[Federal Register Volume 59, Number 7 (Tuesday, January 11, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-648]


[[Page Unknown]]

[Federal Register: January 11, 1994]


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FEDERAL RESERVE SYSTEM

 

Report to Congressional Committees Regarding Differences in 
Capital and Accounting Standards Among the Federal Banking and Thrift 
Agencies

AGENCY: Board of Governors of the Federal Reserve System.

ACTION: Notice of report to the Committee on Banking, Housing, and 
Urban Affairs of the United States Senate and to the Committee on 
Banking, Finance and Urban Affairs of the United States House of 
Representatives.

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SUMMARY: This report has been prepared by the Federal Reserve Board 
pursuant to section 121 of the Federal Deposit Insurance Corporation 
Improvement Act of 1991. Section 121 requires each Federal banking and 
thrift agency to report annually to the above specified Congressional 
Committees regarding any differences between the accounting or capital 
standards used by such agency and the accounting or capital standards 
used by other banking and thrift agencies. The report must also contain 
an explanation of the reasons for any discrepancy in such accounting or 
capital standards. The report must be published in the Federal 
Register.

FOR FURTHER INFORMATION CONTACT: Rhoger H Pugh, Assistant Director 
(202/728-5883), Norah M. Barger, Manager (202/452-2402), Gerald A. 
Edwards, Jr., Assistant Director (202/452-2741), Robert E. Motyka, 
Supervisory Financial Analyst (202/452-3621), or Nancy J. Rawlings, 
Senior Financial Analyst (202/452-3059), Division of Banking 
Supervision and Regulation, Board of Governors of the Federal Reserve 
System. For the hearing impaired only, Telecommunication Device for the 
Deaf (TDD), Dorothea Thompson (202/452-3544), Board of Governors of the 
Federal Reserve System, 20th & C Street, NW., Washington, DC 20551.

Introduction and Overview

    This is the fourth annual report\1\ on the differences in capital 
standards and accounting practices that currently exist among the three 
banking agencies (the Board of Governors of the Federal Reserve System 
(FRB), the Office of the Comptroller of the Currency (OCC), and the 
Federal Deposit Insurance Corporation (FDIC)) and the Office of Thrift 
Supervision (OTS).\2\ Section One of the report focuses on differences 
in the agencies' capital standards; Section Two discusses differences 
in accounting standards. The remainder of this introduction provides an 
overview of the discussion contained in these sections.
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    \1\ The first two reports prepared by the Federal Reserve Board 
were made pursuant to section 1215 of the Financial Institutions 
Reform, Recovery, and Enforcement Act of 1989 (FIRREA). The third 
report was made pursuant to section 121 of the Federal Deposit 
Insurance Corporation Improvement Act of 1991 (FDICIA), which 
superseded section 1215 of FIRREA.
    \2\ At the federal level, the Federal Reserve System has primary 
supervisory responsibility for state-chartered banks that are 
members of the Federal Reserve System as well as all bank holding 
companies. The FDIC has primary responsibility for state nonmember 
banks and FDIC-supervised savings banks. National banks are 
supervised by the OCC. The OTS has primary responsibility for 
savings and loan associations.
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Capital Standards

    As stated in the previous reports to the Congress, the three bank 
regulatory agencies have, for a number of years, employed a common 
regulatory framework that establishes minimum capital adequacy ratios 
for commercial banking organizations. In 1989, all three banking 
agencies as well as the OTS, adopted a risk-based capital framework 
that was based upon the international capital accord developed by the 
Basle Committee on Banking Regulations and Supervisory Practices (Basle 
Accord) and endorsed by the central bank governors of the G-10 
countries.
    The risk-based capital framework establishes minimum ratios of 
total and Tier 1 (core) capital to risk-weighted assets. The Basle 
Accord requires banking organizations to have total capital equal to at 
least 8 percent, and Tier 1 capital equal to at least 4 percent, of 
risk-weighted assets after a phase-in period which ended on December 
31, 1992. Tier 1 capital is principally comprised of common 
shareholders' equity and qualifying perpetual preferred stock, less 
disallowed intangibles such as goodwill. The other component of total 
capital, Tier 2, may include certain supplementary capital items, such 
as general loan loss reserves and subordinated debt. The risk-based 
capital requirements are viewed by the three banking agencies and the 
OTS as minimum standards, and most institutions are expected to, and 
generally do, maintain capital levels well above the minimums.
    In addition to specifying identical ratios, the risk-based capital 
framework implemented by the three banking agencies includes a common 
definition of regulatory capital and a uniform system of risk weights 
and categories. While the minimum standards and risk weighting 
framework are common to all the banking agencies, there are some 
technical differences in language and interpretation among the 
agencies. The OTS employs a similar risk-based capital framework 
although it differs in some respects from that adopted by the three 
banking agencies. These differences, as well as other technical 
differences in the agencies' capital standards, are discussed in 
Section One of this report.
    In addition to the risk-based capital requirements, the agencies 
also have established leverage standards setting forth minimum ratios 
of capital to total assets. As discussed in Section One, the three 
banking agencies employ uniform leverage standards, while the OTS has 
established, pursuant to FIRREA, somewhat different standards.
    The staffs of the agencies meet regularly to identify and address 
differences and inconsistencies in their capital standards. The 
agencies are committed to continuing this process in an effort to 
achieve full uniformity in their capital standards. In this regard, 
Section One contains discussions of the banking agencies' efforts 
during the past year to achieve uniformity with respect to the risk 
categories of certain assets, specifically, identifiable intangible 
assets, loans to finance construction of 1- to 4-family residential 
homes that have been pre-sold, and multifamily housing loans. In 
addition, the agencies have worked together to revise the risk-based 
capital requirements as required by provisions of section 305 of FDICIA 
to take account of interest rate risk and risks arising from 
concentrations of credit and nontraditional activities. Finally, staffs 
of the agencies have been meeting in 1993 to discuss a uniform draft 
proposal that would amend their risk-based capital guidelines to 
provide for recognition of bilateral netting arrangements associated 
with rate contracts that genuinely reduce credit risk.

