[Federal Register Volume 59, Number 14 (Friday, January 21, 1994)]
[Unknown Section]
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From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-1455]
[[Page Unknown]]
[Federal Register: January 21, 1994]
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FEDERAL DEPOSIT INSURANCE CORPORATION
Differences in Capital and Accounting Standards Among the Federal
Banking and Thrift Agencies; Report to Congressional Committees
AGENCY: Federal Deposit Insurance Corporation (FDIC).
ACTION: Report to the Committee on Banking, Finance and Urban Affairs
of the U.S. House of Representatives and to the Committee on Banking,
Housing, and Urban Affairs of the United States Senate Regarding
Differences in Capital and Accounting Standards Among the Federal
Banking and Thrift Agencies.
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SUMMARY: This report has been prepared by the FDIC pursuant to Section
37(c) of the Federal Deposit Insurance Act, as added by Section 121 of
the Federal Deposit Insurance Corporation Improvement Act of 1991
(FDICIA). Section 37(c) requires each Federal banking agency to report
annually to the Committee on Banking, Finance and Urban Affairs of the
House of Representatives and to the Committee on Banking, Housing, and
Urban Affairs of the Senate any differences between any accounting or
capital standard used by such agency and any accounting or capital
standard used by any other such agency. The report must also contain an
explanation of the reasons for any discrepancy in such accounting and
capital standards and must be published in the Federal Register.
FOR FURTHER INFORMATION CONTACT: Robert F. Storch, Chief, Accounting
Section, Division of Supervision, Federal Deposit Insurance
Corporation, 550 17th Street, NW., Washington, DC 20429, telephone
(202) 898-8906.
SUPPLEMENTARY INFORMATION: The text of the report follows:
Report to the Committee on Banking, Finance and Urban Affairs of the
U.S. House of Representatives and to the Committee on Banking, Housing,
and Urban Affairs of the United States Senate, Regarding Differences in
Capital and Accounting Standards Among the Federal Banking and Thrift
Agencies
Introduction
This report has been prepared by the Federal Deposit Insurance
Corporation (FDIC) pursuant to Section 37(c) of the Federal Deposit
Insurance Act, as added by Section 121 of the Federal Deposit Insurance
Corporation Improvement Act of 1991 (FDICIA), which reads as follows:
(1) ANNUAL REPORTS REQUIRED.--Each appropriate Federal banking
agency shall annually submit a report to the Committee on Banking,
Finance and Urban Affairs of the House of Representatives and the
Committee on Banking, Housing, and Urban Affairs of the Senate
containing a description of any difference between any accounting or
capital standard used by such agency and any accounting or capital
standard used by any other agency.
(2) EXPLANATION OF REASONS FOR DISCREPANCY.--Each report * * *
shall contain an explanation of the reasons for any discrepancy
between any accounting or capital standard used by such agency and
any accounting or capital standard used by any other agency.
(3) PUBLICATION.--Each report * * * shall be published in the
Federal Register.
This introduction is followed by a discussion of the capital and
underlying accounting and reporting standards employed by the FDIC as
well as the two other federal banking agencies, the Board of Governors
of the Federal Reserve System (FRB) and the Office of the Comptroller
of the Currency (OCC), and the federal thrift supervisor, the Office of
Thrift Supervision (OTS). Appendix One lists the differences in the
capital standards among the FDIC, FRB, OCC and OTS as well as the
reasons for these discrepancies. Appendix Two contains the differences
in accounting and reporting standards among the banking and thrift
agencies.
Capital Standards
The three banking agencies have implemented a common regulatory
framework that sets forth two minimum capital standards--a minimum
leverage capital requirement and a minimum risk-based capital
requirement. In addition to common minimum standards, the definitions
of capital used by the banking agencies have generally been consistent
with the exception of certain differences in the treatment of
intangible assets. However, during late 1992 and 1993, the banking
agencies amended their capital definitions to incorporate a uniform
approach to the regulatory capital treatment of identifiable intangible
assets. While the OTS participated in the development of this uniform
approach, that agency has not yet adopted comparable amendments to its
capital standards.
The leverage and risk-based capital requirements only represent
minimum standards and the FDIC generally expects the banks that it
supervises to maintain capital levels well above these minimums,
particularly banks that are expanding or experiencing unusual or high
levels of risk.
Several sections of FDICIA require the banking agencies and the OTS
to more specifically incorporate capital standards into the supervision
and regulation of insured depository institutions. During 1993, the
FDIC has continued to work with the other agencies toward the
completion of the capital-related rules mandated by FDICIA, including
the requirement under Section 305 that the risk-based capital standards
take account of interest rate risk as well as concentration of credit
risk and the risks of nontraditional activities. In June 1993, the FDIC
approved revisions to its ``transitional'' risk-related insurance
assessment system, thereby creating the ``final'' system required by
Section 302. Both the ``transitional'' and ``final'' risk-related
insurance systems use capital categories to differentiate among
institutions.
