[Federal Register Volume 59, Number 18 (Thursday, January 27, 1994)] [Unknown Section] [Page 0] From the Federal Register Online via the Government Publishing Office [www.gpo.gov] [FR Doc No: 94-1709] [[Page Unknown]] [Federal Register: January 27, 1994] ======================================================================= ----------------------------------------------------------------------- FEDERAL DEPOSIT INSURANCE CORPORATION 12 CFR Part 325 RIN 3064-AB23 Statement of Policy on Risk-Based Capital: Multifamily Housing Loans AGENCY: Federal Deposit Insurance Corporation (FDIC). ACTION: Final rule. ----------------------------------------------------------------------- SUMMARY: This final rule implements section 618(b) of the Resolution Trust Corporation Refinancing, Restructuring, and Improvement Act of 1991 (RTCRRIA) and amends the FDIC's risk-based capital guidelines to assign a 50 percent risk weight to loans secured by multifamily residential properties (multifamily housing loans) that meet certain prudential criteria and to any securities collateralized by such loans. At present, such loans are assigned to the 100 percent risk weight category. This amendment also satisfies a requirement contained in section 305 of the Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA) concerning the application of the FDIC's risk- based capital guidelines to multifamily housing loans. The final rule also addresses the section 618(b) requirement that the FDIC's risk- based capital guidelines take into account loss sharing arrangements in connection with sales of multifamily housing loans. The final rule is intended to facilitate prudent lending for multifamily housing purposes. EFFECTIVE DATE: This final rule is effective January 27, 1994. FOR FURTHER INFORMATION CONTACT: Robert F. Storch, Chief, Accounting Section, Division of Supervision, Federal Deposit Insurance Corporation, 550 17th Street NW., Washington, DC 20429, (202) 898-8906. SUPPLEMENTARY INFORMATION: I. Background On March 14, 1989, the Board of Directors of the FDIC adopted a Statement of Policy on Risk-Based Capital (12 CFR part 325, appendix A, later redesignated as appendix A to subpart A of part 325) which is applicable to all insured state nonmember banks supervised by the FDIC (54 FR 11500). The Office of the Comptroller of the Currency (OCC) and the Federal Reserve Board (FRB) have also adopted similar risk-based capital standards for the banks under their supervision. The three agencies based their risk-based capital standards on the report on ``International Convergence of Capital Measurement and Capital Standards'' (the Basle Accord) issued by the Basle Committee on Banking Supervision in July 1988. In addition, the Office of Thrift Supervision (OTS) has implemented risk-based capital rules for savings associations. Under the FDIC's risk-based capital framework, a bank's balance sheet assets and the credit equivalent amounts of its off-balance sheet items are assigned to one of four broad risk categories--0, 20, 50, or 100 percent--according to the obligor or, if relevant, the guarantor or the nature of the collateral. At present, absent qualifying collateral or guarantees, claims on private sector obligors (other than depository institutions) are generally assigned to the 100 percent risk weight category under the risk-based capital guidelines issued by the FDIC, the FRB, the OCC, and the OTS (collectively, the federal banking agencies). Thus, multifamily (five or more dwelling units) housing loans and privately-issued securities collateralized by multifamily housing loans are normally accorded a 100 percent risk weight by the FDIC.\1\ --------------------------------------------------------------------------- \1\Multifamily housing loans are also normally accorded a 100 percent risk weight under the risk-based capital guidelines of the FRB and OCC. However, OTS regulations accord a 50 percent risk weight to ``qualifying multifamily mortgage loans.'' This type of loan is defined as a ``loan on an existing property consisting of 5- 36 dwelling units with an initial loan-to-value ratio of not more than 80% where an average annual occupancy rate of 80% or more of total units has existed for at least one year.'' --------------------------------------------------------------------------- However, under the Basle Accord, ``loans fully secured by mortgage on residential property which is rented or is (or is intended to be) occupied by the borrower'' are permitted to be assigned a 50 percent risk weight. Nevertheless, the Accord admonishes bank supervisory authorities to apply this ``concessionary weight * * * restrictively and in accordance with strict prudential criteria. This may mean, for example, that in some member countries the 50 per cent. weight * * * will only be applied where strict, legally-based, valuation rules ensure a substantial margin of additional security over the amount of the loan.'' To date, the 50 percent risk weight has been accorded only to loans secured by one-to-four family residential properties that meet certain prudential criteria. Section 618(b)(1) of the RTCRRIA requires the federal banking agencies to amend their risk-based capital guidelines to assign multifamily housing loans that meet certain criteria and any security collateralized by such loans to the 50 percent risk weight category. In order for a multifamily housing loan to qualify for this preferential capital treatment, the loan must be secured by a first lien on a multifamily residential property, the loan-to-value ratio for the property must not exceed 80 percent (75 percent if the rate of interest on the loan changes over the term of the loan), the ratio of annual net operating income generated by the property (before debt service) to annual debt service on the loan must not be less than 120 percent (115 percent if the rate of interest on the loan changes over the term of the loan), the amortization period for principal and interest on the loan must not exceed 30 years, the loan must have a minimum maturity for principal repayment of not less than seven years, and the loan must have had timely payment of principal and interest in accordance with the loan terms for at least one year. Section 618(b)(1) further provides that a multifamily housing loan must meet ``any other 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.'' In addition, section 305 of the FDICIA (Pub. L. 102-242, 105 Stat. 2355 (12 U.S.C. 1828 note)) in part requires the federal banking agencies to amend their risk-based capital standards for insured depository institutions to ensure that those standards ``reflect the actual performance and expected risk of loss of multifamily mortgages.'' Section 618(b)(2) of the RTCRRIA requires the FDIC to amend its risk-based capital standards: To provide that any loan fully secured by a first lien on a multifamily housing property that is sold subject to a pro rata loss sharing arrangement * * * shall be treated as sold to the extent that loss is incurred by the purchaser of the loan. This section then defines the term ``pro rata loss sharing arrangement'' as ``an agreement providing that the purchaser of a loan shares in any loss incurred on the loan with the selling institution on a pro rata basis.'' Section 618(b)(3) of the RTCRRIA then directs the FDIC to amend its risk-based capital framework ``to take into account other loss sharing arrangements in connection with the sale'' of multifamily housing loans ``for purposes of determining the extent to which such loans shall be treated as sold.'' An ``other loss sharing arrangement'' is then defined as ``an agreement providing that the purchaser of a loan shares in any loss incurred on the loan with the selling institution on other than a pro rata basis.'' II. Description of Proposed Rule On April 1, 1992, the FDIC published a proposed rule designed to implement the provisions of section 618(b) of the RTCRRIA (57 FR 11010). The preamble to the proposed rule further noted that implementation of the proposal would also satisfy the provision of section 305 of the FDICIA concerning the application of the FDIC's risk-based capital guidelines to multifamily housing loans. Criteria for Multifamily Housing Loans and Securities In order to achieve the safety and soundness objective set forth in section 618(b)(1), the proposal observed that it is imperative that appropriate criteria be established to distinguish between multifamily housing loans that are accorded a 100 percent risk weight and those that are of sufficiently high quality to warrant a more favorable 50 percent risk weight. In this regard, the proposal noted that data reported in the Consolidated Reports of Condition and Income filed by all FDIC-insured commercial banks revealed that net charge-offs of multifamily housing loans by such banks for calendar year 1991 were 2.01 percent of multifamily housing loans outstanding. The percentage of multifamily housing loans that were 90 days or more past due or in nonaccrual status as of December 31, 1991, for all FDIC-insured commercial banks was 5.64 percent of multifamily housing loans outstanding. In contrast, for single family housing loans, which the FDIC's risk-based capital guidelines assign to the 50 percent risk weight category if they meet certain criteria, the net charge-off rate for calendar year 1991 was only 0.20 percent of loans outstanding. Single family housing loans that were 90 days or more past due or in nonaccrual status as of December 31, 1991, for all FDIC-insured commercial banks were 1.65 percent. Thus, the FDIC's proposed rule lowering the risk weight for certain multifamily housing loans incorporated the specific statutory criteria described in section I. above and also included four additional safety and soundness criteria that multifamily housing loans would have to meet in order to receive a reduced risk weight. These four criteria, which were developed by the FDIC after consulting with the other federal banking agencies, provided that: (1) The loan-to-value ratio used to determine the eligibility of a multifamily housing loan for the lower risk weight would be the ratio at the time the loan was originated; (2) the loan must not be more than 90 days past due or carried in nonaccrual status; (3) the average annual occupancy rate of the property securing the loan must have been at least 80 percent for at least one year; and (4) the loan must have been made in accordance with prudent underwriting standards. Taken together, the statutory and proposed additional criteria were intended to ensure that only those multifamily housing loans whose future repayment prospects are such that they expose an institution to relatively low levels of credit risk would receive the more favorable 50 percent risk weight. These criteria were also intended to ensure that such loans have risk characteristics that are consistent with the Basle Accord's provisions regarding the assignment of a preferential risk weight. As for securities collateralized by multifamily housing loans, the FDIC observed in the preamble to the proposed rule that its risk-based capital guidelines presently accord a 50 percent risk weight to privately-issued mortgage-backed securities that are ``backed by a pool of conventional mortgages,'' each of which meets the criteria ``for inclusion in the 50 percent risk weight category at the time the pool is originated.'' Such securities must also meet a number of safety and soundness criteria that are specified in the guidelines. Therefore, by operation of the existing language on privately-issued mortgage-backed securities in the FDIC's risk-based capital guidelines, the proposal stated that the explicit addition of multifamily housing loans to the 50 percent risk weight category would have the effect of lowering to 50 percent the risk weight for privately-issued mortgage-backed securities collateralized by such loans, provided the multifamily housing loans that back these securities qualify for a 50 percent risk weight at the time the securities are originated.