Accounting Standards

    Over the years, the three banking agencies, under the auspices of 
the Federal Financial Institutions Examination Council (FFIEC), have 
developed Uniform Reports of Condition and Income (Call Reports) for 
all commercial banks and FDIC-supervised savings banks. The reporting 
standards followed by the three banking agencies are substantially 
consistent, aside from a few limited exceptions, with generally 
accepted accounting principles (GAAP) as they are applied by commercial 
banks.\3\ The uniform bank Call Report serves as the basis for 
calculating risk-based capital and leverage ratios, as well as for 
other regulatory purposes. Thus, material differences in regulatory 
accounting and reporting standards among commercial banks and FDIC-
supervised savings banks do not exist.
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    \3\ In those cases where bank Call Report standards are 
different from GAAP, the regulatory reporting requirements are 
intended to be more conservative than GAAP.
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    The OTS requires each thrift institution to file the Thrift 
Financial Report (TFR), which is consistent with GAAP as it is applied 
by thrifts. The TFR differs in some respects from the bank Call Report. 
One reason is that thrift GAAP is different in a few limited areas from 
GAAP as it is applied by banks; another, as previously mentioned, is 
that there are a few minor areas in which the bank Call Report departs 
from bank GAAP. A summary of the differences between the bank Call 
Report and the TFR is presented in Section Two.
    Over the past year, the three banking agencies and the OTS have 
continued to undertake projects that seek to simplify and reduce 
differences in reporting standards between commercial banks and thrift 
institutions. On June 10, 1993, the four agencies announced six 
initiatives to implement the President's March 10 program to improve 
the availability of credit to businesses and individuals. These 
initiatives included changes to regulatory reporting requirements, all 
of which are consistent with GAAP. In this respect, the agencies 
separately issued guidance to banks and thrifts that generally conforms 
regulatory reporting requirements for sales of Other Real Estate Owned 
(OREO) with GAAP, as set forth in FASB Statement No. 66. These changes 
generally eliminated a 10 percent minimum down payment requirement 
needed by the borrower/purchaser to record a sale of OREO for 
regulatory reporting purposes. In addition, as part of these 
initiatives, the agencies issued joint policies on restoring nonaccrual 
loans to performing status and improving the reporting guidance on 
insubstance foreclosures.
    Although these actions end the first phase of the President's 
credit availability program, the agencies are continuing efforts to 
reduce paperwork and regulatory burdens. These efforts include 
considering the remaining few differences between GAAP and regulatory 
accounting principles. In this regard, the agencies now have projects 
under way that are to refine and improve policies and addresses a few 
differences that currently exist among the agencies, including projects 
on recourse, netting, and hedging.

Section One

Differences In Capital Standards Among Federal Banking and Thrift 
Supervisory Agencies

Leverage capital ratios

    The three banking agencies employ a leverage standard based upon 
the common definition of Tier 1 capital contained in their risk-based 
capital guidelines. These standards, established in the second half of 
1990 and in early 1991, require the most highly-rated institutions to 
meet a minimum Tier 1 capital ratio of 3 percent. For all other 
institutions, these standards generally require an additional cushion 
of at least 100 to 200 basis points, i.e., a minimum leverage ratio of 
at least 4 to 5 percent, depending upon an organization's financial 
condition.
    As required by FIRREA, the OTS has established a 3 percent core 
capital ratio and a 1.5 percent tangible capital leverage requirement 
for thrift institutions. However, the OTS is in the process of 
finalizing a new leverage rule that will generally conform to the rules 
of the three banking agencies. The differences that will exist after 
the OTS has adopted its new standard pertain to the definition of core 
capital. While this definition generally conforms to Tier 1 bank 
capital, certainadjustments discussed below apply to the core capital 
definition used by savings associations. In addition, core capital as 
currently defined by the OTS includes qualifying supervisory goodwill. 
Such goodwill is to be phased out of thrift core capital by the end of 
1994, after which time the treatment of goodwill for thrift 
institutions will be consistent with that of the banking agencies.