In December 1992, the Federal Financial Institutions Examination
Council (FFIEC) concluded that, for regulatory reporting purposes,
banks and thrifts should report applicable income taxes in accordance
with Financial Accounting Standards Board Statement No. 109,
``Accounting for Income Taxes'' (FASB 109). The FFIEC also recommended
to the banking agencies and to the OTS that they amend their capital
standards to limit the amount of deferred tax assets recorded under
FASB 109 that can be used to meet leverage and risk-based capital
requirements. More specifically, the FFIEC recommended that deferred
tax assets whose realization is dependent on an institution's future
taxable income should be limited for regulatory capital purposes to the
amount that can be realized within one year or ten percent of Tier 1
capital, whichever is less. The FDIC and FRB issued proposed amendments
to their leverage and risk-based capital standards that would
incorporate the recommended limitation on deferred tax assets during
the first half of 1993. The OCC's proposed amendment is expected to be
published shortly. Adoption of final rules by the banking agencies is
anticipated during 1994. The OTS has already imposed this deferred tax
asset limitation on thrift institutions.
Another recently issued accounting standard, Financial Accounting
Standards Board Statement No. 115, ``Accounting for Certain Investments
in Debt and Equity Securities'' (FASB 115), which generally takes
effect in 1994 (unless an institution elects to adopt this standard in
1993), has created the need for the agencies to revise their
definitions of capital for leverage and risk-based capital purposes.
Under FASB 115, debt and equity securities which are deemed to be
``available-for-sale'' must be carried at fair value (generally, market
value) for balance sheet purposes. Net unrealized holding gains and
losses on available-for-sale securities are reported as a separate
component of stockholders' equity. The FFIEC announced in August 1993
that insured banks and thrifts must adopt FASB 115 for regulatory
reporting purposes and indicated that the banking agencies and the OTS
would be requesting comment on whether the new FASB 115 stockholders'
equity component for net unrealized holding gains and losses on
available-for-sale securities should be included in Tier 1 capital for
leverage and risk-based capital purposes. The Board of Directors of the
FDIC approved the publication of this proposal for a 30-day public
comment period in December 1993. Similar proposals by the other
agencies are also nearing publication.
Leverage Capital Requirement
The banking agencies have since 1985 employed a capital requirement
that establishes a minimum ratio of capital as a percent of total
assets (leverage ratio). The FDIC substantially revised its minimum
leverage capital requirement for state nonmember banks in February
1991. This revised leverage requirement relies on a single narrow
definition of capital that is based solely on Tier 1 (or core) capital.
In most instances, a bank's Tier 1 capital is equal to the amount of
its common equity capital minus certain intangible assets such as
goodwill. Under the leverage capital rule, the most highly-rated banks
in terms of safe and sound operation (i.e., those rated a composite
``1'' under the CAMEL system used by the three federal banking
agencies) that are not anticipating or experiencing significant growth
are required to meet a minimum Tier 1 leverage capital ratio of at
least 3 percent. All other state nonmember banks are required to meet a
minimum Tier 1 leverage capital ratio of at least 100 to 200 basis
points above the 3 percent level--that is, an absolute minimum leverage
ratio of at least 4 percent. Similar leverage capital requirements have
been adopted by the OCC for national banks and by the FRB for state
member banks and bank holding companies.
As initially required by the Financial Institutions Reform,
Recovery, and Enforcement Act of 1989 (FIRREA), the OTS that year
adopted a 1.5 percent tangible and a 3 percent core capital to total
assets leverage standard. However, also consistent with FIRREA, the OTS
is continuing its efforts to revise this 3 percent core leverage
capital requirement for savings associations so that its minimum
leverage capital standard will be at least as stringent as the leverage
capital requirement that the OCC currently applies to national banks.
In addition, although goodwill is generally deducted in calculating a
savings association's tangible and core capital levels, the OTS allows
limited amounts of grandfathered ``qualifying supervisory goodwill'' to
be included in the calculation of core capital during a five-year
phase-out period that expires on January 1, 1995.
Risk-Based Capital Requirement
In 1989, the banking agencies adopted a risk-based capital
framework based upon the July 1988 Capital Accord developed by the
Basle Supervisors' Committee and endorsed by the central bank governors
of the G-10 countries. A transition period ended on December 31, 1992.
Under the risk-based capital framework, banks are currently expected to
meet a minimum ratio of total qualifying capital to risk-weighted
assets of 8 percent, of which at least one-half (or four percentage
points) must be comprised of Tier 1 capital.
In addition to identical ratios, the risk-based framework
implemented by the banking agencies generally includes a common
definition of capital and a uniform system of risk weights and
categories. Nevertheless, some technical differences in language and
interpretation exist among the agencies' risk-based capital guidelines.
As required by FIRREA, the OTS also adopted in 1989 a risk-based
capital standard for savings associations that generally parallels the
risk-based standards of the banking agencies but which is different in
some respects.
The banking agencies are continuing their efforts to revise their
risk-based capital standards to ensure that this framework adequately
considers an institution's interest rate risk. This action is required
by Section 305 of FDICIA. The three banking agencies requested comment
in August 1992 on a proposed approach for incorporating interest rate
risk into the risk-based capital standards. In response to the
recommendations made by commenters and after further banking agency
staff deliberations, the three banking agencies published on September
14, 1993, a substantially modified proposal on interest rate risk. The
proposal would ensure that banks measure and monitor their interest
rate risk and maintain adequate capital for that risk. During 1993, the
OTS adopted a final rule which adds an interest rate risk component to
its risk-based capital rule and requires thrift institutions with a
greater than normal interest rate exposure to take a deduction from the
total capital available to meet their risk-based capital requirement.
