[Federal Register Volume 61, Number 151 (Monday, August 5, 1996)]
[Notices]
[Pages 40642-40643]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-19865]


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FEDERAL RESERVE SYSTEM
[Docket No. R-0932]


Revenue Limit on Bank-Ineligible Activities of Subsidiaries of 
Bank Holding Companies Engaged in Underwriting and Dealing in 
Securities

AGENCY: Board of Governors of the Federal Reserve System.

ACTION: Notice; Request for comments.

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SUMMARY: The Board is proposing for comment a change in the manner in 
which interest earned on securities authorized for investment by a 
member bank of the Federal Reserve System is treated in determining 
whether a company is engaged principally in underwriting and dealing in 
securities for purposes of section 20 of the Glass-Steagall Act. In 
order to ensure compliance with section 20, the Board required that the 
amount of revenue a company derived from underwriting and dealing in 
securities that a member bank may not underwrite or deal in (ineligible 
securities) not exceed 10 percent of the total revenue of the company. 
The Board is proposing to clarify that interest earned on the types of 
debt securities that a member bank may hold for its own account is not 
treated as revenue from underwriting or dealing for purposes of section 
20.

DATES: Comments must be received by September 3, 1996.

ADDRESSES: Comments, which should refer to Docket No. R-0932, may be 
mailed to the Board of Governors of the Federal Reserve System, 20th 
Street and Constitution Avenue, NW, Washington, D.C. 20551, to the 
attention of Mr. William Wiles, Secretary. Comments may also be 
delivered to Room B-2222 of the Eccles Building between 8:45 a.m. and 
5:15 p.m. weekdays, or to the guard station in the Eccles Building 
courtyard on 20th Street, N.W. (between Constitution Avenue and C 
Street) at any time. Comments may be inspected in Room MP-500 of the 
Martin Building between 9:00 a.m. and 5:00 p.m. weekdays, except as 
provided in section 261.8 of the Board's Rules Regarding Availability 
of Information, 12 CFR 261.8.

FOR FURTHER INFORMATION CONTACT: Richard M. Ashton, Associate General 
Counsel (202/452-3750), Thomas M. Corsi, Senior Attorney (202/452-
3275), Legal Division; Michael J. Schoenfeld, Senior Securities 
Regulation Analyst (202/452-2781), Division of Banking Supervision and 
Regulation, Board of Governors of the Federal Reserve System. For the 
hearing impaired only, Telecommunication Device for the Deaf (TDD), 
Dorothea Thompson (202/452-3544), Board of Governors of the Federal 
Reserve System, 20th Street and Constitution Avenue, NW, Washington, 
D.C.

SUPPLEMENTARY INFORMATION:

Background

    Beginning with orders issued in 1987, the Board has authorized 
nonbank subsidiaries of bank holding companies, so-called section 20 
subsidiaries, to underwrite and deal in ineligible securities.\1\ In 
order to assure compliance with section 20 of the Glass-Steagall 
Act,\2\ the Board provided as a condition of its orders that the gross 
revenue derived by the subsidiary from ineligible securities 
underwriting and dealing activities not exceed 10 percent of the total 
gross revenue of the subsidiary, when revenue is averaged over a 
rolling 8-quarter period.
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    \1\ E.g., Citicorp, 73 Federal Reserve Bulletin 473 (1987), 
aff'd, Securities Industry Ass'n v. Board of Governors, 839 F.2d 47 
(2d Cir.), cert. denied, 486 U.S. 1059 (1988).
    \2\ Section 20 provides that a member bank may not be affiliated 
with a company that is ``engaged principally'' in underwriting and 
dealing in securities. 12 U.S.C. 377. Section 20 does not prohibit a 
bank affiliate from underwriting and dealing in securities that 
banks may underwrite and deal in directly (eligible securities).
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    For purposes of computing the 10 percent revenue limit section 20 
subsidiaries currently report all interest earned on third-party 
ineligible debt securities held by the subsidiaries in an underwriting 
or dealing capacity as revenue derived from underwriting and dealing in 
securities.\3\ Questions have

