtaining the FDIC's consent, provided that the bank meets and 
continues to meet the applicable capital standards as prescribed by the 
appropriate federal banking agency. The fact that prior consent is not 
required by this subpart does not preclude the FDIC from taking any 
appropriate action with respect to the activity if the facts and 
circumstances warrant such action.
    (i) Lease criteria--(A) Capital lease. The lease must qualify as a 
capital lease as to the lessor under generally accepted accounting 
principles.
    (B) Nonoperating basis. The bank and the majority-owned subsidiary 
shall not, directly or indirectly, provide or be obligated to provide 
servicing, repair, or maintenance to the property, except that the 
lease may include provisions permitting the subsidiary to protect the 
value of the leased property in the event of a change in circumstances 
that increases the subsidiary's exposure to loss, or the subsidiary may 
take reasonable and appropriate action to salvage or protect the value 
of the leased property in such circumstances.
    (ii) Underlying real property requirements--(A) Acquisition. The 
majority-owned subsidiary may acquire specific real estate to be leased 
only after the subsidiary has entered into:
    (1) A lease meeting the requirements of paragraph (b)(6)(i) of this 
section;
    (2) A legally binding written commitment to enter into such a 
lease; or
    (3) A legally binding written agreement that indemnifies the 
subsidiary against loss in connection with its acquisition of the 
property.
    (B) Improvements. Any expenditures by the majority-owned subsidiary 
to make reasonable repairs, renovations, and improvements necessary to 
render the property suitable to the lessee shall not exceed 25 percent 
of the majority-owned subsidiary's full investment in the real estate.
    (C) Divestiture. At the expiration of the initial lease (including 
any renewals or extensions thereof), the majority-owned subsidiary 
shall, as soon as practicable but in any event no less than two years, 
either:
    (1) Re-lease the property under a lease meeting the requirement of 
paragraph (b)(6)(i)(B) of this section; or
    (2) Divest itself of all interest in the property.
    (7) Acquiring and retaining adjustable rate and money market 
preferred stock and similar instruments. The FDIC has determined it 
does not present a significant risk to the deposit insurance
[[Page 66332]]
funds for a majority-owned subsidiary of an insured state bank to 
engage in any activity permissible for an insured state bank under 
Sec. 362.3(b)(2)(iii), so long as instruments held under this 
paragraph, paragraph (b)(3)(ii)(C) of this section, and 
Sec. 362.3(b)(2)(iii) in the aggregate do not exceed the limit set by 
Sec. 362.3(b)(2)(iii). A majority-owned subsidiary may conduct this 
activity without first obtaining the FDIC's consent, provided that the 
bank meets and continues to meet the applicable capital standards as 
prescribed by the appropriate federal banking agency. The fact that 
prior consent is not required by this subpart does not preclude the 
FDIC from taking any appropriate action with respect to the activity if 
the facts and circumstances warrant such action.
    (c) Core eligibility requirements. If specifically required by this 
part or by FDIC order, any state-chartered depository institution that 
wishes to be eligible and continue to be eligible to conduct as 
principal activities through a subsidiary that are not permissible for 
a subsidiary of a national bank must be an ``eligible depository 
institution'' and the subsidiary must be an ``eligible subsidiary''.
    (1) A state-chartered depository institution is an ``eligible 
depository institution'' if it:
    (i) Has been chartered and operating for three or more years, 
unless the appropriate regional director (DOS) finds that the state-
chartered depository institution is owned by an established, well-
capitalized, well-managed holding company or is managed by seasoned 
management;
    (ii) Has an FDIC-assigned composite rating of 1 or 2 assigned under 
the Uniform Financial Institutions Rating System (UFIRS) (or such other 
comparable rating system as may be adopted in the future) as a result 
of its most recent federal or state examination for which the FDIC 
assigned a rating;
    (iii) Received a rating of 1 or 2 under the ``management'' 
component of the UFIRS as assigned by the institution's appropriate 
federal banking agency;
    (iv) Has a satisfactory or better Community Reinvestment Act rating 
at its most recent examination conducted by the institution's 
appropriate federal banking agency;
    (v) Has a compliance rating of 1 or 2 at its most recent 
examination conducted by the institution's appropriate federal banking 
agency; and
    (vi) Is not subject to a cease and desist order, consent order, 
prompt corrective action directive, formal or informal written 
agreement, or other administrative agreement with its appropriate 
federal banking agency or chartering authority.
    (2) A subsidiary of a state-chartered depository institution is an 
``eligible subsidiary'' if it:
    (i) Meets applicable statutory or regulatory capital requirements 
and has sufficient operating capital in light of the normal obligations 
that are reasonably foreseeable for a business of its size and 
character within the industry;
    (ii) Is physically separate and distinct in its operations from the 
operations of the state-chartered depository institution, provided that 
this requirement shall not be construed to prohibit the state-chartered 
depository institution and its subsidiary from sharing the same 
facility if the area where the subsidiary conducts business with the 
public is clearly distinct from the area where customers of the state-
chartered depository institution conduct business with the institution. 
The extent of the separation will vary according to the type and 
frequency of customer contact;
    (iii) Maintains separate accounting and other business records;
    (iv) Observes separate business entity formalities such as separate 
board of directors' meetings;
    (v) Has a chief executive officer of the subsidiary who is not an 
employee of the institution;
    (vi) Has a majority of its board of directors who are neither 
directors nor officers of the state-chartered depository institution;
    (vii) Conducts business pursuant to independent policies and 
procedures designed to inform customers and prospective customers of 
the subsidiary that the subsidiary is a separate organization from the 
state-chartered depository institution and that the state-chartered 
depository institution is not responsible for and does not guarantee 
the obligations of the subsidiary;
    (viii) Has only one business purpose within the types described in 
paragraphs (b)(2) and (b)(5) of this section;
    (ix) Has a current written business plan that is appropriate to the 
type and scope of business conducted by the subsidiary;
    (x) Has qualified management and employees for the type of activity 
contemplated, including all required licenses and memberships, and 
complies with industry standards; and
    (xi) Establishes policies and procedures to ensure adequate 
computer, audit and accounting systems, internal risk management 
controls, and has necessary operational and managerial infrastructure 
to implement the business plan.