\2\ --------------------------------------------------------------------------- \2\In addition, in general, the FDIC's risk-based capital guidelines currently assign a 20 percent risk weight to mortgage- backed securities collateralized by multifamily housing loans that have been issued or guaranteed by a U.S. Government-sponsored agency. The final rule does not change the treatment of these mortgage-backed securities. --------------------------------------------------------------------------- Loss Sharing Arrangements The FDIC's existing risk-based capital guidelines do not specifically address how asset sales involving various forms of loss sharing arrangements are to be handled by a selling bank. This is because, for purposes of applying the risk-based capital standards, a bank's balance sheet assets are determined in accordance with the instructions for the preparation of the Consolidated Reports of Condition and Income (Call Report). Thus, the instructions for preparation of Consolidated Reports of Condition and Income are the source for guidance on determining the extent to which assets such as multifamily housing loans are treated as sold when there is a loss sharing arrangement covering the assets. The proposed rule therefore sought to implement the section 618(b) requirement that the FDIC's risk-based capital guidelines take into account loss sharing arrangements on sales of multifamily housing loans by referencing the relevant Call Report instructions. With respect to sales subject to pro rata loss sharing arrangements, the Call Report instructions direct banks to report these transactions in a manner that is consistent with the language of section 618(b)(2) quoted in section I above. These instructions state that: If the risk retained by the seller is limited to some fixed percentage of any losses that might be incurred and there are no other provisions resulting in retention of risk, either directly or indirectly, by the seller, the maximum amount of possible loss for which the selling bank is at risk (the stated percentage times the sale proceeds) shall be reported as a borrowing and the remaining amount of the assets transferred reported as a sale. Thus, the FDIC proposed to amend its risk-based capital guidelines to provide in a footnote an explanation of this treatment for sellers of multifamily housing loans subject to pro rata loss sharing arrangements. For Call Report purposes, in general, other transfers of multifamily housing loans are to be reported as sales of the transferred assets only if the selling institution ``(1) retains no risk of loss from the assets transferred resulting from any cause and (2) has no obligation to any party for the payment of principal or interest on the assets transferred'' resulting from any cause. The FDIC's risk-based capital framework has taken other loss sharing arrangements into account in this manner when determining the extent to which assets such as multifamily housing loans are treated as sold and excluded from the balance sheet assets that must be risk weighted. In order to implement section 618(b)(3), the FDIC proposed to amend its risk-based capital guidelines to explicitly disclose this treatment of other loss sharing arrangements in a footnote. III. Comment Summary The FDIC received 21 comment letters addressing various aspects of its proposed rule. Letters were submitted by 12 depository institutions or holding companies, four trade associations representing depository institutions, three trade associations representing housing and home building interests, and one secondary mortgage market maker. One comment document was filed by a group of individuals. Of the 21 letters received, six respondents agreed with the proposal to lower the risk weight for multifamily housing loans and offered no suggestions for changes to it. Another 12 commenters generally found the FDIC's proposal acceptable, but recommended certain changes in the eligibility criteria or the treatment of loss sharing arrangements. Three respondents objected to the proposal to lower the risk weight for multifamily housing loans, although two of these commenters made suggestions for improving the eligibility criteria. Three commenters, two of whom supported the proposal and one who opposed it, expressed concern that Congress had mandated that the regulatory agencies lower the risk weight for a specific loan category. Loan-to-Value Ratios Although the proposal called for the loan-to-value ratio requirement to be met at the origination of a multifamily housing loan, the FDIC specifically requested comment on whether, in light of the other criteria that a multifamily housing loan must also meet, (1) a loan that does not satisfy the loan-to-value ratio requirement at origination should be permitted to do so later during the life of the loan and, if so, under what circumstances, and (2) a loan that satisfies this requirement at origination but fails to do so at a later date should thereafter be ineligible for a 50 percent risk weight. These issues were addressed by five respondents. Two respondents suggested that the loan-to-value ratios of ``large'' multifamily properties