[[Page 40643]]

been raised as to whether this treatment is appropriate for interest 
earned on debt securities that a member bank is authorized to hold. 
Under the Glass-Steagall Act, a member bank is expressly authorized to 
purchase and sell for its own account ``investment securities,'' which 
generally include investment grade corporate debt and certain municipal 
revenue securities.\4\ The Board is aware that pursuant to this 
authority many banks hold for their own account a significant amount of 
investment grade debt securities. In addition, many banks buy and sell 
these securities on a relatively frequent basis as part of managing 
their investment portfolio. In recognition of this activity, changes to 
accounting rules were made at the end of 1993 to establish separate 
accounting treatment for bank portfolio securities that are ``available 
for sale'' and not intended to be held to maturity.\5\
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    \3\ Instructions for Preparation of the Financial Statements for 
a Bank Holding Company Subsidiary Engaged in Bank-Ineligible 
Securities Underwriting and Dealing, Form FR Y-20. Schedule SUD-I, 
Line Item 5 (December 1994) (FR Y-20 Instructions). See also 
``Structuring Bank-Eligible and Bank-Ineligible Transactions'' in FR 
Y-20 Instructions.
    \4\ 12 U.S.C. 24 Seventh, 335; 12 CFR 1.3. Member banks may not 
purchase any non-investment grade debt securities or equity 
securities for their own account.
    \5\ Statement of Financial Accounting Standards No. 115.
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    In view of the above, the Board is proposing to clarify that 
interest earned on the types of debt securities that a member bank may 
hold for its own account is not treated as revenue from underwriting or 
dealing in ineligible securities for purposes of section 20. The Board 
believes a distinction can be made between the interest earned by a 
section 20 subsidiary from holding these kinds of securities and the 
profit made from underwriting or reselling them. The profit or loss a 
section 20 subsidiary earns on the resale of investment grade 
ineligible debt securities the subsidiary holds in inventory more 
closely approximates the revenue that should be attributed to 
performing the functions of dealing in or underwriting securities, the 
critical element of which is the actual offering and sale of the 
instruments involved.\6\
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    \6\ For purposes of the section 20 revenue limitation, the Board 
has viewed ``public sale'' to include the activity of dealing in 
securities--the process of buying and reselling to the public 
specific securities as part of an ongoing, regular business. E.g., 
Citicorp, supra, 73 Federal Reserve Bulletin at 506-08. The term 
``underwriting'' generally refers to the process by which new issues 
of securities are offered and sold to the public. E.g., Securities 
Industry Ass'n v. Board of Governors, 807 F.2d 1052, 1062-66 (D.C. 
Cir. 1986), cert. denied, 483 U.S. 1005 (1987).
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    On the other hand, the interest the subsidiary earns on investment 
grade ineligible debt securities while it holds them in inventory more 
closely represents the revenue that can be attributed to holding the 
securities as a member bank may do.\7\ Thus, the Board believes that it 
is reasonable to conclude that interest revenue derived from holding 
the kinds of debt securities a member bank may hold should not be 
treated as revenue from underwriting or dealing in securities. The 
proposed clarification would apply only to interest derived from those 
types of debt securities that a member bank may hold for its own 
account, but not underwrite or deal in.

    \7\ This distinction is further reflected in the current 
reporting requirements for section 20 subsidiaries and in Generally 
Accepted Accounting Principles for bank holding companies, which 
prescribe that interest revenue be reported separately from gains or 
losses on securities owned. FR Y-20 Instructions, Statement of 
Income, Schedule SUD-I, Line Items 2, 5); Securities and Exchange 
Commission FOCUS Report (Form X-17A-5 Part II) and instructions 
thereto. Generally Accepted Accounting Principles incorporate the 
format of the FOCUS Report.
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    By order of the Board of Governors of the Federal Reserve 
System, July 31, 1996.
William W. Wiles,
Secretary of the Board.
[FR Doc. 96-19865 Filed 8-2-96; 8:45am]
BILLING CODE 6210-01-P