The method the OTS has adopted for measuring the interest rate risk
exposures of thrift institutions differs from that proposed by the
banking agencies.
Section 305 of FDICIA also mandates that the agencies' risk-based
capital standards address concentration of credit risk and the risks of
nontraditional activities. The banking agencies' August 1992 proposal
also solicited comment in these two areas. During 1993, the agencies
have developed proposed risk-based capital amendments for
concentrations and nontraditional activities. The agencies' joint
notice of proposed rulemaking covering these two areas should be
published in 1994.
In December 1993, the FFIEC recommended to the banking agencies and
the OTS that they issue for public comment certain proposed changes to
their risk-based capital standards pertaining to the treatment of
recourse arrangements and direct credit substitutes. These proposed
changes would bring the risk-based capital requirements of the banking
agencies and the OTS into greater conformity. Among other features of
the proposal, equivalent risk-based capital treatment would be required
for recourse arrangements and certain direct credit substitutes that
present equivalent risk of loss.
Finally, the staffs of the agencies have been discussing during
1993 a proposal to amend the risk-based capital standards to provide
for the recognition of the reduced credit risk associated with
bilateral netting arrangements covering outstanding interest rate and
foreign exchange rate contracts. Such netting arrangements would have
to be enforceable in all relevant jurisdictions as evidenced by well-
founded and reasoned legal opinions. The agencies anticipate issuing
proposals on this matter early in 1994.
The differences in the capital standards among the banking agencies
and between the banking agencies and the OTS are set forth in Appendix
One. In addition to the leverage capital ratio difference mentioned
above, the major differences between the capital standards of the
banking agencies on the one hand and the OTS on the other include the
capital treatment for subsidiaries, intangible assets, and assets sold
with recourse. The staffs of the banking agencies and the OTS meet
regularly to achieve uniformity in targeted areas of their respective
capital standards and to address differences and inconsistencies among
these standards.
Accounting and Reporting Standards
Over the years, the banking agencies, under the auspices of the
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 banking agencies are
substantially consistent with generally accepted accounting principles
(GAAP) as they are applied by commercial banks. The uniform Call Report
serves as the basis for calculating risk-based capital and leverage
ratios and is also used extensively for other regulatory purposes.
Thus, material differences in accounting and reporting standards do not
exist among commercial banks and FDIC-supervised savings banks.
OTS requires each thrift institution to file the Thrift Financial
Report (TFR), which is consistent with GAAP as it is applied by
thrifts. However, the TFR differs in material respects from the bank
Call Report. Certain of these differences arise from differences in
GAAP as applied by banks and thrifts and the few areas in which the
banking agencies have adopted regulatory reporting standards at
variance with GAAP, as it is applied by banks. However, there are also
significant differences in the required information and its form of
presentation on the two reports so that the required reports are
significantly different.
Nevertheless, more uniform reporting by all institutions is a long-
term goal of the FDIC. The federal banking agencies and OTS continue to
study ways to reduce differences in accounting and reporting standards
between the banking agencies and OTS and between GAAP for banks and
thrifts. In the latter regard, after the enactment of FIRREA, the FDIC
requested the Financial Accounting Standards Board (FASB) and the
American Institute of Certified Public Accountants (AICPA) to consider
eliminating the differences in GAAP as applied by thrifts and by banks.
Both of these organizations have since undertaken projects that move in
this direction. For example, since the FDIC's last report on capital
and accounting differences, the FASB has issued a Statement of
Financial Accounting Standards on loan impairment that applies equally
to banks and thrifts. An interagency staff working group has identified
a series of implementation issues raised by this new accounting
standard and is preparing its recommendations on how the banking
agencies and the OTS should proceed on these issues in a uniform
manner.
At the same time, the agencies continue working toward the goal of
eliminating differences in reporting by banks and thrifts. The banking
agencies and OTS have cooperated on several projects relating to
accounting and reporting since the FDIC's last report on capital and
accounting differences, including interagency guidance on restoring
certain nonaccrual loans to accrual status and on the reporting of in-
substance foreclosures. This guidance was issued on June 10, 1993, as
part of a package of six initiatives to implement President Clinton's
March 10, 1993, program to improve the availability of credit to
businesses and individuals.
Under the auspices of the FFIEC's Task Force on Supervision, an
interagency working group including staff members from the banking
agencies and the OTS recently completed an interagency policy statement
on the allowance for loan and lease losses which should promote
consistency in supervisory policies among the agencies and the
institutions they supervise. The policy statement provides
comprehensive guidance on the maintenance of an adequate allowance and
an effective loan review system. The guidance explains that the
allowance is designed to absorb estimated credit losses associated with
the loan and lease portfolio, including binding commitments to lend,
and discusses the analysis of the portfolio and factors to consider in
estimating credit losses.
In addition, the banking agencies continue to look for ways in
which the differences between the Call Report standards and GAAP can be
eliminated, consistent with the agencies' supervisory responsibilities.
As one of the June 10, 1993, credit availability initiatives, the
banking agencies issued guidance to banks that generally conforms bank
regulatory reporting (Call Report) requirements for sales of other real
estate owned (OREO) with GAAP, as set forth in FASB Statement No. 66,
``Accounting for Sales of Real Estate.'' Thrift institutions were
already following GAAP in this area.
