[Federal Register Volume 61, Number 232 (Monday, December 2, 1996)]
[Rules and Regulations]
[Pages 63972-63986]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-30779]



[[Page 63971]]

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Part VI





Department of the Treasury





_______________________________________________________________________



Office of the Comptroller of the Currency



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12 CFR Parts 1 and 7



Investment Securities; Final Rule

  Federal Register / Vol. 61, No. 232 / Monday, December 2, 1996 / 
Rules and Regulations  

[[Page 63972]]



DEPARTMENT OF THE TREASURY

Office of the Comptroller of the Currency

12 CFR Parts 1 and 7

[Docket No. 96-26]
RIN 1557-AB37


Investment Securities

AGENCY: Office of the Comptroller of the Currency, Treasury.

ACTION: Final rule.

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SUMMARY: The Office of the Comptroller of the Currency (OCC) is 
clarifying and updating its rules that prescribe the standards under 
which national banks may purchase and sell, deal in, and underwrite 
securities. This final rule is another component of the OCC's 
Regulation Review Program, a project designed to review, modernize, and 
simplify OCC regulations and reduce unnecessary regulatory burdens on 
national banks. The final rule reorganizes the regulation by placing 
related subjects together, clarifies certain areas, and updates various 
provisions to address market developments and to incorporate 
significant OCC interpretations, judicial decisions, and statutory 
amendments.

EFFECTIVE DATE: December 31, 1996.

FOR FURTHER INFORMATION CONTACT: Lee Walzer, Senior Attorney, 
Securities and Corporate Practices Division, 202-874-5210; Kurt 
Wilhelm, Senior Investment Advisor, Capital Markets, 202-874-5070; 
Daniel L. Cooke, Attorney, and Stuart E. Feldstein, Assistant Director, 
Legislative and Regulatory Activities Division, 202-874-5090. Office of 
the Comptroller of the Currency, 250 E Street, S.W., Washington, DC 
20009.

SUPPLEMENTARY INFORMATION:

Background

    Part 1 has historically prescribed the limitations and restrictions 
on a national bank's purchase of investment securities for its own 
account. Part 1 also addresses a national bank's ability to purchase 
and sell, deal in, and underwrite certain investment securities. The 
part 1 limitations on these activities are based on the Banking Act of 
1933, section 16, Pub. L. 73-66, 48 Stat. 184 (codified as amended at 
12 U.S.C. 24(Seventh)), and vary according to the characteristics of 
the security.
    In the past, part 1 grouped the securities identified in 12 U.S.C. 
24(Seventh) into three categories, Types I, II, and III securities. 
More recently, the Secondary Mortgage Market Enhancement Act of 1984, 
(SMMEA) \1\ and the Riegle Community Development and Regulatory 
Improvement Act of 1994 (CDRI) \2\ amended 12 U.S.C. 24(Seventh) and 
removed quantitative limits on national banks'' purchases of certain 
types of mortgage- and small business-related securities, subject to 
regulations prescribed by the OCC.
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    \1\ Sec. 105(c), Pub. L. 98-440, Title I, 98 Stat. 1691 
(codified as amended at 12 U.S.C. 24(Seventh) (1984)).
    \2\ Pub. L. 103-325, 108 Stat. 2160 (1994).
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    On December 21, 1995, the OCC published a notice of proposed 
rulemaking (60 FR 66152) (proposal) to revise part 1 and implement the 
changes required by CDRI and SMMEA. The proposal sought to implement 
the goals of the OCC's Regulation Review Program by updating and 
streamlining the regulation and eliminating requirements that imposed 
inefficient and costly regulatory burdens on national banks. The 
proposal also sought to implement the amendments made by SMMEA and CDRI 
and to update various provisions to address market developments and to 
incorporate significant OCC interpretations and judicial decisions.
    In the proposal, the OCC added two new classifications of 
securities to characterize the changes made by SMMEA and CDRI and to 
reflect developments in national banks'' treatment of their assets. 
Specifically, the proposal added a new category of securities, Type IV 
securities, that are defined as certain types of asset-backed 
securities identified in SMMEA and CDRI, which are exempt from the 10 
percent investment limitation of 12 U.S.C. 24(Seventh). Type IV 
securities are: (1) residential and commercial mortgage-related 
securities offered and sold pursuant to section 4(5) of the Securities 
Act of 1933 (Securities Act), 15 U.S.C. 77d(5); (2) residential and 
commercial mortgage-related securities described in section 3(a)(41) of 
the Securities Exchange Act of 1934 (Exchange Act), 15 U.S.C. 
78c(a)(41); and (3) small business-related securities as defined in 
section 3(a)(53)(A) of the Exchange Act, 15 U.S.C. 78c(a)(53)(A).
    The proposal also added Type V securities, which are investment 
grade securities that are backed by pools of assets composed of 
obligations in which a national bank may invest directly.
    In addition to adding Type IV and Type V securities, the proposal 
refined the definitions and limitations imposed on the three existing 
types of securities. Finally, the proposal restructured part 1 to make 
it easier to read and apply.