    (d) Investment and transaction limits--(1) General. If specifically 
required by this part or FDIC order, the following conditions and 
restrictions apply to an insured state bank and its subsidiaries that 
engage in and wish to continue to engage in activities which are not 
permissible for a national bank subsidiary.
    (2) Investment limits--(i) Aggregate investment in subsidiaries. An 
insured state bank's aggregate investment in all subsidiaries 
conducting activities subject to this paragraph (d) shall not exceed 20 
percent of the insured state bank's tier one capital.
    (ii) Definition of investment. (A) For purposes of this paragraph 
(d), the term ``investment'' means:
    (1) Any extension of credit to the subsidiary by the insured state 
bank;
    (2) Any debt securities, as such term is defined in part 344 of 
this chapter, issued by the subsidiary held by the insured state bank;
    (3) The acceptance by the insured state bank of securities issued 
by the subsidiary as collateral for an extension of credit to any 
person or company; and
    (4) Any extensions of credit by the insured state bank to any third 
party for the purpose of making a direct investment in the subsidiary, 
making any investment in which the subsidiary has an interest, or which 
is used for the benefit of, or transferred to, the subsidiary.
    (B) For the purposes of this paragraph (d), the term ``investment'' 
does not include:
    (1) Extensions of credit by the insured state bank to finance sales 
of assets by the subsidiary which do not involve more than the normal 
degree of risk of repayment and are extended on terms that are 
substantially similar to those prevailing at the time for comparable 
transactions with or involving unaffiliated persons or companies;
    (2) An extension of credit by the insured state bank to the 
subsidiary that is fully collateralized by government securities, as 
such term is defined in Sec. 344.3 of this chapter; or
    (3) An extension of credit by the insured state bank to the 
subsidiary that is fully collateralized by a segregated deposit in the 
insured state bank.
    (3) Transaction requirements--(i) Arm's length transaction 
requirement. With the exception of giving the subsidiary immediate 
credit for uncollected items received in the ordinary course of 
business, an insured state bank may not carry out any of the following 
transactions with a subsidiary subject to this paragraph (d) unless the
[[Page 66333]]
transaction is on terms and conditions that are substantially the same 
as those prevailing at the time for comparable transactions with 
unaffiliated parties:
    (A) Make an investment in the subsidiary;
    (B) Purchase from or sell to the subsidiary any assets (including 
securities);
    (C) Enter into a contract, lease, or other type of agreement with 
the subsidiary;
    (D) Pay compensation to a majority-owned subsidiary or any person 
or company who has an interest in the subsidiary; or
    (E) Engage in any such transaction in which the proceeds thereof 
are used for the benefit of, or are transferred to, the subsidiary.
    (ii) Prohibition on purchase of low quality assets. An insured 
state bank is prohibited from purchasing a low quality asset from a 
subsidiary subject to this paragraph (d). For purposes of this 
subsection, ``low quality asset'' means:
    (A) An asset classified as ``substandard'', ``doubtful'', or 
``loss'' or treated as ``other assets especially mentioned'' in the 
most recent report of examination of the bank;
    (B) An asset in a nonaccrual status;
    (C) An asset on which principal or interest payments are more than 
30 days past due; or
    (D) An asset whose terms have been renegotiated or compromised due 
to the deteriorating financial condition of the obligor.
    (iii) Insider transaction restriction. Neither the insured state 
bank nor the subsidiary subject to this paragraph (d) may enter into 
any transaction (exclusive of those covered by Sec. 337.3 of this 
chapter) with the bank's executive officers, directors, principal 
shareholders or related interests of such persons which relate to the 
subsidiary's activities unless:
    (A) The transactions are on terms and conditions that are 
substantially the same as those prevailing at the time for comparable 
transactions with persons not affiliated with the insured state bank; 
or
    (B) The transactions are pursuant to a benefit or compensation 
program that is widely available to employees of the bank, and that 
does not give preference to the bank's executive officers, directors, 
principal shareholders or related interests of such persons over other 
bank employees.
    (iv) Anti-tying restriction. Neither the insured state bank nor the 
majority-owned subsidiary may require a customer to either buy any 
product or use any service from the other as a condition of entering 
into a transaction.
    (4) Collateralization requirements. (i) An insured state bank is 
prohibited from making an investment in a subsidiary subject to this 
paragraph (d) unless such transaction is fully-collateralized at the 
time the transaction is entered into. No insured state bank may accept 
a low quality asset as collateral. An extension of credit is fully 
collateralized if it is secured at the time of the transaction by 
collateral having a market value equal to at least:
    (A) 100 percent of the amount of the transaction if the collateral 
is composed of:
    (1) Obligations of the United States or its agencies;
    (2) Obligations fully guaranteed by the United States or its 
agencies as to principal and interest;
    (3) Notes, drafts, bills of exchange or bankers acceptances that 
are eligible for rediscount or purchase by the Federal Reserve Bank; or
    (4) A segregated, earmarked deposit account with the insured state 
bank;
    (B) 110 percent of the amount of the transaction if the collateral 
is composed of obligations of any state or political subdivision of any 
state;
    (C) 120 percent of the amount of the transaction if the collateral 
is composed of other debt instruments, including receivables; or
    (D) 130 percent of the amount of the transaction if the collateral 
is composed of stock, leases, or other real or personal property.
    (ii) An insured state bank may not release collateral prior to 
proportional payment of the extension of credit; however, collateral 
may be substituted if there is no diminution of collateral coverage.