Appendix One
Summary of Differences in Capital Standards Among Federal Banking
and Thrift Supervisory Agencies
The three federal banking agencies have substantially similar
leverage and risk-based capital standards. Nevertheless, the banking
agencies view the leverage and risk-based capital requirements as
minimum standards and most banking organizations are expected to
operate with capital levels well above the minimums, particularly those
institutions that are expanding or experiencing unusual or high levels
of risk. Most of the differences described below represent
inconsistencies between the capital standards used by the banking
agencies and those employed by the OTS.
Leverage Capital Requirement
In 1985, the three federal banking agencies established a minimum
5.5 percent primary capital and 6 percent total capital leverage
(capital-to-total assets) standard. In February 1991, the FDIC
substantially revised its leverage capital rule which is contained in
Part 325 of its regulations. The revised rule replaced the primary and
total capital definitions with a single, narrower definition for
leverage capital that is based solely on Tier 1 (or core) capital. It
also established a minimum Tier 1 leverage capital requirement of at
least 3 percent for the most highly-rated banks (i.e., those with a
composite CAMEL rating of 1) that are not anticipating or experiencing
any significant growth and that meet certain other conditions. All
other state nonmember banks must maintain a minimum leverage capital
ratio that is at least 100 to 200 basis points above this minimum
(i.e., an absolute minimum leverage ratio of not less than 4 percent).
These revised minimum leverage requirements are similar to the revised
minimum leverage standards that were adopted by the OCC and the FRB in
the second half of 1990.
The OTS has a three percent core capital and a 1.5 percent tangible
capital leverage requirement for savings associations. Goodwill is
generally deducted in calculating a savings association's tangible and
core capital levels. However, limited amounts of ``qualifying
supervisory goodwill'' acquired on or before April 12, 1989, can be
included in the calculation of core capital during a five-year phase-
out period. During 1993, the amount of qualifying supervisory goodwill
included in the calculation of core capital cannot exceed 0.75
percentage point (i.e., one quarter of the minimum 3 percent leverage
ratio requirement). This allowable level phases down to zero, effective
January 1, 1995.
Consistent with the requirements of FIRREA, the OTS has proposed
revisions to its leverage standard for savings associations so that its
minimum leverage standard will be at least as stringent as the revised
leverage standard that the OCC applies to national banks.
Risk-Based Capital Requirement
In 1989, the three federal banking agencies adopted risk-based
capital standards consistent with the July 1988 Basle Accord. A
transition period ended on December 31, 1992. The risk-based capital
standards currently require a minimum total risk-based capital (Tier 1
plus Tier 2) ratio for all banking organizations equal to 8 percent.
Risk-adjusted 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. As is the case with
leverage ratios, the banking agencies view the risk-based requirement
as a minimum ratio. Under the auspices of the Basle Supervisors'
Committee, and domestically among themselves, U.S. bank regulatory
authorities have been attempting to develop ways of quantifying the
risks associated with changes in interest rates, equity investments,
traded debt securities, and foreign exchange activities to supplement
the basic risk-based capital framework. Furthermore, Section 305 of
FDICIA mandates that the risk-based capital standards of the banking
agencies and of OTS take account of interest rate risk. The three
banking agencies requested comment in September 1993 on a proposed rule
that would incorporate interest rate risk into their risk-based capital
standards.
OTS has adopted a risk-based capital standard which, in many
respects, is similar to the framework adopted by the banking agencies.
The OTS standard also requires a minimum risk-based capital ratio equal
to 8 percent of risk-adjusted assets. During 1993, the OTS adopted a
final rule which adds an interest rate risk component to its risk-based
capital rule. Under this rule, thrift institutions with a greater than
normal interest rate exposure must take a deduction from the total
capital available to meet their risk-based capital requirement. That
deduction is equal to one half of the difference between the
institution's actual measured exposure and the normal level of
exposure. In addition, the OTS amended its capital regulation in 1993
to conform its risk weight for repossessed assets and assets more than
90 days past due to the risk weight used by the banking agencies for
these items.
Subsidiaries
The federal banking agencies consolidate all significant majority-
owned subsidiaries of the parent organization. The purpose of this
practice is to assure that capital requirements are related to all of
the risks to which the bank is exposed. For subsidiaries which are not
consolidated on a line-for-line basis, their balance sheets may be
consolidated on a pro-rata basis, bank investments in such subsidiaries
may be deducted entirely from capital, or the investments may be risk-
weighted at 100 percent, depending upon the circumstances. For example,
the FDIC deducts investments in, and unsecured advances to, securities
subsidiaries of state nonmember banks established pursuant to Section
337.4 of the FDIC regulations. These options, with respect to the
consolidation or ``separate capitalization'' of subsidiaries for the
purpose of determining the capital adequacy of the parent organization,
provide the banking agencies with the flexibility necessary to ensure
that adequate capital is being provided commensurate with the actual
risks involved. Such flexibility is essential to ensure a realistic
assessment of an institution's capital adequacy.