Comments and OCC Action

    The OCC received 19 comment letters in response to the proposal. 
The commenters included eight trade associations, one professional 
association, six banks, two law firms, one private business, and one 
unaffiliated individual. The commenters generally supported the 
proposal but also recommended a number of specific modifications. Many 
of the commenters offered reasons why the OCC should remove or lessen 
structural limitations on investment in Type IV and Type V securities, 
particularly aspects of the proposed diversification requirements.
    In the final rule, the OCC has addressed many of the concerns of 
the commenters and, in particular, has concluded that some of the 
proposal's definitional restrictions on Type IV and Type V securities 
are not necessary.
    The final rule's structure is based on three core sections. Section 
1.2 defines the five types of securities as well as other significant 
terms such as ``investment grade,'' ``investment security,'' and 
``marketable.'' Section 1.3 prescribes limitations on dealing in, 
underwriting, purchasing, and selling each of the five types of 
securities defined in Sec. 1.2, investment company shares, and 
securities held based on estimates of an obligor's performance. Section 
1.3 prescribes special provisions on aggregation of securities with a 
common issuer and calculation of investment company holdings. Section 
1.4 prescribes how a national bank must calculate the limits imposed by 
Sec. 1.3.
    The final rule also makes minor clarifying and technical changes. 
The following section-by-section analysis discusses the comments and 
substantive changes made by the final rule:

Authority, Purpose, and Scope (Sec. 1.1)

    The proposal consolidated the former ``Scope and application'' 
section (Sec. 1.2) with the ``Authority'' section (Sec. 1.1). The 
proposal also clarified that the limitations set forth in part 1 apply 
to national banks, federal branches of foreign banks, District of 
Columbia banks, and state banks that are members of the Federal Reserve 
System.
    The OCC received no comments on this section, which is adopted as 
proposed with minor clarifying changes.

Definitions (Sec. 1.2)

    The proposal substantially revised the definitions section to add 
several new definitions and to update others. The proposal revised the 
definitions of Type I, II, and III securities to define the securities 
by their characteristics rather than by the statutory limitations on 
the

[[Page 63973]]

extent to which national banks may deal in, underwrite, purchase, or 
sell them. The proposal also defined two new types of securities, Type 
IV and Type V securities, and added a definition of ``investment 
company.''
    The final rule adds a new defined term, ``NRSRO.'' The final rule 
changes the paragraph letter designations for each definition 
accordingly. Of particular note, the final rule makes the following 
substantive changes:

Capital and Surplus (Sec. 1.2(a))

    The proposal defined ``capital and surplus'' as the sum of Tier 1 
and Tier 2 capital includable in risk-based capital under the Minimum 
Capital Ratios in 12 CFR part 3 appendix A, plus the balance of a 
bank's allowance for loan and lease losses that is not included in Tier 
2 capital.
    The OCC received three comments on this definition. The commenters 
noted that, because part 1 applies to state banks that are members of 
the Federal Reserve System, the OCC should adopt a definition of 
``capital and surplus'' that applies the Board of Governors of the 
Federal Reserve System's (FRB's) definition of ``capital and surplus'' 
to state member banks. The OCC agrees with these commenters and has, 
therefore, changed the final rule to incorporate technical changes and 
to provide that banks must use the appropriate Federal banking 
agencies'' guidelines defining ``capital and surplus.''