Risk-based capital ratios

    The three banking agencies have adopted risk-based capital 
standards consistent with the Basle Accord. These standards, which were 
fully phased in at the end of 1992, require all commercial banking 
organizations to maintain a minimum ratio of total capital (Tier 1 plus 
Tier 2) to risk-weighted assets of 8 percent. Tier 1 capital comprises 
common stockholders' equity, qualifying perpetual preferred stock, and 
minority interests in consolidated subsidiaries, less goodwill. Tier 1 
capital must comprise at least 50 percent of the total risk-based 
capital requirement. Tier 2 capital includes such components as general 
loan loss reserves, subordinated term debt, and certain other preferred 
stock and convertible debt capital instruments, subject to appropriate 
limitations and conditions. Risk-weighted assets are calculated by 
assigning risk weights of 0, 20, 50, and 100 percent to broad 
categories of assets and off-balance sheet items based upon their 
relative credit risks. The OTS has adopted a risk-based capital 
standard that in most respects is similar to the framework adopted by 
the banking agencies. Beginning with year-end 1992, the OTS standard 
requires a minimum risk-based capital ratio equal to 8 percent.
    All the banking agencies view the risk-based capital standard as a 
minimum supervisory benchmark. In part, this is because the risk-based 
capital standard focuses primarily on credit risk; it does not take 
full or explicit account of certain other banking risks, such as 
exposure to changes in interest rates. The full range of risks to which 
depository institutions are exposed are reviewed and evaluated 
carefully during on-site examinations. In view of these risks, most 
banking organizations are expected to operate with capital levels well 
above the minimum risk-based and leverage capital requirements.
    The Federal Reserve has for some time been working with the other 
U.S. banking agencies and the regulatory authorities on the Basle 
Supervisors' Committee to develop possible methods to measure and 
address certain market and price risks. In April, 1993, the Basle 
Supervisors' Committee issued a consultative paper that addresses, 
among other items, proposals to include certain risks into the 
framework of the Basle Accord. These risks include exposures resulting 
from imbalances between the maturity of debt instruments held as assets 
and issued as liabilities and holdings of traded debt and equity 
securities. One important reason for addressing these risks on an 
international level is to develop supervisory approaches that do not 
undermine the competitiveness of U.S. banking organizations.
    Notwithstanding this initial effort, the OTS capital standards for 
some time have taken into account interest rate risk and the FRB, OCC 
and FDIC sought public comment on a proposed framework for 
incorporating into their capital standards interest rate risk in 
August, 1992, as required under section 305 of FDICIA. In response to 
concerns raised and recommendations made by commenters, on September 
14, 1993, the three banking agencies issued for public comment a 
substantially modified proposal on interest rate risk. The approach 
ultimately adopted by the banking agencies could differ from that 
already taken by the OTS.
    Section 305 of FDICIA also requires the banking agencies to amend 
their risk-based capital rules to take account of concentrations of 
credit risk and nontraditional activities. During 1993 the staffs of 
the four agencies met regularly to draft proposals for public 
consideration. Final proposals are expected to be issued in the first 
part of 1994.
    In addition to coordinating their efforts to implement section 305, 
the agencies also worked together to eliminate differences in their 
capital standards, as well as to revise their standards in response to 
legislative mandates, accounting changes, and industry concerns. In 
this regard, during 1993, the three banking agencies eliminated the 
principal difference in their capital standards when they issued final 
rules revising those standards with regard to the types of intangible 
assets that may be included in the Tier 1 capital calculation for risk-
based and leverage capital purposes. Specifically, under these final 
rules, banking organizations may include in capital purchased mortgage 
servicing rights (PMSRs) and purchased credit card relationships 
(PCCRs), but are required to deduct from capital core deposit 
intangibles (CDIs) and other identifiable intangible assets. The final 
rule also included limits and discounts that are applicable to PMSRs 
and PCCRs in capital. The OTS draft final rule, which is consistent 
with the final rule issued by the other agencies, is currently under 
review.
    Another difference the federal banking agencies worked to eliminate 
during 1993 was the risk-based capital treatment of multifamily housing 
loans. While the three banking agencies assign multifamily housing 
loans (5 units or more) to the 100 percent risk category, the OTS 
allows certain multifamily mortgage loans to qualify for the 50 percent 
risk category. This would apply, for example, to loans secured by 
buildings with 5-36 units (as described below). This effort was 
undertaken pursuant to section 618 of the Resolution Trust Corporation 
Refinancing, Restructuring, and Improvement Act of 1991 (RTCRRIA), 
which requires the agencies to lower the risk weight for multifamily 
housing loans meeting certain criteria from 100 to 50 percent. At the 
time of this report, final rules have not been issued by the agencies, 
although it is anticipated that they will be uniform and will be issued 
in the very near future.
    Section 618 of the RTCRRIA also required the agencies to revise 
their risk-based capital guidelines to lower from 100 percent to 50 
percent the risk category for certain construction loans for presold 1- 
to 4-family residential properties. During 1993, the four agencies 
issued similar final rules implementing this provision of section 618.
    The staffs of the four agencies also have been coordinating the 
issuance of uniform proposals to include in Tier 1 capital the net 
unrealized changes in value of securities available for sale for 
purposes of calculating the risk-based and leverage capital ratios of 
banking organizations. This proposal effectively would result in the 
adoption, for regulatory capital purposes, of the Financial Accounting 
Standards Board (FASB) Statement of Financial Accountant Standards No. 
115 (FASB 115), ``Accounting for Certain Investments in Debt and Equity 
Securities.'' It is expected that the agencies will issue proposals for 
public comment in the very near term.
    In response to industry recommendations, and in conjunction with 
the Basle Supervisors' Committee consultative paper issued in April, 
1993, the staffs of the four agencies have been meeting to draft 
uniform rules which would amend their risk-based capital standards with 
regard to bilateral netting arrangements. Specifically, the proposals 
would seek public comment on whether to recognize for risk-based 
capital purposes bilateral netting arrangements associated with 
interest and foreign exchange rate contracts. Such netting arrangements 
would have to genuinely reduce credit risk and be enforceable in all 
relevant jurisdictions as evidenced by well-founded and reasoned legal 
opinions. It is anticipated that the agencies will issue proposals on 
this matter early in 1994.
    Differences among the risk-based capital standards of the OTS and 
the three banking agencies are discussed below.