Under OTS capital guidelines, a distinction, mandated by FIRREA, is
drawn between subsidiaries engaged in those activities that are
permissible for national banks and subsidiaries engaged in
``impermissible'' activities for national banks. Subsidiaries of thrift
institutions that engage only in permissible activities are
consolidated on a line-for-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 in, including loans to, subsidiaries that
engage in impermissible activities are deducted in determining the
capital adequacy of the parent. However, for subsidiaries which were
engaged in impermissible activities prior to April 12, 1989,
investments in, including loans to, such subsidiaries that were
outstanding as of that date are grandfathered and will be phased out of
capital over a five-year transition period that expires on July 1,
1994. During this transition period, investments in subsidiaries
engaged in impermissible activities which have not been phased out of
capital are to be consolidated on a pro rata basis.
The phase-out provisions of FIRREA were amended in October 1992 by
the Housing and Community Development Act of 1992 with respect to
impermissible subsidiaries that are subject to this requirement solely
by reasons of their real estate investments and activities. Under this
legislation, the OTS is authorized to grant extensions of the
transition period for the capital deduction on a case-by-case basis if
certain conditions are met. If an extension is granted, the transition
period will expire on July 1, 1996, instead of July 1, 1994.
Intangible Assets
The banking agencies do not allow goodwill to be included in
capital for commercial banks and FDIC-supervised savings banks.
Pursuant to FIRREA, the OTS allows ``qualifying supervisory
goodwill'' acquired on or before April 12, 1989, to be included as part
of core capital through year-end 1994. Supervisory goodwill is goodwill
acquired in an acquisition where the fair value of the assets was less
than the fair value of the liabilities at the acquisition date or
goodwill acquired in the acquisition of a problem institution. However,
in accordance with FIRREA and Section 18(n) of the Federal Deposit
Insurance Act, goodwill acquired after April 12, 1989, cannot be
included in calculating regulatory capital under the OTS capital rules.
This explicit prohibition against recognizing goodwill also applies to
the three federal banking agencies and the capital rules they have
adopted for banking organizations.
Starting in late 1991, the banking agencies and the OTS began
working to eliminate their then existing differences in the regulatory
capital treatments of identifiable intangible assets. After agreeing
upon a uniform capital approach to these assets, each of the agencies
issued proposed amendments to its capital standards during the second
quarter of 1992. During late 1992 and 1993, the banking agencies
adopted final rules permitting purchased credit card relationships and
purchased mortgage servicing rights to count toward capital
requirements, subject to certain limits. Both forms of intangible
assets are in the aggregate limited to 50 percent of core capital. In
addition, purchased credit card relationships alone are restricted to
no more than 25 percent of an institution's core capital. Any purchased
mortgage servicing rights and purchased credit card relationships that
exceed these limits, as well as all other intangible assets such as
goodwill and core deposit intangibles, are deducted from capital and
assets in calculating an institution's core capital.
The banking agencies' final rules also address the valuation of
identifiable intangible assets that count toward capital requirements
in a manner that is consistent with Section 475 of FDICIA. Section 475
provides that the value of purchased mortgage servicing rights included
in an institution's capital may not exceed 90 percent of their fair
market value and that this value be determined at least quarterly.
Furthermore, the final rules also state that, for purposes of
calculating regulatory capital (but not for financial statement
purposes), the value of purchased mortgage servicing rights and
purchased credit card relationships would be limited to the lesser of
90 percent of fair market value or 100 percent of remaining unamortized
book value. The book value of these intangible assets must be
determined at least quarterly using a discounted approach which looks
to the discounted amount of the estimated future net cash flows from
the asset.
The OTS has developed but has not yet issued its final rule on the
regulatory capital treatment of identifiable intangible assets which is
comparable to the rules already in effect for banks. Until its final
rule takes effect, the existing OTS treatment of identifiable
intangible assets continues to apply to savings associations. Under
these rules, the OTS limits the amount of purchased mortgage servicing
rights that may be included in capital to the lower of 90 percent of
fair market value, 90 percent of the original purchase price, or 100
percent of the remaining unamortized book value. In addition, purchased
mortgage servicing rights equal to no more than 50 percent of a savings
association's core capital may be included in calculating core and
tangible capital. However, purchased mortgage servicing rights
purchased, or under contract to be purchased, on or before February 9,
1990, are exempt from this concentration limit. The amount of any
identifiable intangible assets (other than purchased mortgage servicing
rights) that meet a qualifying three-part test can only be included in
core capital for leverage and risk-based capital purposes up to a limit
of 25 percent of core capital.
Assets Sold with Recourse
As a general rule, the banking agencies require full leverage and
risk-based capital charges on assets sold with recourse, even when the
recourse is limited. This includes transactions where the recourse
arises because the seller, as servicer, must absorb credit losses on
the assets being serviced. The exceptions to this rule (for leverage
capital purposes only) pertain to certain pools of one-to-four family
residential mortgages and to certain farm mortgage loans (see Appendix
2, ``Sales of Assets With Recourse'' for further details).
For risk-based capital purposes, the OTS limits the capital
required on assets sold with limited recourse to the lesser of the
amount of the recourse or the actual amount of capital that would
otherwise be required against that asset, i.e., the normal capital
charge. This is known as the ``low-level recourse'' rule.
Some securitized asset arrangements involve the issuance of senior
and subordinated classes of securities. When a bank originates such a
transaction and retains a subordinated piece, 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 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, regardless of
whether the servicer was the seller of the assets or purchased the
servicing from another party.