Investment Grade (Sec. 1.2(d))

    In many instances in the final rule, a security must be 
``investment grade'' to be a permissible investment for a national 
bank. The proposal defined a security as ``investment grade'' when each 
nationally recognized statistical rating organization (NRSRO) that has 
rated the security has given it a rating in one of the top four rating 
categories. Thus, for purposes of this definition, if a security were 
given different ratings by different NRSROs, the lowest rating would 
govern. For example, if two NRSROs rated a security in one of their top 
four categories, but a third NRSRO did not give the security a top four 
rating (a so-called ``split- rated'' security), the security would not 
qualify as ``investment grade.''
    The OCC received ten comments on this section. Seven commenters 
recommended that the OCC change the proposed definition to recognize a 
security as ``investment grade'' if only one NRSRO rates the security 
in one of the top four categories. These commenters asserted that 
otherwise any one NRSRO could render a particular security non-
investment grade and, therefore, not permissible for a national bank to 
purchase. One commenter recommended that, at a minimum, the OCC should 
deem a security ``investment grade'' if a majority of the NRSROs that 
rate the security rate it in one of the top four categories.
    The OCC agrees that giving a single NRSRO the ability to deem an 
investment impermissible for a national bank may be unnecessarily 
restrictive. Thus, the final rule defines the term ``investment grade'' 
to mean a security that receives a top four rating from either: (a) Two 
or more NRSROs; or (b) one NRSRO if the security has been rated by only 
one NRSRO. This approach assures that a security is sufficiently 
creditworthy while also allowing for some diversity in the evaluations 
produced by different NRSROs.
    Some commenters requested that the OCC exclude unsolicited ratings 
from the definition. Under the proposal, an unsolicited non-investment 
grade rating would have rendered the security an impermissible 
investment for a national bank. However, the final rule recognizes 
unsolicited ratings, but no longer will permit a single unsolicited 
rating to render a security automatically ineligible for national bank 
investment.

Investment Security (Sec. 1.2(e))

    The proposal defined ``investment security'' as a security that is: 
(1) An investment grade marketable debt obligation; or (2) the credit 
equivalent of an investment grade marketable debt obligation if the 
security is not rated. The OCC requested comment on whether to describe 
more specifically the characteristics of securities that are the credit 
equivalent of investment grade. The OCC also asked commenters to 
address whether other securities with characteristics functionally 
equivalent to a debt obligation might be classified as ``investment 
securities.''
    The OCC received four comments on this section. The commenters 
generally supported the definition of ``investment security.'' Most 
commenters felt that defining ``credit equivalency'' by identifying 
specific characteristics would sacrifice flexibility.
    The OCC agrees with the commenters and believes that to adopt 
specific identifiable characteristics of credit equivalency would 
unduly restrict flexibility in this area. Therefore, the OCC adopts the 
final rule as proposed.

Marketable (Sec. 1.2(f))

    At Sec. 1.5(a), the former rule defined a ``marketable'' security 
as one that may be sold with reasonable promptness at a price that 
corresponds reasonably to its fair value. The proposal replaced this 
definition with a more objective test that lists particular indicators 
of a ready market for a security. The proposal defined marketable as: 
(1) Securities registered under the Securities Act; (2) certain 
government securities exempt from Securities Act registration; (3) 
municipal revenue bonds exempt from Securities Act registration; and 
(4) securities that are investment grade and sold pursuant to 
Securities Exchange Commission (SEC) Rule 144A (17 CFR 230.144A), which 
exempts certain private resales of securities to institutional 
investors from Securities Act registration.
    The OCC requested comment on whether the proposed definition of 
``marketable'' is sufficiently inclusive, particularly regarding other 
exemptions under the Securities Act and whether the definition is 
appropriately inclusive of foreign sovereign debt. The OCC also asked 
commenters to suggest alternative definitions of marketable that would 
address the OCC's concerns about liquidity.
    The OCC received 12 comments on this issue. A majority of the 
commenters recommended that the OCC expand the proposed definition or 
retain the former definition of marketable. These commenters asserted 
that the proposed definition was too restrictive and did not include 
certain securities that are included within the definition in the 
former regulation. For example, the commenters noted that foreign 
sovereign debt, bank and savings and loan debt securities (which are 
exempt from registration under the Securities Act), and commercial 
paper were not identified in the proposed definition even though they 
may have been included within the former marketability test.
    The OCC did not intend to prescribe a marketability test that, 
through its objectivity, eliminates flexibility available under the 
former rule and unnecessarily excludes a broad range of securities. 
Therefore, the final rule retains the list of marketable securities 
contained in the proposal and adds to that list the definition of 
marketable contained in the former regulation, i.e., a security that 
may be sold with reasonable promptness at a price that corresponds 
reasonably to its fair value. Thus, certain foreign sovereign debt and 
other securities may qualify under the revised definition of 
marketable. This approach also provides additional flexibility for the 
OCC to review the permissibility of national bank investment in 
particular securities on a case-by-case basis.