Certain collateralized transactions

    On December 23, 1992, the Federal Reserve Board issued, after an 
appropriate public comment period, an amendment to its risk-based and 
leverage capital guidelines for state member banks and bank holding 
companies that lowers from 20 to 0 percent the risk category for 
collateralized transactions meeting certain criteria. This preferential 
treatment is only available for claims collateralized by cash on 
deposit in the bank or by securities issued or guaranteed by OECD 
central governments or U.S. government agencies. In addition, a 
positive margin of collateral must be maintained on a daily basis fully 
taking into account any change in the banking organization's exposure 
to the obligor or counterparty under a claim in relation to the market 
value of the collateral held in support of that claim.
    The OCC, on August 18, 1993, issued a proposal for public comment 
that would also lower the risk weight for certain collateralized 
transactions. The FDIC and OTS are considering similar proposals.

Equity investments

    In general, commercial banks that are members of the Federal 
Reserve System are not permitted to invest in equity securities, nor 
are they generally permitted to engage in real estate investment or 
development activities. To the extent that commercial banks are 
permitted to hold equity securities (for example, in connection with 
debts previously contracted), the three banking agencies generally 
assign such investments to the 100 percent risk category for risk-based 
capital purposes.
    Under the three banking agencies' rules, the agencies may, on a 
case-by-case basis, deduct equity investments from the parent bank's 
capital or make other adjustments, if necessary, to assess an 
appropriate capital charge above the minimum requirement. The banking 
agencies' treatment of investments in subsidiaries is discussed below.
    The OTS risk-based capital standards require that thrift 
institutions deduct certain equity investments from capital over a 
phase-in period, which ends on July 1, 1994, as explained more fully 
below in the section on subsidiaries.

FSLIC/FDIC - covered assets (assets subject to guarantee arrangements 
by the FSLIC or FDIC)

    The three banking agencies generally place these assets in the 20 
percent risk category, the same category to which claims on depository 
institutions and government-sponsored agencies are assigned.
    The OTS places these assets in the zero percent risk category.

Limitation on subordinated debt and limited-life preferred stock

    Consistent with the Basle Accord, the three banking agencies limit 
the amount of subordinated debt and limited-life preferred stock that 
may be included in Tier 2 capital. This limit, in effect, states that 
these components together may not exceed 50 percent of Tier 1 capital. 
In addition, maturing capital instruments must be discounted by 20 
percent in each of the last five years prior to maturity.
    Neither of these capital components is a permanent source of funds, 
and subordinate debt cannot absorb losses while the bank continues to 
operate as a going-concern. On the other hand, both components can 
provide a cushion of protection to the FDIC insurance fund. Thus, this 
limitation permits the inclusion of some subordinated debt in capital, 
while assuring that permanent stockholders' equity capital remains the 
predominant element in bank regulatory capital.
    The OTS has no limitation on the total amount of limited-life 
preferred stock or maturing capital instruments that may be included 
within Tier 2 capital. In addition, the OTS allows thrifts the option 
of: (1) discounting maturing capital instruments, issued on or after 
November 7, 1989, by 20 percent a year over the last 5 years of their 
term -- the approach required by the banking agencies; or (2) including 
the full amount of such instruments provided that the amount maturing 
in any of the next seven years does not exceed 20 percent of the 
thrift's total capital.
    Subsidiaries
    Consistent with the Basle Accord and long-standing supervisory 
practices, the three banking agencies generally consolidate all 
significant majority-owned subsidiaries of the parent organization for 
capital purposes. This consolidation assures that the capital 
requirements are related to all of the risks to which the banking 
organization is exposed.
    As with most other bank subsidiaries, banking and finance 
subsidiaries generally are consolidated for regulatory capital 
purposes. However, in cases where banking and finance subsidiaries are 
not consolidated, the Federal Reserve, consistent with the Basle 
Accord, generally deducts investments in such subsidiaries in 
determining the adequacy of the parent bank's capital.
    The Federal Reserve's risk-based capital guidelines provide a 
degree of flexibility in the capital treatment of unconsolidated 
subsidiaries (other than banking and finance subsidiaries) and 
investments in joint ventures and associated companies. For example, 
the Federal Reserve may deduct investments in such subsidiaries from an 
organization's capital, may apply an appropriate risk-weighted capital 
charge against the proportionate share of the assets of the entity, may 
require a line-by-line consolidation of the entity, or otherwise may 
require that the parent organization maintain a level of capital above 
the minimum standard that is sufficient to compensate for any risks 
associated with the investment.
    The guidelines also permit the deduction of investments in 
subsidiaries that, while consolidated for accounting purposes, are not 
consolidated for certain specified supervisory or regulatory purposes. 
For example, the Federal Reserve deducts investments in, and unsecured 
advances to, Section 20 securities subsidiaries from the parent bank 
holding company's capital. The FDIC accords similar treatment to 
securities subsidiaries of state nonmember banks established pursuant 
to Section 337.4 of the FDIC regulations.
    Similarly, in accordance with Section 325.5(f) of the FDIC 
regulations, a state nonmember bank must deduct investments in, and 
extensions of credit to, certain mortgage banking subsidiaries in 
computing the parent bank's capital. (The Federal Reserve does not have 
a similar requirement with regard to mortgage banking subsidiaries. The 
OCC does not have requirements dealing specifically with the capital 
treatment of either mortgage banking or securities subsidiaries. The 
OCC, however, does reserve the right to require a national bank, on a 
case-by-case basis, to deduct from capital investments in, and 
extensions of credit to, any nonbanking subsidiary.)
    The deduction of investments in subsidiaries from the parent's 
capital is designed to ensure that the capital supporting the 
subsidiary is not also used as the basis of further leveraging and 
risk-taking by the parent banking organization. In deducting 
investments in, and advances to, certain subsidiaries from the parent's 
capital, the Federal Reserve expects the parent banking organization to 
meet or exceed minimum regulatory capital standards without reliance on 
the capital invested in the particular subsidiary. In assessing the 
overall capital adequacy of banking organizations, the Federal Reserve 
may also consider the organization's fully consolidated capital 
position.
    Under the OTS capital guidelines, a distinction, mandated by 
FIRREA, is drawn between subsidiaries that are engaged in activities 
that are permissible for national banks and subsidiaries that are 
engaged in ``impermissible'' activities for national banks. 
Subsidiaries of thrift institutions that engage only in permissible 
activities are consolidated on a line-by-line basis if majority-owned 
and on a pro rata basis if ownership is between 5 percent and 50 
percent. As a general rule, investments, including loans, in 
subsidiaries that engage in impermissible activities are deducted in 
determining the capital adequacy of the parent. However, investments, 
including loans, outstanding as of April 12, 1989, to subsidiaries that 
were engaged in impermissible activities prior to that date are 
grandfathered and will be phased-out of capital over a transition 
period that expires on July 1, 1994. During this transition period, 
investments in subsidiaries engaged in impermissible activities that 
have not been phased-out of capital are to be consolidated on a pro 
rata basis.