be recalculated every two years to determine whether the required ratio continues to be met. The other three respondents stated that multifamily housing loans not meeting the loan-to-value ratio requirement at origination should be eligible for the 50 percent risk weight if the ratio later decreases as a result of either principal payments or increased property values. However, only one of these three also recommended that multifamily housing loans should have their risk weights increased from 50 to 100 percent if their loan-to-value ratios rise above the levels set forth in the proposal subsequent to their origination. In contrast, another of these three commenters stated that a multifamily housing loan whose loan-to-value ratio increases after origination should be eligible to retain its 50 percent risk weight as long as the remaining eligibility criteria continued to be met. Finally, one of these commenters expressed concern about the cost of obtaining appraisals if the final rule were to require frequent reappraisals to ensure that the loan-to-value ratio requirement continues to be satisfied over time. After considering these comments and consulting with the other agencies, the FDIC has decided that the loan-to-value ratio requirement in the final rule should not be a one-time only test at origination. Rather, a multifamily housing loan that does not satisfy the loan-to- value ratio requirement at origination, but does so at a later date, should then receive the benefit of a more favorable risk weight (assuming the other eligibility criteria are also met). A multifamily housing loan whose loan-to-value ratio no longer meets the specified ratio requirement has a reduced margin of collateral protection and its relative risk has increased to a level that no longer justifies the loan's continued eligibility for a 50 percent risk weight. Thus, the final rule makes the loan-to-value ratio requirement an ongoing eligibility criterion by stating that the ratio should be determined on the basis of the most current appraisal or evaluation of the property, whichever may be appropriate.\3\ This approach is also intended to be consistent with the FDIC's regulations and guidelines for real estate lending and appraisals. Under these regulations and guidelines, a bank's written real estate lending policies must establish prudent underwriting standards, including loan-to-value limits. In addition, a bank's real estate appraisal and evaluation programs should include general criteria that identify when it is in the bank's interests to reappraise or reevaluate real estate collateral. Thus, the final rule does not mandate a specific frequency with which reappraisals and reevaluations of multifamily properties must be made, but relies instead on a bank's own policies and procedures in this area. --------------------------------------------------------------------------- \3\At the origination of a loan to purchase an existing multifamily property, the lesser of the actual acquisition cost or value estimate would be used in the loan-to-value ratio. --------------------------------------------------------------------------- The specific loan-to-value ratios required by the proposed rule, i.e., 80 percent for fixed rate loans and 75 percent for adjustable rate loans, were addressed by two commenters. Each suggested that the same ratio should apply regardless of whether a loan has a fixed or adjustable rate. However, one of these commenters preferred using an 80 percent ratio for all multifamily housing loans while the other preferred a 75 percent ratio. The final rule retains the separate ratios for fixed and adjustable rate loans that were contained in the proposal. These ratios are taken directly from the statute. In addition, two commenters indicated that multifamily housing loans that do not meet the loan-to-value ratio requirement but have additional collateral or credit enhancements such as mortgage insurance should be eligible for the 50 percent risk weight. The FDIC's risk- based capital standards formally recognize only certain forms of collateral and guarantees for purposes of risk-weighting assets and credit equivalent amounts of off-balance sheet items. The FDIC does not believe it would be appropriate to recognize additional forms of collateral and guarantees solely for multifamily housing loans. Annual Occupancy Rate Comments were received from three respondents on the proposed requirement, not mandated by the statute, that the average annual occupancy rate of the property securing the loan must have been at least 80 percent for at least one year. These commenters pointed out that the ongoing loan-to-value ratio and debt service coverage ratio requirements set forth in the statute should be sufficient to ensure that only high quality multifamily housing loans would qualify for the 50 percent risk weight. It was also indicated that information on occupancy rates is not regularly being obtained as part of the financial data that borrowers supply on the properties securing multifamily housing loans. Thus, the inclusion of an occupancy rate requirement in the final rule would impose an additional burden on both borrowers and lenders. The FDIC agrees with these commenters and has eliminated the proposed occupancy rate requirement from the final rule. Properties Owned by Cooperatives and Nonprofit Organizations Four commenters questioned the applicability of the eligibility criteria to properties owned by cooperative housing corporations and nonprofit organizations. In particular, the ``operating income'' concept included in the debt service coverage requirement was considered inappropriate because these types of properties, since they are not owned by investors seeking a return