[[Page 63974]]

    Several commenters also asked the OCC to remove the requirement 
that Securities Exchange Commission Rule 144A, 17 CFR 230.144A (Rule 
144A) securities be rated investment grade in order to fall within the 
definition of ``marketable.'' These commenters stated that many 
privately-placed securities are not rated. One commenter advocated that 
the OCC should not adopt the proposal, because Rule 144A provides no 
assurance of marketability.
    The OCC agrees that a Rule 144A security need not be rated 
investment grade to be marketable; but, if it is not rated investment 
grade, it must be the credit equivalent of investment grade. The final 
rule therefore does not adopt the proposed requirement that an NRSRO 
rate a Rule 144A security investment grade in order for the security to 
be marketable. Instead, consistent with other investment securities 
under this part, a Rule 144A security may qualify as investment grade, 
when not rated, and therefore qualify as marketable, if the bank 
determines that it is the credit equivalent of an investment grade 
security. The OCC expects that, as a matter of safe and sound banking 
practices, a bank will conduct a thorough analysis of a security's 
creditworthiness in order to satisfy itself that a particular security 
is the credit equivalent of investment grade.
    The OCC has also determined that proposed Sec. 1.2(f)(2) is 
unnecessary. That provision listed as one component of the definition 
of marketability each of the securities that is included in the 
definition of a Type I security. Because Type I securities are not 
required to satisfy a marketability test under section 24(Seventh), it 
is unnecessary for the rule to include these Type I securities in the 
definition of marketable. Therefore, the final rule is adopted without 
proposed Sec. 1.2(f)(2). The remainder of paragraph Sec. 1.2(f) is 
renumbered accordingly.

NRSRO (Sec. 1.2(g))

    The OCC did not use the term ``NRSRO'' in the proposal. In making 
changes to the final rule's definition of, and limitations on, Type IV 
securities, the OCC found that referring to nationally recognized 
statistical rating organizations (NRSROs) was the most direct and clear 
means of drafting the rule. The final rule, therefore, adds ``NRSRO'' 
as a defined term.
    The OCC has not listed the rating organizations that qualify as 
NRSROs in this definition. The OCC generally follows the assessment of 
the SEC in acknowledging the organizations that are currently NRSROs. 
The SEC recognizes NRSROs through no-action letters. The most recent 
SEC no action letter in which the SEC expressed no opposition to the 
recognition of an NRSRO is Thomson Bankwatch, Inc., SEC No-Action 
Letter, [1991 Transfer Binder] Fed. Sec. L. Rep. (CCH) paragraph 79,800 
(August 6, 1991). See also 59 FR 46314 (September 7, 1994) (publishing 
an SEC ``Concept release'' on NRSROs).3
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     3  Currently, the NRSROs recognized by the SEC are: Duff and 
Phelps, Inc.; Fitch Investors Service, Inc.; IBCA Limited (and its 
subsidiary, IBCA Inc.); Moody's Investors Services Incorporated; 
Standard and Poor's Corporation; and Thomson Bankwatch, Inc.
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    Several commenters suggested that the OCC recognize foreign rating 
organizations. The OCC finds that most significant foreign debt 
securities are rated by the NRSROs to which the SEC has expressed no 
objection and, at this time, sees no need to depart from the SEC's 
assessment of the rating organizations that are nationally recognized.