    (5) Investment and transaction limits extended to insured state 
bank subsidiaries. For purposes of applying paragraphs (d)(2) through 
(d)(4) of this section, any reference to ``insured state bank'' means 
the insured state bank and any subsidiaries of the insured state bank 
which are not themselves subject under this part or FDIC order to the 
restrictions of this paragraph (d).
    (e) Capital requirements. If specifically required by this part or 
by FDIC order, any insured state bank that wishes to conduct or 
continue to conduct as principal activities through a subsidiary that 
are not permissible for a subsidiary of a national bank must:
    (1) Be well-capitalized after deducting from its tier one capital 
the investment in equity securities of the subsidiary as well as the 
bank's pro rata share of any retained earnings of the subsidiary;
    (2) Reflect this deduction on the appropriate schedule of the 
bank's consolidated report of income and condition; and
    (3) Use such regulatory capital amount for the purposes of the 
bank's assessment risk classification under part 327 of this chapter 
and its categorization as a ``well-capitalized'', an ``adequately 
capitalized'', an ``undercapitalized'', or a ``significantly 
undercapitalized'' institution as defined in Sec. 325.103(b) of this 
chapter, provided that the capital deduction shall not be used for 
purposes of determining whether the bank is ``critically 
undercapitalized'' under part 325 of this chapter.
Sec. 362.5  Approvals previously granted.
    (a) FDIC consent by order or notice. An insured state bank that 
previously filed an application or notice under part 362 in effect 
prior to January 1, 1999 (see 12 CFR part 362 revised as of January 1, 
1998), and obtained the FDIC's consent to engage in an activity or to 
acquire or retain a majority-owned subsidiary engaging as principal in 
an activity or acquiring and retaining any investment that is 
prohibited under this subpart may continue that activity or retain that 
investment without seeking the FDIC's consent, provided that the 
insured state bank and its subsidiary, if applicable, continue to meet 
the conditions and restrictions of the approval. An insured state bank 
which was granted approval based on conditions which differ from the 
requirements of Sec. 362.4(c)(2), (d) and (e) will be considered to 
meet the conditions and restrictions of the approval relating to being 
an eligible subsidiary, meeting investment and transactions limits, and 
meeting capital requirements if the insured state bank and subsidiary 
meet the requirements of Sec. 362.4(c)(2), (d) and (e). If the 
majority-owned subsidiary is engaged in real estate investment 
activities not exceeding 2 percent of the tier one capital of a bank 
and meeting the other conditions of Sec. 362.4(b)(5)(i), the majority-
owned subsidiary's compliance with Sec. 362.4(c)(2) under the preceding 
sentence may be pursuant to the modifications authorized by 
Sec. 362.4(b)(5)(i). Once an insured state bank elects to comply with 
Sec. 362.4 (c)(2), (d), and (e), it may not revert to the corresponding 
provisions of the approval order.
    (b) Approvals by regulation--(1) Securities underwriting. If an 
insured state nonmember bank engages in securities activities covered 
by Sec. 362.4(b)(5)(ii), and prior to January 1, 1999, engaged in 
securities activities under and in compliance with the restrictions of 
Sec. 337.4 (b) through (c), Sec. 337.4(e), or Sec. 337.4(h) of this 
chapter,
[[Page 66334]]
having filed the required notice under Sec. 337.4(d) of this chapter, 
the insured state bank may continue those activities if the bank and 
its majority-owned subsidiaries comply with the restrictions set forth 
in Secs. 362.4(b)(5)(ii) and 362.4 (c), (d), and (e) by January 1, 
2000. During the one-year period of transition between January 1, 1999, 
and January 1, 2000, the bank and its majority-owned subsidiary must 
meet the restrictions set forth in Sec. 337.4 of this chapter until the 
requirements of Secs. 362.4(b)(5)(ii) and 362.4 (c), (d) and (e) are 
met. If the bank will not meet these requirements, the bank must obtain 
the FDIC's consent to continue those activities under Sec. 362.4(b)(1).
    (2) Grandfathered insurance underwriting. An insured state bank 
which is directly providing insurance as principal pursuant to 
Sec. 362.4(c)(2)(i) in effect prior to January 1, 1999 (see 12 CFR part 
362 revised as of January 1, 1998), may continue that activity if it 
complies with the provisions of Sec. 362.3(b)(2)(ii)(C) by April 1, 
1999. An insured state bank indirectly providing insurance as principal 
through a subsidiary pursuant to Sec. 362.3(b)(7) in effect prior to 
January 1, 1999 (see 12 CFR part 362 revised as of January 1, 1998), 
may continue that activity if it complies with the provisions of 
Sec. 362.4(b)(2)(i) by April 1, 1999. During the ninety-day period of 
transition between January 1, 1999 and April 1, 1999, the bank and its 
majority-owned subsidiary must meet the restrictions set forth in 
Sec. 362.4(c)(2)(i) or Sec. 362.3(b)(7) in effect prior to January 1, 
1999 (see 12 CFR part 362 revised as of January 1, 1998), as 
applicable, until the requirements of Sec. 362.3(b)(2)(ii)(C) or 
Sec. 362.4(b)(2)(i) are met. If the insured state bank or its 
subsidiary will not meet these requirements, as applicable, the insured 
state bank must submit an application in compliance with Sec. 303.121 
of this chapter and obtain the FDIC's consent in accordance with 
Sec. 303.122(b) of this chapter.