Qualifying multifamily mortgage loans

    The three banking agencies currently place multifamily mortgage 
loans (five units or more) in the 100 percent risk weight category. 
Historically, when compared to loans secured by mortgages on 1- to 4-
family residences, which generally are assigned to the 50 percent risk 
category, the credit risk associated with multifamily mortgage loans, 
unless conservatively underwritten and seasoned, is more akin to that 
experienced on commercial property loans, which are assigned to the 100 
percent risk category. The OTS allows certain multifamily mortgage 
loans to qualify for the 50 percent risk category. This would apply, 
for example, to loans secured by buildings with 5-36 units, provided 
these loans have a maximum 80 percent loan-to-value ratio and an 80 
percent occupancy rate.
    Pursuant to Section 618(b) of the RTCRRIA, the three banking 
agencies and the OTS were directed to amend their risk-based capital 
guidelines to lower the risk weight of certain multifamily housing 
loans, and securities backed by such loans, from 100 percent to 50 
percent. The section specifies several criteria that a multifamily 
housing loan must satisfy in order to qualify for a 50 percent risk 
weight. These criteria are:
    (1) The loan is secured by a first lien;
    (2) The ratio of the principal obligation to the appraised value of 
the property, that is, the loan-to-value ratio, does not exceed 80 
percent (75 percent if the loan is based on a floating interest rate);
    (3) The annual net operating income generated by the property 
(before debt service) is not less than 120 percent of the annual debt 
service on the loan (115 percent if the loan is based on a floating 
interest rate);
    (4) The amortization of principal and interest occurs over a period 
of not more than 30 years and the minimum maturity for repayment of 
principal is not less than seven years; and
    (5) All principal and interest payments have been made on time for 
a period of not less than one year.
    In addition, Section 618(b) also provides that multifamily housing 
loans accorded a 50 percent risk weight must meet any underwriting 
characteristics that the appropriate Federal banking agency may 
establish, consistent with the purposes of the minimum acceptable 
capital requirements to maintain the safety and soundness of financial 
institutions.
    The agencies have proposed revisions to their capital standards to 
meet the requirement of section 618(b). It is anticipated that final 
rules implementing section 618(b) will be issued by the respective 
agencies in the very near future.

Nonresidential construction and land loans

    The three banking agencies assign loans for real estate development 
and construction purposes to the 100 percent risk category. Reserves or 
charge-offs are required, in accordance with examiner judgment, when 
weaknesses or losses develop in such loans. The banking agencies have 
no requirement for an automatic charge-off when the amount of a loan 
exceeds the fair value of the property pledged as collateral for the 
loan.
    The OTS generally assigns these loans to the 100 percent risk 
category. However, if the amount of the loan exceeds 80 percent of the 
fair value of the property, that excess portion must be deducted from 
capital in accordance with a phase-in arrangement, which ends on July 
1, 1994.

Mortgage-backed securities (MBS)

    The three banking agencies, in general, place privately-issued MBSs 
in a risk category appropriate to the underlying assets but in no case 
to the zero percent risk category. In the case of privately-issued MBSs 
where the direct underlying assets are mortgages, this treatment 
generally results in a risk weight of 50 percent or 100 percent. 
Privately-issued MBSs that have government agency or government-
sponsored agency securities as their direct underlying assets are 
generally assigned to the 20 percent risk category.
    The OTS assigns privately-issued high quality mortgage-related 
securities to the 20 percent risk category. These are, generally, 
privately-issued MBSs with AA or better investment ratings.
    At the same time, both the banking and thrift agencies 
automatically assign to the 100 percent risk weight category certain 
MBSs, including interest-only strips, residuals, and similar 
instruments that can absorb more than their pro rata share of loss. The 
Federal Reserve, in conjunction with the other banking agencies and the 
OTS, issued, on January 10, 1992, more specific guidance as to the 
types of ``high risk'' MBSs that will qualify for a 100 percent risk 
weight.