Type I Security (Sec. 1.2(i))

    The proposal used language similar to that in the former rule to 
define ``Type I security'' to mean any one of specified government 
securities. The former rule and the proposal also incorporated key 
elements of an OCC interpretation regarding securities backed by the 
full faith and credit of the U.S. Government.
    The OCC received four comments on this definition. Three commenters 
recommended that, consistent with 12 U.S.C. 24(Seventh), the OCC should 
add qualified Canadian government obligations to the definition of a 
Type I security. The OCC received one comment recommending that the OCC 
add the debt securities of certain developed foreign sovereigns to the 
list of Type I securities.
    In accordance with 12 U.S.C. 24(Seventh), the final rule adds 
qualified Canadian government obligations to the list of Type I 
securities. The OCC acknowledges that, in the future, other securities 
may fulfill the definitional requirements of a Type I security, and the 
OCC will review securities, as appropriate, to determine if they meet 
the statutory requirements.

Type II Security (Sec. 1.2(j))

    The proposal redefined a ``Type II security'' to mean an investment 
security that is issued by certain state, international, or 
multilateral organizations or that is otherwise listed or described in 
12 U.S.C. 24(Seventh). In contrast, the former rule defined a Type II 
security by identifying the investment limits that apply to it and by 
listing examples of qualifying types of issuers.
    The OCC received no comments on this definition, which is adopted 
as proposed. The OCC notes that the definition of Type II security also 
includes other securities that the OCC deems eligible as Type II 
securities in accordance with 12 U.S.C. 24(Seventh). This provision 
gives the OCC flexibility, consistent with the authorizing statute, to 
review securities that may fulfill the definitional requirements of a 
Type II security but are not listed in the definition.

Type III Security (Sec. 1.2(k))

    The former rule defined a Type III security as a security that a 
bank may purchase and sell for its own account, subject to the 10 
percent limitation in 12 U.S.C. 24(Seventh). The proposal redefined a 
Type III security as an investment security that does not qualify as a 
Type I, II, IV, or V security. The proposal listed corporate bonds and 
municipal revenue bonds as examples of Type III securities.
    The OCC requested comment on whether to reference specifically 
other examples of Type III securities in addition to corporate bonds 
and municipal revenue bonds. In particular, the OCC requested comment 
on whether to include as Type III securities foreign securities that 
are eligible for investment by foreign branches of U.S. banks.
    The OCC received seven comments on the definition of a Type III 
security. The majority of these commenters recommended that the OCC 
include in the list of examples that qualify as Type III securities 
foreign securities that are eligible for investment by foreign branches 
of national banks and mortgage backed securities (MBSs) that do not 
qualify as Type IV or Type V securities. One commenter also recommended 
that the OCC permit national banks to underwrite and deal in municipal 
revenue bonds.
    The OCC has determined that the proposed definition of a Type III 
security provides appropriate examples of the scope of qualifying Type 
III securities. While certain mortgage backed securities and foreign 
securities eligible for investment by foreign branches of national 
banks will qualify as investment securities and are, therefore, Type 
III securities, others may not. The OCC has not concluded that all 
foreign securities eligible for investment by foreign branches of 
national banks qualify as a Type III investment security. Nor does the 
OCC want to imply that banks are precluded from purchasing other 
classes of securities,

[[Page 63975]]

which may meet the definition of ``investment security'' but are not 
specifically listed as a Type III security. This may be the case if, 
for example, the OCC were to add further to the list of examples, 
thereby appearing to create an exhaustive list of Type III securities. 
The OCC does not intend to create an exclusive list of Type III 
securities.

Type IV Security (Sec. 1.2(l))

