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4000 - Advisory Opinions

Sale of Bonds from Bank's Investment Portfolio Pursuant to a Collateralized Put


April 16, 1985

Pamela E. F. LeCren, Senior Attorney

The following is in response to your March 26, 1985 letter requesting an opinion on whether or not a transaction proposed by a client bank involving the sale of bonds from the bank's investment portfolio pursuant to a collateralized put would constitute a guarantee in violation of section 332.1(d) of the FDIC's regulations.

According to your letter, the bank proposes to sell bonds to the public from its investment portfolio in an underwritten public offering. Each bond would be sold to a single investor. The transaction will be treated by the bank as a borrowing for accounting purposes. Each bond will be sold pursuant to a collateralized put whereby the bank will agree to buy back the bond at the investor's sole election on designated put dates (three years after closing and each subsequent anniversary thereof), on seven business days prior notice at any point in time if there is a default on the bond, or upon seven business days prior notice at any time if the bank defaults in its collateral obligations or interest on the bond which is passed through to the investor becomes taxable in the investor's hands.

The option to put the bond back to the bank is exercisable solely at the election of the investor, i.e., the bank will not have the right to call back the bond. The bank's obligations under the put will be collateralized by designated eligible collateral (basically government obligations, GNMA pass throughs and FHLMC bonds).

Section 332 of FDIC's regulations prohibits a nonmember insured bank from doing a surety business, insuring the fidelity of others, insuring, guaranteeing or certifying titles to real estate, or guaranteeing or becoming surety upon the obligations of others. The prohibition does not extend, however, to acceptances, endorsements, or letters of credit made or issued in the usual course of the banking business. Additionally, the FDIC has through interpretive letters recognized certain other exceptions to the general prohibition on guaranteeing the obligations of others. Among those interpretive exceptions is the exception that a bank may act as a guarantor where it has a "substantial interest" in the underlying transaction.

After reviewing the facts as set forth in your letter, it is our conclusion that the sale of the bonds from the bank's investment portfolio pursuant to the collateralized put does not involve a guarantee in violation of Part 332 of FDIC's regulations as the bank does have a "substantial interest" in the overall transaction. The transaction enables the bank to utilize the bonds in its portfolio for income purposes. The existence of the collateralized put places the bank in no worse a position in the event of default under the bond than if the bank had merely retained those bonds in its portfolio.

You should note, however, that this opinion is limited to the situation in which a bank is selling bonds out of its investment portfolio that it has purchased solely for investment purposes and is to be contrasted to a situation in which a bank purchases securities for its investment portfolio for the purpose of selling those bonds to the public in a public offering such as the one described in your letter. In the event of such a transaction, we would view the arrangement as constituting a mechanism to evade the provisions of Part 332 and would find the sale of the bonds pursuant to the collateralized put to constitute a guarantee in violation of Part 332.

Finally, this opinion does not address any issues other than whether or not the transaction in question constitutes a guarantee in violation of Part 332. The opinion does not extend to whether or not the proposed transaction is consistent with any other applicable law or regulation of the state of New York nor does it address any safety and soundness or other concerns the FDIC might have as supervisor of the bank or as receiver of the bank in the event of its insolvency.

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