    (3) Stock of certain corporations. An insured state bank owning 
indirectly through a majority-owned subsidiary stock of a corporation 
that engages solely in activities permissible for a bank service 
corporation pursuant to Sec. 362.4(c)(3)(iv)(C) in effect prior to 
January 1, 1999 (see 12 CFR part 362 revised as of January 1, 1998), or 
stock of a corporation which engages solely in activities which are not 
``as principal'' pursuant to Sec. 362.4(c)(3)(iv)(D) in effect prior to 
January 1, 1999 (see 12 CFR part 362 revised as of January 1, 1998), 
may continue that activity if it complies with the provisions of 
Sec. 362.4(b)(3) by April 1, 1999. During the ninety-day period of 
transition between January 1, 1999 and April 1, 1999, the bank and its 
majority-owned subsidiary must meet the restrictions set forth in 
Sec. 362.4(c)(3)(iv)(C) or Sec. 362.4(c)(3)(iv)(D) in effect prior to 
January 1, 1999 (see 12 CFR part 362 revised as of January 1, 1998), as 
applicable, until the requirements of Sec. 362.4(b)(3) are met. If the 
insured state bank or its subsidiary will not meet these requirements, 
as applicable, the insured state bank must apply for the FDIC's consent 
under Sec. 362.4(b)(1).
    (4) [Reserved]
    (5) [Reserved]
    (6) Adjustable rate or money market preferred stock. An insured 
state bank owning adjustable rate or money market (auction rate) 
preferred stock pursuant to Sec. 362.4(c)(3)(v) in effect prior to 
January 1, 1999 (see 12 CFR part 362 revised as of January 1, 1998), in 
excess of the amount limit in Sec. 362.3(b)(2)(iii) may continue to 
hold any overlimit shares of such stock acquired before January 1, 
1999, until redeemed or repurchased by the issuer, but such stock shall 
be included as part of the amount limit in Sec. 362.3(b)(2)(iii) when 
determining whether the bank may acquire new stock thereunder.
    (c) Charter conversions. (1) An insured state bank that has 
converted its charter from an insured state savings association may 
continue activities through a majority-owned subsidiary that were 
permissible prior to the time it converted its charter only if the 
insured state bank receives the FDIC's consent. Except as provided in 
paragraph (c)(2) of this section, the insured state bank should apply 
under Sec. 362.4(b)(1), submit any notice required under Sec. 362.4(b) 
(4) or (5), or comply with the provisions of Sec. 362.4(b) (3), (6), or 
(7) if applicable, to continue the activity.
    (2) Exception for prior consent. If the FDIC had granted consent to 
the savings association under section 28 of the Federal Deposit 
Insurance Act (12 U.S.C. 1831(e)) prior to the time the savings 
association converted its charter, the insured state bank may continue 
the activities without providing notice or making application to the 
FDIC, provided that the bank and its subsidiary as applicable are in 
compliance with:
    (i) The terms of the FDIC approval order; and
    (ii) The provisions of Sec. 362.4(c)(2), (d), and (e) regarding 
operating as an ``eligible subsidiary'', ``investment and transaction 
limits'', and ``capital requirements'.
    (3) Divestiture. An insured state bank that does not receive FDIC 
consent shall divest of the nonconforming investment as soon as 
practical but in no event later than two years from the date of charter 
conversion.
Subpart B--Safety and Soundness Rules Governing Insured State 
Nonmember Banks
Sec. 362.6  Purpose and scope.
    This subpart, along with the notice and application procedures in 
subpart G of part 303 of this chapter apply to certain banking 
practices that may have adverse effects on the safety and soundness of 
insured state nonmember banks. The FDIC intends to allow insured state 
nonmember banks and their subsidiaries to undertake only safe and sound 
activities and investments that would not present a significant risk to 
the deposit insurance fund and that are consistent with the purposes of 
federal deposit insurance and other law. The following standards shall 
apply for insured state nonmember banks to conduct real estate 
investment activities through a subsidiary if those activities are 
permissible for a national bank subsidiary but are not permissible for 
the national bank parent itself. Additionally, the following standards 
shall apply to affiliates of insured state nonmember banks that are not 
affiliated with a bank holding company if those affiliates engage in 
the public sale, distribution or underwriting of stocks, bonds, 
debentures, notes or other securities.
Sec. 362.7  Definitions.
    For the purposes of this subpart, the following definitions apply:
    (a) Affiliate shall mean any company that directly or indirectly, 
through one or more intermediaries, controls or is under common control 
with an insured state nonmember bank, but does not include a subsidiary 
of an insured state nonmember bank.
    (b) Activity, company, control, equity security, insured state 
nonmember bank, real estate investment activity, security, and 
subsidiary have the same meaning as provided in subpart A of this part.
Sec. 362.8  Restrictions on activities of insured state nonmember 
banks.
    (a) Real estate investment activities by subsidiaries of insured 
state nonmember banks. The FDIC has found that real estate investment 
activities may have adverse effects on the safety and soundness of 
insured state nonmember banks. Notwithstanding any interpretations, 
orders, circulars or official bulletins issued by the Office of the 
Comptroller of the Currency regarding activities permissible for
[[Page 66335]]
subsidiaries of a national bank that are not permissible for the parent 
national bank itself under 12 CFR 5.34(f), insured state nonmember 
banks may not establish or acquire a subsidiary that engages in such 
real estate investment activities unless the insured state nonmember 
bank:
    (1) Has an approval previously granted by the FDIC and continues to 
meet the conditions and restrictions of the approval; or
    (2) Meets the requirements for engaging in real estate investment 
activities as set forth in Sec. 362.4(b)(5), and submits a 
corresponding notice in compliance with Sec. 303.121 of this chapter 
and the FDIC processes the notice without objection under 
Sec. 303.122(a) of this chapter; or submits an application in 
compliance with Sec. 303.121 of this chapter and the FDIC grants its 
consent under the procedure in Sec. 303.122(b) of this chapter.