Assets sold with recourse

    In general, recourse arrangements allow the purchaser of an asset 
to ``put'' the asset back to the originating institution under certain 
circumstances, for example if the asset ceases to perform 
satisfactorily. This, in turn, can expose the originating institution 
to any loss associated with the asset. As a general rule, the three 
banking agencies require that sales of assets involving any recourse to 
be reported as financings and that the assets be retained on the 
balance sheet. This effectively requires a full leverage and risk-based 
capital charge whenever assets are sold with recourse, including 
limited recourse. The Federal Reserve generally applies a capital 
charge to any off-balance sheet recourse arrangement that is the 
equivalent of a guarantee, regardless of the nature of the transaction 
that gives rise to the recourse obligation.
    An exception to this general rule involves pools of 1- to 4-family 
residential mortgages and to certain farm mortgage loans. Certain 
recourse transactions involving these assets are reported in the bank 
Call Report as sales, thereby removing these transactions from leverage 
ratio calculations. These transactions, which are the equivalent of 
off-balance sheet guarantees, involve the type of credit risk that is 
addressed by bank risk-based capital requirements, although some 
questions in this regard have been raised because of the treatment 
afforded these transactions for leverage purposes. The Federal Reserve 
has clarified its risk-based capital guidelines to ensure that recourse 
sales involving residential mortgages are to be taken into account for 
determining compliance with risk-based capital requirements. The FDIC 
clarified its guidelines on this matter in 1993.
    In general, the OTS also requires a full capital charge against 
assets sold with recourse. However, in the case of limited recourse, 
the OTS limits the capital charge to the lesser of the amount of 
recourse or the actual amount of capital that would otherwise be 
required against that asset, that is, the normal full capital charge.
    Some securitized asset arrangements involve the issuance of senior 
and subordinated classes of securities against pools of assets. When a 
bank originates such a transaction by placing loans that it owns in a 
trust and retaining any portion of the subordinated securities, the 
banking agencies require that capital be maintained against the entire 
amount of the asset pool. When a bank acquires a subordinated security 
in a pool of assets that it did not originate, the banking agencies 
assign the investment in the subordinated piece to the 100 percent 
risk-weight category. The Federal Reserve carefully reviews these 
instruments to determine if additional reserves, asset write-downs, or 
capital are necessary to protect the bank.
    The OTS requires that capital be maintained against the entire 
amount of the asset pool in both of the situations described in the 
preceding paragraph. Additionally, the OTS applies a capital charge to 
the full amount of assets being serviced when the servicer is required 
to absorb credit losses on the assets being serviced.
    In 1990, the three banking agencies and the OTS, under the FFIEC, 
issued for public comment a fact finding paper pertaining to the wide 
range of issues relating to recourse arrangements. These issues include 
the definition of ``recourse'' and the appropriate reporting and 
capital treatments to be applied to recourse arrangements, as well as 
so-called recourse servicing arrangements and limited recourse. The 
objective of this effort was to develop a comprehensive and uniform 
approach to recourse arrangements for capital adequacy, reporting, and 
other regulatory purposes. The comments received were very extensive 
and generally illustrated the extreme complexity of the subject. In 
view of the project's significance and complexity, the FFIEC in 
December 1990 decided to narrow the scope of the initial phase of the 
recourse project to credit-related risks, including the appropriate 
treatment of credit-related recourse arrangements that involve limited 
recourse or that support a third party's assets.
    A recourse working group, composed of representatives from the 
member agencies of the FFIEC, presented a report and recommendations to 
the FFIEC in August 1992 and were directed to carry out a study of the 
impact of their recommendations on depository institutions, financial 
markets, and other affected parties. The interagency group carried out 
this study in early 1993. As a result of that study, the working group 
has revised several of their recommendations to reflect market 
practice. Proposals for public comment are expected to be issued 
shortly.

Agricultural loan loss amortization

    In the computation of regulatory capital, those banks accepted into 
the agricultural loan loss amortization program pursuant to Title VIII 
of the Competitive Equality Banking Act of 1987 are permitted to defer 
and amortize losses incurred on agricultural loans between January 1, 
1984 and December 31, 1991. The program also applies to losses incurred 
between January 1, 1983 and December 31, 1991, as a result of 
reappraisals and sales of agricultural Other Real Estate Owned (OREO) 
and agricultural personal property. These loans must be fully amortized 
over a period not to exceed seven years and, in any case, must be fully 
amortized by year-end 1998. Thrifts are not eligible to participate in 
the agricultural loan loss amortization program established by this 
statute.

Treatment of junior liens on 1- to 4-family properties

    In some cases, a banking organization may make two loans on a 
single residential property, one loan secured by a first lien, the 
other by a second lien. In such a situation, the Federal Reserve views 
these two transactions as a single loan, provided there are no 
intervening liens. This could result in assigning the total amount of 
these transactions to the 100 percent risk weight category, if, in the 
aggregate, the two loans exceeded a prudent loan-to-value ratio and, 
therefore, did not qualify for the 50 percent risk weight. This 
approach is intended to avoid possible circumvention of the capital 
requirements and capture the risks associated with the combined 
transactions.
    The FDIC, OCC, and the OTS generally assign the loan secured by the 
first lien to the 50 percent risk-weight category and the loan secured 
by the second lien to the 100 percent risk-weight category.

