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4000 - Advisory Opinions


Regulation O Violation Relating to Loans to a Principal Shareholder

FDIC-79-13

November 15, 1979

Pamela E. F. LeCren, Attorney

The following opinion is in response to the October 10, 1979 letter written by the law firm of *** counsel for *** which was forwarded to the Legal Division for response. The letter requests an opinion on whether or not a person is a "principal shareholder" within the meaning of the term as defined by Federal Reserve Board Regulation O (12 C.F.R. Part 215)1 if (1) the person owns approximately one percent of the stock in a nonmember insured bank, (2) his/her stock is held by a voting trust, which controls 54.2 percent of the total outstanding stock of the bank, (3) the stock held by the voting trust is voted in accordance with the majority vote of five trustees, and (4) the person in question is one of the five trustees. This question is raised as the June 14, 1979 examination report of *** cited the bank for a violation of section 215.4(c) of Regulation O. The bank is said to have violated the regulation in that it made an extension of credit after March 10, 1979 to *** a principal shareholder of the bank, which caused the bank to have outstanding extensions of credit to *** in excess of the lending limitation proscribed by Regulation O.

The Legal Division recently formulated an opinion regarding members of voting trusts for the purposes of Regulation 0.2 In brief, the opinion states that the members of a voting trust who hold more than ten percent of the stock of a bank may or may not be principal shareholders under Regulation O. Despite the fact that members of a voting trust normally divest themselves of the power to vote their bank stock when it is placed in the voting trust, a member of the trust will be considered to be a principal shareholder if the member is in a position to control the selection of the trustees or the manner in which the trustees vote. As neither is the case with regard to *** we will not consider him to be a principal shareholder of *** on the basis of his membership in a voting trust that controls over ten percent of the stock of the bank.

*** is, however, a trustee of the voting trust. It is our opinion (also stated in the October 17, 1979 letter) that the trustees of a voting trust are principal shareholders under the definition of the term found in Regulation O. The five trustees of the subject trust have the power, acting in concert, to vote more than ten percent of the stock of ***. That the stock is voted at all necessarily requires that at least three of the trustees act together in directing the vote. Even though the identity of the three persons may change from time to time, that fact does not negate there being an identifiable group (the five trustees) who control how the stock is voted.

To say that no one of the trustees is a principal shareholder because he/she cannot vote the stock alone would result in the anomaly of 54.2 percent of the stock of the bank being voted as a block pursuant to an agreement without any individual or group of individuals being identified as controlling that stock. Furthermore, such a position is contrary to the statutory purpose of protecting banks from the abuses associated with persons who have the power to vote significant portions of the stock of the bank. We could say that the five trustees as a body are one principal shareholder but to do so would limit each trustee in his/her borrowing from *** to two percent of the bank's capital and unimpaired surplus. By treating each trustee as a principal shareholder in his/her own right, each trustee is permitted to borrow up to the full ten percent ceiling.

In summary, it is our opinion that *** was incorrectly identified as a principal shareholder of *** due to his membership in the voting trust. He is, however, a principal shareholder under section 215.2(j) of the regulation. As a loan was made to *** after March 10, 1979 (the effective date of the regulation), which resulted in the bank exceeding the applicable loan ceiling (section 215.4(c)), there has been a violation of Regulation O. Section 215.6, which provides a two-year period to reduce nonconforming loans, is not applicable here as the loan in question was made after March 10, 1979. The bank is therefore required to reduce the loan immediately. In practical terms, this may mean selling the loan.

1 Section 215.2(j) defines "principal shareholder" to be an individual or a company that directly or indirectly, or acting through or in concert with one or more persons, owns, controls, or has the power to vote more than 10 percent of any class of voting securities of an insured nonmember bank or company. Go back to Text

2 See letter dated October 17, 1979 to *** Executive Vice President, ***. Go back to Text


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