    (b) Affiliation with securities companies. The FDIC has found that 
an unrestricted affiliation between an insured state nonmember bank and 
a securities company may have adverse effects on the safety and 
soundness of insured state nonmember banks. An insured state nonmember 
bank which is affiliated with a company that is not treated as a bank 
holding company pursuant to section 4(f) of the Bank Holding Company 
Act (12 U.S.C. 1843(f)) is prohibited from becoming or remaining 
affiliated with any company that directly engages in the public sale, 
distribution or underwriting of stocks, bonds, debentures, notes, or 
other securities which is not permissible for a national bank unless it 
submits an application in compliance with Sec. 303.121 of this chapter 
and the FDIC grants its consent under the procedure in Sec. 303.122(b) 
of this chapter, or:
    (1) The securities business of the affiliate is physically separate 
and distinct in its operations from the operations of the bank, 
provided that this requirement shall not be construed to prohibit the 
bank and its affiliate from sharing the same facility if the area where 
the affiliate conducts retail sales activity with the public is 
physically distinct from the routine deposit taking area of the bank;
    (2) The affiliate has a chief executive officer who is not an 
employee of the bank;
    (3) A majority of the affiliate's board of directors are not 
directors, officers, or employees of the bank;
    (4) The affiliate conducts business pursuant to independent 
policies and procedures designed to inform customers and prospective 
customers of the affiliate that the affiliate is a separate 
organization from the bank and the state-chartered depository 
institution is not responsible for and does not guarantee the 
obligations of the affiliate;
    (5) The bank adopts policies and procedures, including appropriate 
limits on exposure, to govern its participation in financing 
transactions underwritten by an underwriting affiliate;
    (6) The bank does not express an opinion on the value or the 
advisability of the purchase or sale of securities underwritten or 
dealt in by an affiliate unless it notifies the customer that the 
entity underwriting, making a market, distributing or dealing in the 
securities is an affiliate of the bank;
    (7) The bank does not purchase as principal or fiduciary during the 
existence of any underwriting or selling syndicate any securities 
underwritten by the affiliate unless the purchase is approved by the 
bank's board of directors before the securities are initially offered 
for sale to the public;
    (8) The bank does not condition any extension of credit to any 
company on the requirement that the company contract with, or agree to 
contract with, the bank's affiliate to underwrite or distribute the 
company's securities;
    (9) The bank does not condition any extension of credit or the 
offering of any service to any person or company on the requirement 
that the person or company purchase any security underwritten or 
distributed by the affiliate; and
    (10) The bank complies with the investment and transaction 
limitations of Sec. 362.4(d). For the purposes of applying these 
restrictions, references to the term ``subsidiary'' in 
Sec. 362.4(d)(2), (3), and (4) shall be deemed to refer to the 
affiliate. For the purposes of applying these limitations, the term 
``investment'' as defined in Sec. 362.4(d)(2)(ii) shall also include 
any equity securities of the affiliate held by the insured state bank.
Subpart C--Activities of Insured State Savings Associations
Sec. 362.9  Purpose and scope.
    (a) This subpart, along with the notice and application procedures 
in subpart H of part 303 of this chapter, implements the provisions of 
section 28 of the Federal Deposit Insurance Act (12 U.S.C. 1831e) that 
restrict and prohibit insured state savings associations and their 
service corporations from engaging in activities and investments of a 
type that are not permissible for federal savings associations and 
their service corporations. The phrase ``activity permissible for a 
federal savings association'' means any activity authorized for federal 
savings associations under any statute including the Home Owners' Loan 
Act (HOLA, 12 U.S.C. 1464 et seq.), as well as activities recognized as 
permissible for a federal savings association in regulations, official 
thrift bulletins, orders or written interpretations issued by the 
Office of Thrift Supervision (OTS), or its predecessor, the Federal 
Home Loan Bank Board.
    (b) This subpart does not cover the following activities:
    (1) Activities conducted by the insured state savings association 
other than ``as principal'', defined for purposes of this subpart as 
activities conducted as agent for a customer, conducted in a brokerage, 
custodial, advisory, or administrative capacity, or conducted as 
trustee, or in any substantially similar capacity. For example, this 
subpart does not cover acting solely as agent for the sale of 
insurance, securities, real estate, or travel services; nor does it 
cover acting as trustee, providing personal financial planning advice, 
or safekeeping services.
    (2) Interests in real estate in which the real property is used or 
intended in good faith to be used within a reasonable time by an 
insured savings association or its service corporations as offices or 
related facilities for the conduct of its business or future expansion 
of its business or used as public welfare investments of a type and in 
an amount permissible for federal savings associations.
    (3) Equity investments acquired in connection with debts previously 
contracted (DPC) if the insured savings association or its service 
corporation takes only such actions as would be permissible for a 
federal savings association's or its service corporation's DPC 
holdings.
    (c) The FDIC intends to allow insured state savings associations 
and their service corporations to undertake only safe and sound 
activities and investments that do not present significant risks to the 
deposit insurance funds and that are consistent with the purposes of 
federal deposit insurance and other applicable law. This subpart does 
not authorize any insured state savings association to make investments 
or conduct activities that are not authorized or that are prohibited by 
either federal or state law.
Sec. 362.10  Definitions.
    For the purposes of this subpart, the definitions provided in 
Sec. 362.2 apply. Additionally, the following definitions apply to this 
subpart:
    (a) Affiliate shall mean any company that directly or indirectly, 
through one
[[Page 66336]]
or more intermediaries, controls or is under common control with an 
insured state savings association.
    (b) Corporate debt securities not of investment grade means any 
corporate debt security that when acquired was not rated among the four 
highest rating categories by at least one nationally recognized 
statistical rating organization. The term shall not include any 
obligation issued or guaranteed by a corporation that may be held by a 
federal savings association without limitation as to percentage of 
assets under subparagraphs (D), (E), or (F) of section 5(c)(1) of HOLA 
(12 U.S.C. 1464(c)(1) (D), (E), (F)).
    (c) Insured state savings association means any state-chartered 
savings association insured by the FDIC.