on their investments, are not operated to produce income. Accordingly, these commenters suggested that, for multifamily properties with a nonprofit form of ownership, a more flexible approach to meeting the debt service coverage ratio requirements set forth in the statute would be justified. The FDIC recognizes that the cash flow to service a loan secured by a multifamily property can come from ``operating income'' as well as from other sources. Therefore, the debt service coverage criterion in the final rule indicates that properties owned by cooperative housing corporations or nonprofit organizations must generate sufficient cash flow to provide protection to the bank comparable to that afforded by the debt service coverage levels set forth in the statute that are based on annual net operating income. Repayment Performance Two commenters stated that the FDIC's proposal to add a requirement that a multifamily housing loan must not be more than 90 days past due or carried in nonaccrual status in order to qualify for the 50 percent risk weight was unnecessary because of the statutory requirement that all principal and interest payments be made on a timely basis in accordance with the terms of the loan for at least one year. One of these commenters indicated that a loan on which timely payments have been made for at least one year ``will not be more than 90 days past due and is unlikely to be in nonaccrual status'' while the other suggested that the loan would be ``in reasonably good shape, even it is technically ninety (90) days past due.'' Although it may not have been clear from the proposal, the requirement that a loan not be 90 days or more past due or in nonaccrual status was intended to be an ongoing test that would have to be met at the time a multifamily housing loan was placed in the 50 percent risk weight category and thereafter. The FDIC's risk-based capital guidelines currently contain the same ongoing requirement for one-to-four family residential mortgages to qualify for the 50 percent risk weight. In contrast, the statutory requirement that timely contractual principal and interest payments must have occurred for at least one year before a multifamily housing loan can qualify for a 50 percent risk weight is a one-time requirement. To eliminate confusion, the final rule separately lists these two eligibility criteria and clarifies that timely payments must have been made for at least one year before a multifamily housing loan is placed in the 50 percent risk weight category. Prudent Underwriting Standards The proposal's final eligibility criterion required the multifamily housing loan to have been made ``in accordance with applicable lending limits and other prudent underwriting standards.'' Two commenters asked what was meant by ``prudent underwriting standards.'' Guidance for prudent real estate loan underwriting standards is outlined in appendix A to part 365 of the FDIC's rules and regulations, ``Interagency Guidelines for Real Estate Lending Policies'' (12 CFR part 365, appendix A), which was adopted by the FDIC in October 1992 (57 FR 62896, December 31, 1992). A third commenter suggested that this criterion was unnecessary and that it should go without saying that a bank should comply with applicable lending limits. This commenter also questioned why lending limits were singled out in this criterion when compliance with many other statutory and regulatory requirements is expected during the underwriting of a loan. The FDIC has deleted the specific reference to lending limits in the final rule. Optional Nature of Lower Risk Weight One commenter who supported the proposal nonetheless requested that the FDIC ensure that banks are aware that, under the final rule, they have the option of assigning multifamily housing loans that meet the criteria specified in the rule to the 50 percent risk weight or continuing to treat such loans as 100 percent risk weight assets. One of the commenters who opposed the proposal did so because the cost associated with substantiating that a multifamily housing loan was eligible to be placed in the 50 percent risk weight category would exceed the benefit of the lower risk weight. The FDIC has no intention of imposing this cost on banks that would prefer not to incur it. Thus, the FDIC wishes to reiterate that, at each bank's option, assets, including multifamily housing loans, and credit equivalent amounts of off-balance sheet items that are eligible to be assigned to a risk weight category lower than 100 percent may be included in a higher risk weight category (e.g., the 100 percent risk weight category) than the category to which the assets or credit equivalent amounts are otherwise eligible to be assigned. Loss Sharing Arrangements Comment letters from two respondents addressed the treatment of loss sharing arrangements in connection with the sale of multifamily housing loans that was contained in the proposed rule. Both commenters agreed with the proposal's approach for handling a pro rata loss sharing arrangement (i.e., for the selling bank to treat the transfer as a sale to the extent that the purchaser shares with the seller on pro rata basis in any loss incurred), but took exception to the proposed treatment of other loss sharing arrangements. Under the proposal, other loss sharing arrangements were to be taken into account for purposes of determining the extent to which multifamily housing loans are treated by the selling bank as sold (and excluded from balance sheet assets) under the risk-based capital framework in the same manner as prescribed for reporting purposes in the Call Report instructions. Hence, multifamily housing loans sold subject to loss sharing arrangements on other than a pro rata basis would