Pledged deposits and nonwithdrawable accounts

    The capital guidelines of OTS permit thrift institutions to include 
in capital certain pledged deposits and nonwithdrawable accounts that 
meet the criteria of the OTS. Income Capital Certificates and Mutual 
Capital Certificates held by the OTS may also be included in capital by 
thrift institutions. These instruments are not relevant to commercial 
banks, and, therefore, they are not addressed in the three banking 
agencies' capital guidelines.

Mutual Funds

    The three banking agencies assign all of a bank's holdings in a 
mutual fund to the risk category appropriate to the highest risk asset 
that a particular mutual fund is permitted to hold under its operating 
rules. The purpose of this is to take into account the maximum degree 
of risk to which a bank may be exposed when investing in a mutual fund 
in view of the fact that the future composition and risk 
characteristics of the fund's holding cannot be known in advance.
    The OTS applies a capital charge appropriate to the riskiest asset 
that a mutual fund is actually holding at a particular time. In 
addition, the OTS guidelines also permit, on a case-by-case basis, 
investments in mutual funds to be allocated on a pro rata basis in a 
manner consistent with the actual composition of the mutual fund.

Section Two

Differences In Accounting Standards Among Federal Banking and 
Thrift Supervisory Agencies

    Under the auspices of the FFIEC, the three banking agencies have 
developed uniform reporting standards for commercial banks which are 
used in the preparation of the Call Report. The FDIC has also applied 
these uniform Call Report standards to savings banks under its 
supervision. The income statement and balance sheet accounts presented 
in the Call Report are used by the bank supervisory agencies for 
determining the capital adequacy of banks and for other regulatory, 
supervisory, surveillance, analytical, and general statistical 
purposes.
    Section 121 of FDICIA requires accounting principles applicable to 
financial reports (including the Call Report) filed by federally 
insured depository institutions with a federal banking agency to be 
uniform and consistent with generally accepted accounting principles 
(GAAP). However, under Section 121, a federal banking agency may 
require institutions to use accounting principles ``no less stringent 
than GAAP'' when the agency determines that a specific accounting 
standard under GAAP does not meet these new accounting objectives. The 
banking agencies believe that GAAP generally satisfies the three 
accounting objectives included in FDICIA Section 121. The three 
accounting objectives in FDICIA Section 121 mandate that accounting 
principles should:
    1. Result in financial statements and reports of condition that 
accurately reflect the institution's capital;
    2. Facilitate effective supervision of depository institutions; and
    3. Facilitate prompt corrective action at least cost to the 
insurance funds.
    As indicated above, Section 121 of FDICIA requires the Federal 
Reserve and the other federal banking agencies to utilize accounting 
principles for regulatory reports that are consistent with GAAP or are 
no less stringent than GAAP. The reporting instructions for Call 
Reports that are required by the three banking agencies are 
substantially consistent, aside from a few limited exceptions, with 
GAAP as applied by commercial banks. As a matter of policy, the 
regulatory reporting instructions for Call Reports deviate from GAAP 
only in those instances where statutory requirements or overriding 
supervisory concerns warrant a departure from GAAP. Furthermore, in 
those cases where accounting principles applicable to bank Call Reports 
are different from GAAP, the regulatory accounting principles are 
intended to be more conservative than GAAP. Thus, the accounting 
principles that are followed for regulatory reporting purposes are 
consistent with the objectives and mandate of FDICIA Section 121.
    The agencies have been working to limit the number of differences 
between regulatory accounting principles and GAAP, however, in some 
circumstances differences will exist when there is a need to address 
supervisory concerns. In addition, the agencies have been working 
closely to coordinate any new accounting policies, to ensure 
consistency among the agencies and to reduce or eliminate differences 
with GAAP.
    The OTS has developed and maintains a separate reporting system for 
the thrift institutions under its supervision. The TFR is based on GAAP 
as applied by thrifts, which differs in some respects from GAAP for 
banks.
    A summary of the primary differences in accounting principles by 
the federal banking and thrift agencies for regulatory reporting 
purposes are set forth below, based on a study developed on an 
interagency basis:

Futures and forward contracts

    The banking agencies, as a general rule, do not permit the deferral 
of gains or losses by banks on futures and forwards whether or not they 
are used for hedging purposes. All changes in market value of futures 
and forward contracts are reported in current period income. The 
banking agencies adopted this reporting standard as a supervisory 
policy prior to the adoption of FASB Statement No. 80, which allows 
hedge or deferral accounting, under certain circumstances. Contrary to 
this general rule, hedge accounting in accordance with FASB Statement 
No. 80 is permitted by the three banking agencies only for futures and 
forward contracts used in mortgage banking operations.
    The OTS practice is to follow FASB Statement No. 80 for futures 
contracts. In accordance with this statement, when hedging criteria are 
satisfied, the accounting for the futures contract is related to the 
accounting for the hedged item. Changes in the market value of the 
futures contract are recognized in income when the effects of related 
changes in the price or interest rate of the hedged item are 
recognized. Such reporting can result in deferred gains or losses which 
would be reflected on the thrift's balance sheet in accordance with 
GAAP.