    (d) Qualified affiliate means, in the case of a stock insured state 
savings association, an affiliate other than a subsidiary or an insured 
depository institution. In the case of a mutual savings association, 
``qualified affiliate'' means a subsidiary other than an insured 
depository institution provided that all of the savings association's 
investments in, and extensions of credit to, the subsidiary are 
deducted from the savings association's capital.
    (e) Service corporation means any corporation the capital stock of 
which is available for purchase by savings associations.
Sec. 362.11  Activities of insured state savings associations.
    (a) Equity investments--(1) Prohibited investments. No insured 
state savings association may directly acquire or retain as principal 
any equity investment of a type, or in an amount, that is not 
permissible for a federal savings association unless the exception in 
paragraph (a)(2) of this section applies.
    (2) Exception: Equity investment in service corporations. An 
insured state savings association that is and continues to be in 
compliance with the applicable capital standards as prescribed by the 
appropriate federal banking agency may acquire or retain an equity 
investment in a service corporation:
    (i) Not permissible for a federal savings association to the extent 
the service corporation is engaging in activities that are allowed 
pursuant to the provisions of or an application under Sec. 362.12(b); 
or
    (ii) Of a type permissible for a federal savings association, but 
in an amount exceeding the investment limits applicable to federal 
savings associations, if the insured state savings association obtains 
the FDIC's prior consent. Consent will be given only if the FDIC 
determines that the amount of the investment in a service corporation 
engaged in such activities does not present a significant risk to the 
affected deposit insurance fund. Applications should be filed in 
accordance with Sec. 303.141 of this chapter and will be processed 
under Sec. 303.142(b) of this chapter. Approvals granted under 
Sec. 303.142(b) of this chapter may be made subject to any conditions 
or restrictions found by the FDIC to be necessary to protect the 
deposit insurance funds from significant risk, to prevent unsafe or 
unsound practices, and/or to ensure that the activity is consistent 
with the purposes of federal deposit insurance and other applicable 
law.
    (b) Activities other than equity investments--(1) Prohibited 
activities. An insured state savings association may not directly 
engage as principal in any activity, that is not an equity investment, 
of a type not permissible for a federal savings association, and an 
insured state savings association shall not make nonresidential real 
property loans in an amount exceeding that described in section 
5(c)(2)(B) of HOLA (12 U.S.C. 1464(c)(2)(B)), unless one of the 
exceptions in paragraph (b)(2) of this section applies. This section 
shall not be read to require the divestiture of any asset (including a 
nonresidential real estate loan), if the asset was acquired prior to 
August 9, 1989; however, any activity conducted with such asset must be 
conducted in accordance with this subpart. After August 9, 1989, an 
insured state savings association directly or through a subsidiary 
(other than, in the case of a mutual savings association, a subsidiary 
that is a qualified affiliate), may not acquire or retain any corporate 
debt securities not of investment grade.
    (2) Exceptions--(i) Consent obtained through application. An 
insured state savings association that meets and continues to meet the 
applicable capital standards set by the appropriate federal banking 
agency may directly conduct activities prohibited by paragraph (b)(1) 
of this section if the savings association obtains the FDIC's prior 
consent. Consent will be given only if the FDIC determines that 
conducting the activity designated poses no significant risk to the 
affected deposit insurance fund. Applications should be filed in 
accordance with Sec. 303.141 of this chapter and will be processed 
under Sec. 303.142(b) of this chapter. Approvals granted under 
Sec. 303.142(b) of this chapter may be made subject to any conditions 
or restrictions found by the FDIC to be necessary to protect the 
deposit insurance funds from significant risk, to prevent unsafe or 
unsound practices, and/or to ensure that the activity is consistent 
with the purposes of federal deposit insurance and other applicable 
law.
    (ii) Nonresidential realty loans permissible for a federal savings 
association conducted in an amount not permissible. An insured state 
savings association that meets and continues to meet the applicable 
capital standards set by the appropriate federal banking agency may 
make nonresidential real property loans in an amount exceeding the 
amount described in section 5(c)(2)(B) of HOLA, if the savings 
association files a notice in compliance with Sec. 303.141 of this 
chapter and the FDIC processes the notice without objection under 
Sec. 303.142(a) of this chapter. Consent will be given only if the FDIC 
determines that engaging in such lending in the amount designated poses 
no significant risk to the affected deposit insurance fund.
    (iii) Acquiring and retaining adjustable rate and money market 
preferred stock. (A) An insured state savings association's investment 
of up to 15 percent of the association's tier one capital in adjustable 
rate preferred stock or money market (auction rate) preferred stock 
does not represent a significant risk to the deposit insurance funds. 
An insured state savings association may conduct this activity without 
first obtaining the FDIC's consent, provided that the association meets 
and continues to meet the applicable capital standards as prescribed by 
the appropriate federal banking agency. The fact that prior consent is 
not required by this subpart does not preclude the FDIC from taking any 
appropriate action with respect to the activities if the facts and 
circumstances warrant such action.
    (B) An insured state savings association may acquire or retain 
other instruments of a type determined by the FDIC to have the 
character of debt securities and not to represent a significant risk to 
the deposit insurance funds. Such instruments shall be included in the 
15 percent of tier one capital limit imposed in paragraph 
(b)(2)(iii)(A) of this section. An insured state savings association 
may conduct this activity without first obtaining the FDIC's consent, 
provided that the association meets and continues to meet the 
applicable capital standards as prescribed by the appropriate federal 
banking agency. The fact that prior consent is not required by this 
subpart does not preclude the FDIC from taking any appropriate action 
with respect to the activities if the facts and circumstances warrant 
such action.