treat such loans as sold for risk-based capital purposes only if the selling bank retains no risk of loss from the loans transferred resulting from any cause and has no obligation to any party for the payment of principal or interest on the loans transferred resulting from any cause. One commenter indicated that, in lieu of the proposed treatment for other loss sharing arrangements, the selling institution ``should retain capital in proportion to the risk retained but not for the whole loan.'' The other commenter who addressed loss sharing arrangements stated that the proposed treatment of other loss sharing arrangements does not ``provide an accurate measure of risk exposure or appropriately tailored incentives,'' ``may discourage lenders from limiting their recourse obligation,'' and is ``inconsistent with the statutory requirement.'' This commenter recommended that the FDIC ``adopt rules that distinguish different loss risks for non-pro rata arrangements, rather than the existing rule in the Call Reports'' and offered suggested approaches for doing so. This commenter also acknowledged that the regulatory capital treatment of asset sales subject to loss sharing arrangements is an issue that goes beyond multifamily housing loans and requires a comprehensive solution. The FDIC recognizes that the proposed rule on other loss sharing arrangements essentially treats all such arrangements in an identical manner regardless of the terms of the arrangement and, as a consequence, may not encourage banks that sell multifamily housing loans with recourse to limit their exposure to risk. However, these concerns extend to asset sales with recourse in general because of the broad scope of the Call Report instructions in this area and their relationship to the risk-based capital framework. The FDIC and the other banking agencies, under the auspices of the Federal Financial Institutions Examination Council, have been pursuing a more comprehensive resolution of the capital issues surrounding asset sales with recourse and other forms of credit enhancement. This interagency effort is seeking to develop revisions to the agencies' risk-based capital standards that will better distinguish between the degrees of risk in loss sharing arrangements involving asset sales in general, not just those involving multifamily housing loans. The FDIC expects that these revisions would be more likely to fully satisfy the intent of section 618(b)(3) with respect to other loss sharing arrangements than the approach taken in the proposed rule. Nevertheless, the FDIC does not wish to further delay the issuance of a final rule that lowers the risk weight for certain multifamily housing loans and provides guidance on the risk-based capital treatment of pro rata loss sharing arrangements while the interagency effort to address recourse issues is proceeding. Therefore, as an interim measure, the FDIC is adopting the treatment of other loss sharing arrangements as originally proposed. Other Issues Several commenters suggested changes to the proposed rule that would conflict with the requirements set forth in the statute. These suggestions included a lower debt service coverage ratio requirement, a shorter minimum maturity requirement, and a 75 percent rather than 50 percent risk weight for multifamily housing loans. These suggestions have not been adopted. IV. Final Rule After considering the comments received and consulting with the other agencies, the FDIC is adopting a final rule to implement section 618(b) of the RTCRRIA. The final rule will also satisfy that portion of section 305 of the FDICIA relating to the application of the FDIC's risk-based capital guidelines to multifamily housing loans. The final rule adds a new paragraph on multifamily housing loans to the discussion of the types of assets accorded a 50 percent risk weight in the section of the FDIC's risk-based capital guidelines on risk weights for balance sheet assets (section II.C.). The new paragraph enumerates the criteria that a multifamily housing loan must satisfy in order to be eligible for this favorable risk weight. A conforming change has been made to the summary of risk weights and risk categories in table II of the guidelines. The eligibility criteria contained in the final rule include those set forth in section 618(b) and two added by the FDIC based on the authority granted in the statute. These criteria are that the loan must be secured by a first lien on a multifamily residential property, the loan-to-value ratio for the property must not exceed 80 percent (75 percent if the rate of interest on the loan changes over the term of the loan), the ratio of annual net operating income generated by the property (before debt service) to annual debt service on the loan must not be less than 120 percent (115 percent if the rate of interest on the loan changes over the term of the loan), the amortization period for principal and interest on the loan must not exceed 30 years, the loan must have a minimum original maturity for principal repayment of not less than seven years, the loan must have had timely payment of principal and interest in accordance with the loan terms for at least one year before the loan is placed in the 50 percent risk weight category, the loan must not be 90 days or more past due or carried in nonaccrual status, and the loan must have been made in accordance with prudent underwriting standards. For purposes of satisfying the one year's timely repayment performance criterion in the case where the existing owner of a multifamily residential property refinances a loan on that property, the final rule provides that all principal and interest payments on the loan being refinanced must have been made on a timely basis