    The proposal added a new category of securities, Type IV 
securities, which SMMEA and CDRI made eligible for purchase by national 
banks in unlimited amounts. In 1984, the SMMEA amended 12 U.S.C. 
24(Seventh) to permit national banks to purchase residential and 
commercial mortgage-related securities offered and sold pursuant to 
section 4(5) of the Securities Act of 1933 Act (Securities Act), 15 
U.S.C. 77d(5), or residential mortgage-related securities as defined in 
section 3(a)(41) of the Exchange Act, 15 U.S.C. 78c(a)(41). The final 
rule incorporates the SMMEA amendments.
    CDRI defined a new type of small business-related security in 
section 3(a)(53)(A) of the Exchange Act, 15 U.S.C. 78c(a)(53)(A), and 
added a class of commercial mortgage-related securities to section 
3(a)(41) of the Exchange Act, 15 U.S.C. 78c(a)(41). CDRI's amendments 
to 12 U.S.C. 24(Seventh) removed limitations on purchases by national 
banks of certain small business-related and commercial mortgage-related 
securities. However, CDRI requires that certain residential and 
commercial mortgage-related securities must receive a rating from an 
NRSRO in one of the top two rating categories. Small business-related 
securities must receive a rating in one of the top four rating 
categories.
    CDRI also authorized the OCC to prescribe regulations to ensure 
that acquisitions of statutorily defined residential and commercial 
mortgage-related securities and small business-related securities are 
conducted in a manner consistent with safe and sound banking practices. 
In its proposed definition of a Type IV security, the OCC sought to 
guard against undue concentration of risk that could arise were a bank 
to invest in a security backed by a small number of loans or if a small 
number of loans represents a large percentage of the assets in the 
pool. Therefore, the proposal required Type IV securities that are 
small business- or commercial mortgage-related securities to be fully 
secured by interests in a pool of homogeneous loans of numerous 
obligors.
    To assure diversification, the proposal also provided that, for 
small business-related securities and commercial mortgage-related 
securities, the aggregate amount of collateral from loans of any one 
obligor could not exceed 5 percent of the total amount of the loans in 
the pool collateralizing the security (the ``5 percent collateral 
concentration limit'').
    The OCC requested specific comment on whether to define the term 
``homogeneous loans'' and whether the 5 percent collateral 
concentration limit was appropriate to assure adequate diversification 
of the collateral.
    The OCC received 17 comments on the proposed definition of a Type 
IV security, particularly on the 5 percent collateral concentration 
limit and the homogeneity and numerous obligor requirements. Most 
commenters opposed the ``homogenous,'' ``numerous,'' and 5 percent 
collateral concentration restrictions, stating that they were 
impractical. Commenters opposing both the ``homogeneous'' and 
``numerous obligor'' requirements asserted that those terms are vague 
and difficult to apply because they are not defined. In particular, the 
commenters asserted that the homogeneity requirement conflicts with the 
diversification objective of pooling commercial loans. These commenters 
stated that commercial loans, by their nature, are seldom homogeneous.
    Most commenters also recommended that the OCC eliminate the 5 
percent collateral concentration limit on loans of any one obligor in 
Type IV security loan pools. The commenters emphasized that the plain 
language of CDRI permits unlimited investment in commercial mortgage-
related and small business-related securities. These commenters 
asserted that NRSROs consider concentration risk when they rate a 
particular security, thereby making the 5 percent collateral 
concentration limit unnecessary. They also asserted that the limit 
fails to consider compensating factors such as credit enhancements, 
stable cash flow, prime location of mortgage properties, construction 
quality of mortgaged property, and barriers to competition, which are 
all considered by rating agencies.
    The commenters also cited the following reasons for their 
opposition to the 5 percent collateral concentration limit: (1) The 5 
percent collateral concentration limit mistakenly focuses solely on the 
obligor, does not focus on the collateral for the security, and 
therefore fails to ensure diversification of collateral. A collateral 
pool that satisfies the 5 percent collateral concentration limit will 
not necessarily contain diverse collateral; however, a single borrower/
obligor can produce a commercial mortgage-backed security pool that has 
diverse collateral. (2) The majority of commercial mortgage loans are 
nonrecourse to the borrower and, therefore, borrower diversity is less 
relevant than tenant creditworthiness. (3) The 5 percent collateral 
concentration limit will be unnecessarily burdensome and costly 
relative to any benefits it provides because it will require a 
transaction-by-transaction analysis and the production and maintenance 
of voluminous reports regarding the make-up of each commercial 
mortgage-related security pool.
    Some commenters recommended raising the 5 percent collateral 
concentration limit to a 20 percent limit. One commenter recommended 
that the OCC use existing authority to assess a risk-based capital 
surcharge when holdings of a Type IV security exceed the aggregate 
amount of the appropriate percentage of capital and surplus.
    The OCC agrees with many of the reasons cited by the commenters and 
has not adopted the homogeneity and 5 percent collateral concentration 
limit. In particular, the OCC believes that the statutory requirements 
for residential and commercial mortgage-related securities defined in 
3(a)(41) of the Securities Exchange Act of 1934, 15 U.S.C. 78c(a)(41), 
to have an NRSRO rating in one of the top two categories and for small 
business-related securities to receive a rating in one of the top four 
rating categories provide sufficient safeguards against investment 
risks. NRSRO ratings reduce the risk of investment posed to banks 
because of the NRSROs' resources and ability to analyze such factors as 
cash flow treatments, credit facilities, and collateral 
diversification. To ensure that banks do not purchase, in unlimited 
amounts, commercial and residential mortgage-related securities that 
are offered or sold pursuant to section 4(5) of the Securities Act of 
1933, 15 U.S.C. 77d(5), that are predominantly speculative in nature, 
the final rule requires that these securities at least be investment 
grade.
    In addition, the final retains the requirement that the securities 
be composed of interests in a pool of loans to ``numerous'' obligors. 
The OCC believes that this requirement reflects an essential 
diversified risk characteristic of a mortgage-related or small 
business- related security and does not unduly limit a national bank's 
ability to invest in these asset-backed securities.