[[Page 66337]]
    (3) Activities permissible for a federal savings association 
conducted in an amount not permissible. Except as provided in paragraph 
(b)(2)(ii) of this section, an insured state savings association may 
engage as principal in any activity, which is not an equity investment 
of a type permissible for a federal savings association, in an amount 
in excess of that permissible for a federal savings association, if the 
savings association meets and continues to meet the applicable capital 
standards set by the appropriate federal banking agency, the 
institution has advised the appropriate regional director (DOS) under 
the procedure in Sec. 303.142(c) of this chapter within thirty days 
before engaging in the activity, and the FDIC has not advised the 
insured state savings association that conducting the activity in the 
amount indicated poses a significant risk to the affected deposit 
insurance fund. This section shall not be read to require the 
divestiture of any asset if the asset was acquired prior to August 9, 
1989; however, any activity conducted with such asset must be conducted 
in accordance with this subpart.
Sec. 362.12  Service corporations of insured state savings 
associations.
    (a) Prohibition. A service corporation of an insured state savings 
association may not engage in any activity that is not permissible for 
a service corporation of a federal savings association, unless it meets 
one of the exceptions in paragraph (b) of this section.
    (b) Exceptions--(1) Consent obtained through application. A service 
corporation of an insured state savings association may conduct 
activities prohibited by paragraph (a) of this section if the savings 
association obtains the FDIC's prior written consent and the insured 
state savings association meets and continues to meet the applicable 
capital standards set by the appropriate federal banking agency. 
Consent will be given only if the FDIC determines that the activity 
poses no significant risk to the affected deposit insurance fund. 
Applications for consent should be filed in accordance with 
Sec. 303.141 of this chapter and will be processed under 
Sec. 303.142(b) of this chapter. Approvals granted under 
Sec. 303.142(b) of this chapter may be made subject to any conditions 
or restrictions found by the FDIC to be necessary to protect the 
deposit insurance funds from risk, to prevent unsafe or unsound banking 
practices, and/or to ensure that the activity is consistent with the 
purposes of federal deposit insurance and other applicable law.
    (2) Service corporations conducting unrestricted activities. The 
FDIC has determined that the following activities do not represent a 
significant risk to the deposit insurance funds:
    (i) A service corporation of an insured state savings association 
may acquire and retain equity securities of a company engaged in 
securities activities authorized in paragraph (b)(4) of this section if 
the bank complies with the following restrictions and files a notice in 
compliance with Sec. 303.141 of this chapter and the FDIC processes the 
notice without objection under Sec. 303.142(a) of this chapter. The 
FDIC is not precluded from taking any appropriate action or imposing 
additional requirements with respect to the activity if the facts and 
circumstances warrant such action. If changes to the management or 
business plan of the company at any time result in material changes to 
the nature of the company's business or the manner in which its 
business is conducted, the insured state savings association shall 
advise the appropriate regional director (DOS) in writing within 10 
business days after such change. Investment under this paragraph is 
authorized if:
    (A) The service corporation controls the company;
    (B) The savings association meets the core eligibility criteria of 
Sec. 362.4(c)(1);
    (C) The service corporation meets the core eligibility criteria of 
Sec. 362.4(c)(2) (with references to the term ``subsidiary'' deemed to 
refer to the service corporation), or the company is a corporation 
meeting such criteria;
    (D) The savings association's transactions with the service 
corporation comply with the investment and transaction limits of 
paragraph (c) of this section, and the savings association's 
transactions with the company comply with such limits as if it were a 
service corporation;
    (E) The savings association complies with the capital requirements 
of paragraph (d) of this section with respect to the service 
corporation and the company; and
    (F) The savings association and the company comply with the 
additional requirements of Sec. 362.4(b)(5)(ii) (with references to the 
term ``majority-owned subsidiary'' deemed to refer to the company).
    (ii) A service corporation of an insured state savings association 
may acquire and retain equity securities of a company engaged in the 
following activities, if the service corporation controls the company 
or the company is controlled by insured depository institutions, and 
the association continues to meet the applicable capital standards as 
prescribed by the appropriate federal banking agency. The FDIC consents 
that such activity may be conducted by a service corporation of an 
insured state savings association without first obtaining the FDIC's 
consent. The fact that prior consent is not required by this subpart 
does not preclude the FDIC from taking any appropriate action with 
respect to the activities if the facts and circumstances warrant such 
action.
    (A) Equity securities of a company that engages in permissible 
activities. A service corporation may own the equity securities of a 
company that engages in any activity permissible for a federal savings 
association.
    (B) Equity securities of a company that acquires and retains 
adjustable-rate and money market preferred stock. A service corporation 
may own the equity securities of a company that engages in any activity 
permissible for an insured state savings association under 
Sec. 362.11(b)(2)(iii) so long as instruments held under this paragraph 
(b)(2)(ii)(B), paragraph (b)(2)(iv) of this section, and 
Sec. 362.11(b)(2)(iii) in the aggregate do not exceed the limit set by 
Sec. 362.11(b)(2)(iii).
    (C) Equity securities of a company acting as an insurance agency. A 
service corporation may own the equity securities of a company that 
acts as an insurance agency.
    (iii) Activities that are not conducted ``as principal''. A service 
corporation controlled by the insured state savings association may 
engage in activities which are not conducted ``as principal'' such as 
acting as an agent for a customer, acting in a brokerage, custodial, 
advisory, or administrative capacity, or acting as trustee, or in any 
substantially similar capacity.
    (iv) Acquiring and retaining adjustable-rate and money market 
preferred stock. A service corporation may engage in any activity 
permissible for an insured state savings association under 
Sec. 362.11(b)(2)(iii) so long as instruments held under this paragraph 
(b)(2)(iv), paragraph (b)(2)(ii)(B) of this section, and 
Sec. 362.11(b)(2)(iii) in the aggregate do not exceed the limit set by 
Sec. 362.11(b)(2)(iii).