In December 1993, the FFIEC recommended to the banking agencies and
the OTS that they issue for public comment certain proposed changes to
their risk-based capital standards pertaining to the treatment of
recourse arrangements and direct credit substitutes. As recommended by
the FFIEC, the banking agencies and the OTS would amend their risk-
based capital standards to define ``recourse'' and certain related
terms and would expand the existing definition of ``direct credit
substitute.'' The banking agencies would adopt the ``low-level
recourse'' rule, would require banking organizations that purchase loan
servicing rights to hold capital against the outstanding amount of the
loans being serviced, and would require banking organizations that
purchase subordinated interests which absorb the first dollars of
losses from the underlying assets to hold capital against the
subordinated interest plus all more senior interests. In addition, the
banking agencies and the OTS would amend their risk-based capital
standards to require the provider of a financial standby letter of
credit or other guarantee-like arrangement that absorbs the first
dollars of losses on third-party assets to hold capital against the
outstanding amount of assets enhanced. The banking agencies and the OTS
expect to jointly publish these proposed risk-based capital changes in
early 1994.
Limitation on Subordinated Debt and Limited Life Preferred Stock
The federal banking agencies limit subordinated debt and
intermediate-term preferred stock that may be treated as part of Tier 2
capital to an amount not to exceed 50 percent of Tier 1 capital. In
addition, all maturing capital instruments must be discounted by 20
percent each year of the five years before maturity. The banking
agencies adopted this approach in order to emphasize equity versus debt
in the assessment of capital adequacy.
The OTS has no limitation on the ratio of maturing capital
instruments as part of Tier 2. Also, for all maturing instruments
issued on or after November 7, 1989 (those issued before are
grandfathered with respect to the discounting requirement), thrifts
have the option of using either (a) the discounting approach used by
the banking regulators, or (b) an approach which allows for the full
inclusion of all such instruments provided that the amount maturing in
any one year does not exceed 20 percent of the thrift's total capital.
Presold Residential Construction Loans
As required by Section 618(a) of the Resolution Trust Corporation
Refinancing, Restructuring, and Improvement Act of 1991 (RTCRRIA), the
banking agencies and the OTS have amended their risk-based capital
guidelines to lower from 100 percent to 50 percent the risk weight for
loans to builders to finance the construction of one-to-four family
residential properties that have been presold and meet certain other
criteria. However, the criteria adopted by the FDIC and the FRB differ
in one respect from those of the OTS and OCC. Under the OTS and OCC
rules, the property must be presold before the construction loan is
made in order for the loan to qualify for the 50 percent risk weight.
In contrast, the FDIC and FRB permit loans to builders for residential
construction to qualify for the 50 percent risk weight once the
property is presold, even if that event occurs after the construction
loan has been made.
Qualifying Multifamily Mortgage Loans
The banking agencies have generally placed multifamily (five units
or more) residential mortgage loans in the 100 percent risk-weight
category along with most other commercial loans since the risks in both
assets are similar.
The OTS allows certain multifamily residential mortgage loans
(e.g., those secured by buildings with 5-36 units, a maximum 80 percent
loan to value ratio, and 80 percent occupancy rate) to qualify for the
50 percent risk-weight category.
However, Section 618(b) of RTCRRIA requires the banking agencies
and the OTS to amend their risk-based capital guidelines to lower the
risk weight of multifamily housing loans that meet certain criteria,
and securities collateralized by such loans, from 100 percent to 50
percent. In December 1993, the FDIC and FRB adopted amendments to their
risk-based capital standards to implement the Section 618(b)
requirement. The OCC and OTS are in the process of finalizing their
risk-based capital amendments for multifamily housing loans.
Equity Investments
To the extent that commercial banks and FDIC-supervised savings
banks are allowed to invest in equity securities under applicable
federal or state law, such investments are assigned to the 100 percent
risk-weight category, for risk-based capital purposes, by all three of
the federal banking agencies.
The OTS risk-based capital standards require that thrift
institutions deduct certain equity investments from capital over a
five-year phase-in period, which ends on July 1, 1994.
Nonresidential Construction and Land Loans
The banking agencies assign loans for real estate development and
construction purposes to the 100 percent risk weight category.
OTS generally assigns these loans to the same 100 percent risk
category. However, if the amount of the loan exceeds 80 percent of the
fair value of the property, the excess portion is deducted from capital
in accordance with the same five-year phase-in arrangement as described
above for ``Equity Investments.''
Mortgage-Backed Securities (MBS)
The federal banking agencies, in general, place privately-issued
MBS in either the 50 percent or 100 percent risk-weight category,
depending upon the appropriate risk category of the underlying assets.
However, privately-issued MBS, collateralized by government agency or
government-sponsored agency securities, are generally assigned to the
20 percent risk weight category.
The OTS assigns privately-issued high-quality mortgage-related
securities (also known as ``SMMEA'' securities) to the 20 percent risk
weight category. These are, generally, privately-issued MBS with AA or
better investment ratings.
At the same time, the banking agencies and the OTS automatically
assign to the 100 percent risk weight category certain mortgagebacked
securities, including interest-only strips, residuals, and similar
instruments that can absorb more than their pro rata share of loss. The
FDIC, in conjunction with the other banking agencies and the OTS,
continues to discuss the development of more specific guidance as to
the types of ``high risk'' mortgagebacked securities that meet this
definition.