Excess servicing fees

    As a general rule, the three banking agencies do not follow GAAP 
for excess servicing fees, but require a more conservative treatment. 
Excess servicing results when loans are sold with servicing retained 
and the stated servicing fee rate is greater than the normal servicing 
fee rate. With the exception of sales of pools of first lien one-to-
four family residential mortgages for which the banking agencies' 
approach is consistent with FASB Statement No. 65, excess servicing fee 
income in banks must be reported as realized over the life of the 
transferred asset, not recognized up front as required by FASB 
Statement No. 65.
    The OTS allows the present value of the future excess servicing fee 
to be treated as an adjustment to the sales price for purposes of 
recognizing gain or loss on the sale. This approach is consistent with 
FASB Statement No. 65.

In-substance defeasance of debt

    The banking agencies do not permit banks to report defeasance of 
their debt obligations in accordance with FASB Statement No. 76. 
Defeasance involves a debtor irrevocably placing risk-free monetary 
assets in a trust solely for satisfying the debt. Under FASB Statement 
No. 76, the assets in the trust and the defeased debt are removed from 
the balance sheet and a gain or loss for the current period can be 
recognized. However, for Call Report purposes, banks may not remove 
assets or defeased liabilities from their balance sheets or recognize 
resulting gains or losses. The banking agencies have not adopted FASB 
Statement No. 76 because of uncertainty regarding the irrevocable 
trusts established for defeasance purposes. Furthermore, defeasance 
would not relieve the bank of its contractual obligation to pay 
depositors or other creditors.
    OTS practice is to follow FASB Statement No. 76.

Sales of assets with recourse

    In accordance with FASB Statement No. 77, a transfer of receivables 
with recourse is recognized as a sale if:
    (1) The transferor surrenders control of the future economic 
benefits,
    (2) The transferor's obligation under the recourse provisions can 
be reasonably estimated, and
    (3) The transferee cannot require repurchase of the receivables 
except pursuant to the recourse provisions.
    The practice of the three banking agencies is generally to permit 
commercial banks to report transfers of receivables with recourse as 
sales only when the transferring institution
    (1) Retains no risk of loss from the assets transferred and
    (2) Has no obligation for the payment of principal or interest on 
the assets transferred.
As a result, virtually no transfers of assets with recourse can be 
reported as sales. However, this rule does not apply to the transfer of 
first lien 1- to 4-family residential or agricultural mortgage loans 
under certain government-sponsored programs (including the Federal 
National Mortgage Association and the Federal Home Loan Mortgage 
Corporation). Transfers of mortgages under these programs are generally 
treated as sales for Call Report purposes.
    Furthermore, private transfers of first lien 1- to four- family 
residential mortgages are also reported as sales if the transferring 
institution retains only an insignificant risk of loss on the assets 
transferred. However, the seller's obligation under recourse provisions 
related to sales of mortgage loans under the government programs is 
viewed as an off-balance sheet exposure. Thus, for risk-based capital 
purposes, capital is generally expected to be held for recourse 
obligations associated with such transactions.
    The OTS policy is to follow FASB Statement No. 77. However, in the 
calculation of risk-based capital under the OTS guidelines, off-balance 
sheet recourse obligations generally are converted at 100 percent. This 
effectively negates the sale treatment recognized on a GAAP basis for 
risk-based capital purposes, but not for leverage capital purposes. 
Thus, by making this adjustment in the risk-based capital calculation, 
the differences between the OTS and the banking agencies for capital 
adequacy measurement purposes, are substantially reduced.
    The FFIEC has a study under way involving the topic of transfers of 
assets with recourse (often referred to as the ``recourse study''). As 
part of this study, the staff of the Federal Reserve is reviewing the 
reporting treatment for sales of assets with recourse and is exploring 
with the staffs of the other agencies the possibility of reducing or 
eliminating the differences between regulatory reporting requirements 
and GAAP in this area. A proposal addressing this issue is being 
finalized for issuance for public comment in the near future.

Push-Down Accounting

    When a depository institution is acquired in a purchase 
transaction, but retains its separate corporate existence, the 
institution is required to revalue all of the assets and liabilities at 
fair value at the time of acquisition. When push-down accounting is 
applied, the same revaluation made by the parent holding company is 
made at the depository institution level.
    The three banking agencies require push-down accounting when there 
is at least a 95 percent change in ownership. This approach is 
generally consistent with interpretations of the Securities and 
Exchange Commission.
    The OTS requires push-down accounting when there is at least a 90 
percent change in ownership.

Negative Goodwill

    The three banking agencies require that negative goodwill be 
reported as a liability, and not be netted against goodwill assets. 
Such a policy ensures that all goodwill assets are deducted in 
regulatory capital calculations, consistent with the Basle Accord.
    The OTS permits negative goodwill to offset goodwill assets 
reported in the financial statements.

Offsetting of Amounts Related to Certain Contracts

    The three banking agencies are planning to adopt FASB 
Interpretation No. 39 (FIN 39) solely for on-balance sheet items 
arising from off-balance sheet derivative instruments, when FIN 39 
becomes effective in 1994. FIN 39 allows institutions to offset assets 
and liabilities arising from traditional balance sheet items (e.g., 
loans, deposits, etc.) as well as netting assets and liabilities 
arising from off-balance sheet derivative instruments only when four 
conditions are met. The Call Report's existing guidance generally 
prohibits netting of assets and liabilities.
    The OTS policy on netting of assets and liabilities is consistent 
with GAAP.
    The Board staff intends to join the other agencies in a study of 
the possibility of adopting FIN 39 for traditional balance sheet items 
in the next year.
William W. Wiles,
Secretary of the Board.
[FR Doc. 94-648 Filed 1-10-94; 8:45 am]
BILLING CODE 6210-01-F