[[Page 63976]]

Type V Security (Sec. 1.2(m))

    The proposal created a new category of securities, Type V, that are 
investment grade securities composed of loans in which a bank may 
invest directly. This definition reflected the OCC's long-standing 
interpretations that, in addition to the investments described in 12 
U.S.C. 24(Seventh), a national bank may hold securitized forms of 
assets in which it may invest directly.4
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    \4\ Securities Industry Ass'n v. Clarke, 885 F.2d 1034 (2d Cir. 
1989), cert. denied, 493 U.S. 1070 (1990) (national bank authority 
to securitize assets); Interpretive Letter No. 540 (December 12, 
1990), reprinted in [1990-1991 Transfer Binder] Fed. Banking L. Rep. 
(CCH) para. 83,252 (securitized credit card receivables); 
Interpretive Letter No. 514 (May 5, 1990), reprinted in [1990-1991 
Transfer Binder] Fed. Banking L. Rep. (CCH) para. 83,218 
(securitized mortgages); Investment Securities Letter No. 29 (August 
3, 1988), reprinted in [1988-1989 Transfer Binder] Fed. Banking L. 
Rep. (CCH) para. 85,899 (investment limits for asset-backed 
securities consisting of GMAC receivables); Interpretive Letter No. 
416 (February 16, 1988), reprinted in [1988-1989 Transfer Binder] 
Fed. Banking L. Rep. (CCH) para. 85,640 (securitized automobile 
loans); No Objection Letter No. 87-9 (December 16, 1987), reprinted 
in [1988-1989 Transfer Binder] Fed. Banking L. Rep. (CCH) para. 
84,038 (securitization of commercial loans originated by the bank); 
Interpretive Letter No. 388 (June 16, 1987), reprinted in [1988-1989 
Transfer Binder] Fed. Banking L. Rep. (CCH) para. 85,612 (mortgage-
backed pass-through certificates); Interpretive Letter No. 362 (May 
22, 1986), reprinted in [1985-1987 Transfer Binder] Fed. Banking L. 
Rep. (CCH) para. 85,532 (bonds collateralized by mortgages).
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    Under the proposal, the definition of a Type V security included 
the same limitations that were included in the definition of a Type IV 
security (i.e., ``homogeneous loans'' from ``numerous obligors'' with 
the obligations of any one obligor composing no more than 5 percent of 
the pool). In order to assure the high quality of this type of asset-
backed security, the proposal also required that a Type V security be 
rated investment grade.
    The commenters recommended that the OCC eliminate these 
requirements, citing many of the same reasons stated in their comments 
on the definition of a Type IV security. For the same reasons discussed 
in relation to Type IV securities previously, the OCC agrees with the 
commenters. Thus, the final rule does not include the proposed 
``homogeneity'' and 5 percent collateral concentration limits but does 
retain the requirement that the securities be composed of a pool of 
loans to ``numerous'' obligors.
    In addition, in order to ensure safe and sound investment in these 
securities, the final rule requires a Type V security to be 
``marketable'' as defined in Sec. 1.2(f). The marketability requirement 
is in addition to the investment grade requirement for a Type V 
security and further ensures that national banks do not acquire asset-
backed securities that have speculative characteristics.