Treatment of Junior Liens on One to Four Family Properties
In some cases, a bank may make two loans on a single residential
property, one loan secured by a first lien, the other by a second lien.
The FDIC and FRB view these two transactions as a single loan for
purposes of determining whether the loan secured by the first lien has
been prudently underwritten. The loan secured by the first lien could
be assigned to the 100 percent risk weight category, if, in the
aggregate, the two loans exceed a prudent loan-to-value ratio. In such
a situation, the loan secured by the first lien would not qualify for
the 50 percent risk weight (but, in all cases, the FDIC would assign
the loan secured by the second lien to the 100 percent risk weight
category regardless of the aggregate loan-to-value ratio). This
approach for first liens is intended to avoid possible circumvention of
the capital requirement and capture the risks associated with the
combined transactions.
The OCC and 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.
Mutual Funds
Rather than looking to a mutual fund's actual holdings, the 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. Thus, the banking
agencies take into account the maximum degree of risk to which a bank
may be exposed when investing in a mutual fund because the composition
and risk characteristics of its future holdings cannot be known in
advance.
OTS applies a capital charge appropriate to the riskiest asset that
a mutual fund is actually holding at a particular time. In addition,
OTS guidelines also permit investments in mutual funds to be allocated
on a pro-rata basis in a manner consistent with the actual composition
of the mutual fund.
FSLIC/FDIC-Covered Assets
The federal banking agencies generally place FSLIC/FDIC-covered
assets (assets subject to guarantee arrangements by the FSLIC or FDIC)
in the 20 percent risk-weight category. However, the banking agencies
have permitted limited exceptions on a case-by-case basis in several
large bank assistance transactions.
The OTS places these assets in the zero percent risk-weight
category.
Pledged Deposits and Nonwithdrawable Accounts
Instruments such as pledged deposits, nonwithdrawable accounts,
income capital certificates (ICCs), and mutual capital certificates
(MCCs) do not exist in the banking industry and are not included in the
capital guidelines of the banking agencies.
The capital guidelines of OTS permit thrift institutions to include
pledged deposits and nonwithdrawable accounts that meet OTS criteria as
well as ICCs and MCCs as capital.
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 may defer and amortize
losses incurred on agricultural loans between January 1, 1984, and
December 31, 1991. The unamortized portion of any losses is included as
an element of Tier 2 capital under the FDIC's risk-based capital
framework. 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 and agricultural personal
property. Thrifts are not eligible to participate in the agricultural
loan loss amortization program established by this statute.
Appendix Two
Summary of Differences in Reporting Standards Among Federal Banking
and Thrift Supervisory Agencies
Under the auspices of the Federal Financial Institutions
Examination Council, the three federal banking agencies have developed
uniform reporting standards which must be followed by insured
commercial banks and FDIC-supervised savings banks in the preparation
of the Reports of Condition and Income (Call Report). The income
statement, balance sheet, and supporting schedules presented in the
Call Report are used by the federal bank supervisory agencies for off-
site monitoring of the capital adequacy of banks and for other
regulatory, supervisory, surveillance, analytical, insurance
assessment, and general statistical purposes. The reporting standards
set forth for the Call Report are based almost entirely on generally
accepted accounting principles for banks, and, as a matter of policy,
deviate only in those instances where statutory requirements or
overriding supervisory concerns have warranted a departure from GAAP.
In those areas where the Call Report instructions depart from GAAP, the
GAAP requirements appear to be inconsistent with the objectives and
standards for regulatory reporting that are set forth in section 121 of
FDICIA. Accordingly, the Call Report standards in these areas are no
less stringent than, i.e., are more conservative than, GAAP. Thus,
insofar as the federal banking agencies are concerned, uniform
accounting standards for regulatory and supervisory purposes have been
established.
The OTS has developed and maintains its own separate reporting
scheme for the thrift institutions under its supervision. The reporting
form used by savings institutions, known as the Thrift Financial
Report, is based on GAAP as applied by thrifts, which differs in some
respects from GAAP for banks.
Specific Valuation Allowances for, and Charge-offs of, Troubled Real
Estate Loans not in Foreclosure
The banking agencies generally consider real estate loans which
lack acceptable cash flow or other ready sources of repayment, other
than the collateral, as ``collateral dependent.'' When a real estate
loan is considered to be collateral dependent and the fair value of the
collateral has declined below the book value of the loan, charge-off or
the establishment of a specific valuation allowance is made to reduce
the value of the loan to the fair value of the collateral. Fair value
is generally determined by a current appraisal. The banking agencies
believe that this approach accurately reflects the amount of recovery a
financial institution is likely to receive if it is forced to foreclose
on the underlying collateral. This banking agency approach is basically
consistent with GAAP as it has been applied by banks.
Effective September 30, 1993, OTS revised its policy for the
valuation of troubled, collateral-dependent loans. When it is probable,
based on current information and events, that a thrift will be unable
to collect all amounts due (both principal and interest) on a troubled,
collateral-dependent loan, OTS requires a specific valuation allowance
against (or a partial charge-off of) the loan for the amount by which
the recorded investment in the loan (generally, its book value) exceeds
its ``value,'' as defined. The ``value'' is either the present value of
the expected future cash flows on the loan discounted at the loan's
effective interest rate, the loan's observable market price, or the
fair value of the collateral. Previously, OTS generally required
specific valuation allowances for troubled real estate loans based on
the estimated net realizable value of the collateral, an amount that
normally exceeds fair value. The revised OTS policy narrows this
difference between banks and thrifts and is somewhat similar to the
requirements of FASB Statement No. 114 on loan impairment, which was
issued in May 1993. However, FASB Statement No. 114, which will apply
to financial statements prepared in accordance with GAAP by both banks
and thrifts, is not required to be adopted until 1995.