in accordance with the terms of the loan for at least the preceding year. In this situation, all of the other eligibility criteria must also be met in order for the new loan to qualify for the 50 percent risk weight. For example, the annual debt service required on the new loan would be used when determining whether the debt service coverage requirement has been satisfied. Under the final rule, the loan-to-value ratio requirement must be met based on the most current appraisal or evaluation of the property, whichever may be appropriate, and, at the origination of loans to purchase an existing property, the term ``value'' means the lesser of the actual acquisition cost or the estimate of value for the property. In addition, the final rule explains that, to satisfy the debt service coverage requirement, a property owned by a cooperative housing corporation or nonprofit organization must generate sufficient cash flow to provide protection to the bank comparable to that specified in the statute. The final rule also revises the existing paragraph addressing privately-issued mortgage-backed securities in the discussion of the types of assets assigned to the 50 percent risk weight category. The amendment clarifies that in order for a security backed by a pool of conventional mortgages on multifamily residential properties to be accorded a 50 percent risk weight, each underlying mortgage must meet the eligibility criteria described above at the time the pool is originated. A bank that purchases such a security will not be required to monitor the eligibility of each underlying mortgage on an ongoing basis to ensure that a 50 percent risk weight remains appropriate for the security. Instead, the security may remain in the 50 percent risk weight category as long as principal or interest payments on the security are not 30 days or more past due. Finally, the final rule amends the FDIC's risk-based capital guidelines by stating in a footnote that a multifamily housing loan that is sold subject to a pro rata loss sharing arrangement is to be treated by the selling bank as sold (and excluded from balance sheet assets) to the extent that the sales agreement provides for the purchaser of the loan to share in any loss incurred on the loan on a pro rata basis with the selling bank. This means that, in such a transaction, the portion of the loan that is treated as sold by the selling bank is not subject to the risk-based capital standards. This footnote also provides explicit guidance on the risk-based capital treatment of sales of multifamily housing loans in which the purchaser of a loan shares in any loss incurred on the loan with the selling institution on other than a pro rata basis. It states that these other loss sharing arrangements are taken into account for purposes of determining the extent to which such loans are treated by the selling bank as sold (and excluded from balance sheet assets) under the risk- based capital framework in the same manner as prescribed for reporting purposes in the instructions for preparation of the Consolidated Reports of Condition and Income. The instructions applicable to such transactions are contained in the Glossary entry for ``sales of assets.'' This final rule is effective January 27, 1994. The FDIC has determined that good cause exists to waive the customary 30-day delayed effective date since the rule relieves a restriction on insured state nonmember banks by permitting them to utilize a lower risk weight for eligible multifamily housing loans and securities collateralized by such loans in calculations of their risk-based capital ratios. In addition, insured state nonmember banks may choose to utilize this lower risk weight in their Consolidated Reports of Condition and Income for December 31, 1993. V. Regulatory Flexibility Act Analysis The FDIC certifies that the adoption of this amendment to its risk- based capital guidelines will not have a significant economic impact on a substantial number of small business entities within the meaning of the Regulatory Flexibility Act (5 U.S.C. 601 et seq). Accordingly, a regulatory flexibility analysis is not required. The amendment will benefit insured state nonmember banks by reducing the minimum amount of capital that they are required to maintain for certain multifamily housing loans and securities collateralized by such loans. The proposal would apply equally to all insured state nonmember banks, regardless of size, and should not disproportionately affect a substantial number of small banks. List of Subjects in 12 CFR Part 325 Bank deposit insurance, Banks, banking, Capital adequacy, Reporting and recordkeeping requirements, State nonmember banks. For the reasons set forth in the preamble, the Board of Directors of the Federal Deposit Insurance Corporation amends 12 CFR part 325 as follows: PART 325--CAPITAL MAINTENANCE 1. The authority citation for part 325 is revised to read as follows: Authority: 12 U.S.C. 1815(a), 1815(b), 1816, 1818(a), 1818(b), 1818(c), 1818(t), 1819(Tenth), 1828(c), 1828(d), 1828(i), 1828(n), 1828(o), 1831o, 3907, 3909; Pub. L. 102-233, 105 Stat. 1761, 1789, 1790 (12 U.S.C. 1831n note); Pub. L. 102-242, 105 Stat. 2236, 2355, 2386 (12 U.S.C. 1828 note). 