    (3) [Reserved]
    (4) Service corporations conducting securities underwriting. The 
FDIC has determined that it does not represent a significant risk to 
the deposit insurance funds for a service corporation to engage in the 
public sale, distribution or underwriting of securities provided that 
the activity is conducted by a service corporation of an insured state 
savings association in compliance with the core eligibility 
requirements listed in
[[Page 66338]]
Sec. 362.4(c); any additional requirements listed in 
Sec. 362.4(b)(5)(ii); the savings association complies with the 
investment and transaction limitations of paragraph (c) of this 
section; and the savings association meets the capital requirements of 
paragraph (d) of this section. The FDIC consents that these listed 
activities may be conducted by a service corporation of an insured 
state savings association if the savings association files a notice in 
compliance with Sec. 303.141 of this chapter and the FDIC processes the 
notice without objection under Sec. 303.142(a) of this chapter. The 
FDIC is not precluded from taking any appropriate action or imposing 
additional requirements with respect to the activities if the facts and 
circumstances warrant such action. If changes to the management or 
business plan of the service corporation at any time result in material 
changes to the nature of the service corporation's business or the 
manner in which its business is conducted, the insured state savings 
association shall advise the appropriate regional director (DOS) in 
writing within 10 business days after such change. For purposes of 
applying Sec. 362.4 (b)(5)(ii) and (c) to this paragraph (b)(4), 
references to the terms ``subsidiary'' and ``majority-owned 
subsidiary'' in Secs. 362.4(b)(5)(ii) and (c) shall be deemed to refer 
to the service corporation. For the purposes of applying Sec. 362.4(c), 
references to the term ``eligible subsidiary'' in Sec. 362.4(c) shall 
be deemed to refer to the eligible service corporation.
    (c) Investment and transaction limits. The restrictions detailed in 
Sec. 362.4(d) apply to transactions between an insured state savings 
association and any service corporation engaging in activities which 
are not permissible for a service corporation of a federal savings 
association if specifically required by this part or FDIC order. For 
purposes of applying the investment limits in Sec. 362.4(d)(2), the 
term ``investment'' includes only those items described in 
Sec. 362.4(d)(2)(ii)(A) (3) and (4). For purposes of applying 
Sec. 362.4(d) (2), (3), and (4) to this paragraph (c), references to 
the terms ``insured state bank'' and ``subsidiary'' in 
Sec. 362.4(d)(2), (3), and (4), shall be deemed to refer, respectively, 
to the insured state savings association and the service corporation. 
For purposes of applying Sec. 362.4(d)(5), references to the terms 
``insured state bank'' and ``subsidiary'' in Sec. 362.4(d)(5) shall be 
deemed to refer, respectively, to the insured state savings association 
and the service corporations or subsidiaries.
    (d) Capital requirements. If specifically required by this part or 
by FDIC order, an insured state savings association that wishes to 
conduct as principal activities through a service corporation which are 
not permissible for a service corporation of a federal savings 
association must:
    (1) Be well-capitalized after deducting from its capital any 
investment in the service corporation, both equity and debt.
    (2) Use such regulatory capital amount for the purposes of the 
insured state savings association's assessment risk classification 
under part 327 of this chapter.
Sec. 362.13  Approvals previously granted.
    FDIC consent by order or notice. An insured state savings 
association that previously filed an application and obtained the 
FDIC's consent to engage in an activity or to acquire or retain an 
investment in a service corporation engaging as principal in an 
activity or acquiring and retaining any investment that is prohibited 
under this subpart may continue that activity or retain that investment 
without seeking the FDIC's consent, provided the insured state savings 
association and the service corporation, if applicable, continue to 
meet the conditions and restrictions of approval. An insured state 
savings association which was granted approval based on conditions 
which differ from the requirements of Secs. 362.4(c)(2) and 362.12 (c) 
and (d) will be considered to meet the conditions and restrictions of 
the approval if the insured state savings association and any 
applicable service corporation meet the requirements of 
Secs. 362.4(c)(2) and 362.12 (c) and (d). For the purposes of applying 
Sec. 362.4(c)(2), references to the terms ``eligible subsidiary'' and 
``subsidiary'' in Sec. 362.4(c)(2) shall be deemed to refer, 
respectively, to the eligible service corporation and the service 
corporation.
Subpart D--Acquiring, Establishing, or Conducting New Activities 
Through a Subsidiary by an Insured Savings Association
Sec. 362.14  Purpose and scope.
    This subpart implements section 18(m) of the Federal Deposit 
Insurance Act (12 U.S.C. 1828(m)) which requires that prior notice be 
given the FDIC when an insured savings association establishes or 
acquires a subsidiary or engages in any new activity in a subsidiary. 
For the purposes of this subpart, the term ``subsidiary'' does not 
include any insured depository institution as that term is defined in 
the Federal Deposit Insurance Act. Unless otherwise indicated, the 
definitions provided in Sec. 362.2 apply to this subpart.
Sec. 362.15  Acquiring or establishing a subsidiary; conducting new 
activities through a subsidiary.
    No state or federal insured savings association may establish or 
acquire a subsidiary, or conduct any new activity through a subsidiary, 
unless it files a notice in compliance with Sec. 303.142(c) of this 
chapter at least 30 days prior to establishment of the subsidiary or 
commencement of the activity and the FDIC does not object to the 
notice. This requirement does not apply to any federal savings bank 
that was chartered prior to October 15, 1982, as a savings bank under 
state law or any savings association that acquired its principal assets 
from such an institution.
    By order of the Board of Directors.
    Dated at Washington, D.C. this 5th day of November, 1998.
Federal Deposit Insurance Corporation.
Robert E. Feldman,
Executive Secretary.
[FR Doc. 98-31152 Filed 11-30-98; 8:45 am]
BILLING CODE 6714-01-P

Last Updated 12/01/1998 regs@fdic.gov