Futures and Forward Contracts
The banking agencies, as a general rule, do not permit the deferral
of losses on futures and forward contracts 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 issuance of FASB Statement No. 80, which permits hedge or
deferral accounting under certain circumstances. Hedge accounting in
accordance with FASB Statement No. 80 is permitted by the banking
agencies only for futures and forward contracts used in mortgage
banking operations.
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 losses which would be
reflected as assets on the thrift's balance sheet in accordance with
GAAP.
Excess Servicing Fees
As a general rule, the banking agencies do not follow GAAP for
excess servicing fees, but require a more conservative treatment.
Excess servicing arises when loans are sold with servicing retained and
the stated servicing fee rate is greater than a 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.
In contrast, 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 the
institution's defeasance of their liabilities in accordance with FASB
Statement No. 76. Defeasance involves a debtor irrevocably placing
risk-free monetary assets in a trust established solely for satisfying
the debt. In order to qualify for this treatment, the possibility that
the debtor will be required to make further payments on the debt,
beyond the funds placed in the trust, must be remote. With defeasance,
the debt is netted against the assets placed in the trust, a gain or
loss results in the current period, and both the assets placed in the
trust and the liability are removed from the balance sheet. However,
for Call Report purposes, banks must continue to report defeased debt
as a liability and the securities contributed to the trust must
continue to be reported as assets. No netting is permitted, nor is any
recognition of gains or losses on the transaction allowed. The banking
agencies have not adopted FASB Statement No. 76 because of uncertainty
regarding the irrevocability of 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 banking agencies is generally to allow banks to
report transfers of receivables 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 one-to-four family residential mortgage loans
and agricultural mortgage loans under any one of the government
programs (GNMA, FNMA, FHLMC, and Farmer Mac). Transfers of mortgages
under these programs are treated as sales for Call Report purposes,
provided the transfers would be reported as sales under GAAP.
Furthermore, private transfers of one-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, under the risk-based capital framework, the seller's
obligation under any recourse provision resulting from transfers of
mortgage loans under the government programs or in private transfers
that qualify as sales is viewed as an off-balance sheet exposure that
will be assigned a 100 percent credit conversion factor. Thus, for
risk-based capital purposes, capital is generally required to be held
for any recourse obligation associated with such transactions.
OTS policy is to follow FASB Statement No. 77. However, in the
calculation of risk-based capital under OTS guidelines, off-balance
sheet recourse obligations 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.
Push Down Accounting
Push down accounting is the establishment of a new accounting basis
for a depository institution in its separate financial statements as a
result of a substantive change in control. Under push down accounting,
when a depository institution is acquired, yet retains its separate
corporate existence, the assets and liabilities of the acquired
institution are restated to their fair values as of the acquisition
date. These values, including any goodwill, are reflected in the
separate financial statements of the acquired institution as well as in
any consolidated financial statements of the institution's parent.
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 accounting interpretations issued by the
staff 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
Under Accounting Principles Board Opinion No. 16, ``Business
Combinations,'' negative goodwill arises when the fair value of the net
assets acquired in a purchase business combination exceeds the cost of
the acquisition and a portion of this excess remains after the values
otherwise assignable to the acquired noncurrent assets have been
reduced to a zero value.
The three banking agencies require negative goodwill to be reported
as a liability on the balance sheet and do not permit it to be netted
against goodwill that is included as an asset. This ensures that all
goodwill assets are deducted in regulatory capital calculations
consistent with the internationally agreed-upon Basle Capital Accord.
The OTS permits negative goodwill to offset goodwill assets on the
balance sheet.
Offsetting of Assets and Liabilities
FASB Interpretation No. 39, ``Offsetting of Amounts Related to
Certain Contracts'' (FIN 39), becomes effective in 1994. FIN 39
interprets the longstanding accounting principle that ``the offsetting
of assets and liabilities in the balance sheet is improper except where
a right of setoff exists.'' Under FIN 39, four conditions must be met
in order to demonstrate that a right of setoff exists. A debtor with
``a valid right of setoff may offset the related asset and liability
and report the net amount.'' Although an interpretive issue concerning
one of the four conditions remains to be clarified, the banking
agencies plan to allow banks to adopt FIN 39 for Call Report purposes
solely as it relates to on-balance sheet amounts for conditional and
exchange contracts (e.g., forwards, interest rate swaps, and options).
However, consistent with the existing Call Report instructions, netting
of other assets and liabilities will continue to not be permitted
unless specifically required by the instructions.
OTS practice is to follow GAAP as it relates to offsetting in the
balance sheet.
Dated at Washington, DC, this 14th day of January, 1994.
Federal Deposit Insurance Corporation
Robert E. Feldman,
Acting Executive Secretary .
[FR Doc. 94-1455 Filed 1-19-94; 4:15 pm]
BILLING CODE 6174-01-P