2. In appendix A to subpart A of part 325, footnotes 29 through 37 are redesignated as footnotes 32 through 40, respectively; a new paragraph is added between the first and second paragraphs of section II.C. category 3 and the existing second paragraph is revised; paragraphs (2) through (4) of table II. category 3 are redesignated as paragraphs (3) through (5), respectively; and a new paragraph (2) is added to table II. category 3 to read as follows: Appendix A to Subpart A of part 325--Statement of Policy on Risk- Based Capital * * * * * II. * * * C. * * * Category 3 * * * This category also includes loans fully secured by first liens on multifamily residential properties,29 provided that: --------------------------------------------------------------------------- \2\9The types of loans that qualify as loans secured by multifamily residential properties are listed in the instructions for preparation of the Consolidated Reports of Condition and Income. In addition, as provided in those instructions, a multifamily residential property loan that is sold subject to a pro rata loss sharing arrangement is treated by the selling bank as sold (and excluded from balance sheet assets) to the extent that the sales agreement provides for the purchaser of the loan to share in any loss incurred on the loan on a pro rata basis with the selling bank. In such a transaction, from the standpoint of the selling bank, the portion of the loan that is treated as sold is not subject to the risk-based capital standards. In connection with sales of multifamily residential property loans in which the purchaser of a loan shares in any loss incurred on the loan with the selling institution on other than a pro rata basis, these other loss sharing arrangements are taken into account for purposes of determining the extent to which such loans are treated by the selling bank as sold (and excluded from balance sheet assets) under the risk-based capital framework in the same manner as prescribed for reporting purposes in the instructions for preparation of the Consolidated Reports of Condition and Income. --------------------------------------------------------------------------- (1) The loan amount does not exceed 80 percent of the value30 of the property securing the loan as determined by the most current appraisal or evaluation, whichever may be appropriate (75 percent if the interest rate on the loan changes over the term of the loan); --------------------------------------------------------------------------- \3\0At the origination of a loan to purchase an existing property, the term ``value'' means the lesser of the actual acquisition cost or the estimate of value set forth in an appraisal or evaluation, whichever may be appropriate. --------------------------------------------------------------------------- (2) For the property's most recent fiscal year, the ratio of annual net operating income generated by the property (before payment of any debt service on the loan) to annual debt service on the loan is not less than 120 percent (115 percent if the interest rate on the loan changes over the term of the loan) or, in the case of a property owned by a cooperative housing corporation or nonprofit organization, the property generates sufficient cash flow to provide comparable protection to the bank; (3) Amortization of principal and interest on the loan occurs over a period of not more than 30 years; (4) The minimum original maturity for repayment of principal on the loan is not less than seven years; (5) All principal and interest payments have been made on a timely basis in accordance with the terms of the loan for at least one year before the loan is placed in this category;31 --------------------------------------------------------------------------- \3\1In the case where the existing owner of a multifamily residential property refinances a loan on that property, all principal and interest payments on the loan being refinanced must have been made on a timely basis in accordance with the terms of that loan for at least the preceding year. The new loan must meet all of the other eligibility criteria in order to qualify for a 50 percent risk weight. --------------------------------------------------------------------------- (6) The loan is not 90 days or more past due or carried in nonaccrual status; and (7) The loan has been made in accordance with prudent underwriting standards. Also included in this category are privately-issued mortgage- backed securities provided that: (1) The structure of the security meets the criteria described above for ``Mortgage-Backed Securities;'' (2) if the security is backed by a pool of conventional mortgages on one-to-four family residential or multifamily residential properties, each underlying mortgage meets the criteria described in this section for inclusion in the 50 percent risk weight category at the time the pool is originated; (3) if the security is backed by privately-issued mortgage-backed securities, each underlying security qualifies for inclusion in the 50 percent risk category; and (4) if the security is backed by a pool of multifamily residential mortgages, principal or interest payments on the security are not 30 days or more past due.32 --------------------------------------------------------------------------- \3\2 Privately-issued mortgage-backed securities that do not meet these criteria or that do not qualify for a lower risk weight generally are assigned to the 100 percent risk weight category. --------------------------------------------------------------------------- * * * * * Table II.--Summary of Risk Weights and Risk Categories * * * * * Category 3 * * * (2) Loans fully secured by first liens on multifamily residential properties that have been prudently underwritten and meet specified requirements with respect to loan-to-value ratio, level of annual net operating income to required debt service, maximum amortization period, minimum original maturity, and demonstrated timely repayment performance. * * * * * By order of the Board of Directors. Dated at Washington, DC, this 14th day of December, 1993. Federal Deposit Insurance Corporation. Patti C. Fox, Acting Deputy Executive Secretary. [FR Doc. 94-1709 Filed 1-26-94; 8:45 am] BILLING CODE 6714-01-P