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4000 - Advisory Opinions

Participation Agreement--Application of Part 332


July 10, 1980

Pamela E. F. LeCren, Attorney

In response to your request, the Legal Division has reviewed the various documents relating to *** Bank's sale of loan participations to ***, a holding company subsidiary which intends to purchase loan participations from banks engaged in agricultural financing and to finance those purchases by issuing commercial paper. The documents reveal that *** Bank agreed to sell to *** no more than 75 percent of certain agricultural loans. The first five percent of any loss incurred on a participated loan will be absorbed by *** Bank. The remaining loss will be shared by the bank and *** on a pro rata basis.

Specifically we were asked to review the loan participation agreement and other documents to determine whether or not the agreement by *** Bank to absorb the first five percent of any loss constituted a violation of Part 332 of FDIC's regulations. Part 332 prohibits a state nonmember bank from, among other things, guaranteeing the obligations of others. In a sense, the bank by agreeing to absorb a certain portion of the loss on the participated loans is guaranteeing the obligation of the debtors and assuring *** that its loss will not be greater than a certain figure. The transaction would therefore seem to fall within the scope of Part 332. However two exceptions to the strict language of Part 332 have been recognized in addition to the exception for acceptances, endorsements, and letters of credit made or issued in the usual course of business that is found in a footnote to section 332.1. Those exceptions are (1) when the bank has a substantial interest in guaranteeing the transaction, or (2) the bank maintains a segregated deposit fully covering any liability that may be incurred by way of the guarantee.

It is our opinion that the substantial interest exception is applicable to the above transaction. The bank is in effect entering into an agreement to facilitate the sale of an asset. The bank is in no worse position for having agreed to absorb five percent of the loss and is in fact in a better position, in the event of default, than if the loan had not been participated out under the subject agreement. Nor is the bank undertaking any greater exposure than it would otherwise be exposed to as a result of originating the loan. In brief, it is our conclusion that no Part 332 violation results from the loan participation agreement.

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