Limitations on Dealing in, Underwriting, and Purchasing and Selling 
Securities (Sec. 1.3)

    The proposal consolidated the part 1 provisions that limit dealing 
in, underwriting, purchasing, and selling different types of 
securities. The proposal limited ``the aggregate par value of the 
obligations of any one obligor'' of a Type II, III, or V security that 
a bank may hold to a specific percentage limit. For example, the 
proposal restricted the aggregate par value of the obligations of any 
one Type II obligor held by the bank to no more than 10 percent of the 
bank's capital and surplus. The proposal also imposed a 10 percent 
limit on Type III securities and a 15 percent limit on Type V 
securities.
    The OCC requested specific comment on whether using the aggregate 
par value of obligations of any one obligor is an appropriate measure 
of value.
    Four commenters recommended that the OCC replace ``par value'' with 
``market value,'' asserting that par value does not account for 
obligations acquired either at a discount or premium.
    The OCC has determined, however, that par value is the practical 
and objective gauge by which to measure value in this context, and the 
final rule therefore uses par value.
    Some commenters also recommended that the OCC permit banks to use a 
netting approach in calculating limitations by which a bank could 
reduce its ownership exposure (long position) in a security by taking a 
short position in that same security. The commenters suggested that the 
OCC authorize banks to net their long and short positions in a security 
because the investment limitations in part 1 apply not only to amounts 
held by a bank but also to obligations that a bank is ``legally 
committed to purchase and sell.'' These commenters assert that banks 
should be able to exclude from their investment limit calculations any 
securities for which there is both a commitment by a bank to sell and 
by a third party to buy.
    The OCC agrees that a netting of long and short position in a 
particular security may be appropriate for purposes of calculations 
under part 1, and the language of the final rule, noted above, will 
accommodate this approach. However, the OCC's responses on this issue 
are likely to be more detailed than is appropriate for a regulation, 
and will be based on the transaction at issue. Therefore, specific 
issues on this point will be addressed by the OCC on a case-by-case 
basis.
    The final rule also makes several minor clarifying changes to 
Sec. 1.3.

Type II and III Securities; Other Investment Securities Limitations 
(Sec. 1.3(d))

    The proposal provided that a national bank may not hold Type II and 
Type III securities of any one obligor that have a combined aggregate 
par value exceeding 10 percent of the bank's capital and surplus. 
However, the proposal did not require aggregation with respect to 
industrial development bonds. Instead, the proposal applied the 10 
percent limitation separately to each security issue of a single 
obligor when the proceeds of that issuance are to be used to acquire 
and lease real estate and related facilities to economically and 
legally separate industrial tenants, and the issuance is payable solely 
from and secured by a first lien on the revenues to be derived from 
rentals paid by the lessee under net noncancellable leases.
    The OCC received no comments on this section, which is adopted as 
proposed.

Type IV Securities (Sec. 1.3(e))

    The proposal provided that national banks could purchase, without 
limitation, securities that meet the definition of a Type IV security. 
This proposal relied on the authority granted to national banks by 
SMMEA and CDRI to purchase and sell certain mortgage- and small 
business-related securities in unlimited amounts.
    The proposal also incorporated OCC interpretations concerning the 
authority of a national bank to deal in obligations that are fully 
secured by Type I securities.5 These interpretations reflect the 
OCC's consistent approach of looking to the underlying substance of an 
instrument to determine whether a bank may deal in, underwrite, 
purchase, or sell the instrument. In the case of a Type IV security 
that is fully secured by Type I securities, the ultimate source of 
repayment is Type I securities. The proposal did not limit the 
categories of Type IV securities in which banks may deal, if the 
securities are fully collateralized by Type I securities. Thus, under 
the proposal, a bank's authority to deal in these securities would be 
determined with reference to the standards that apply to Type I 
securities. (The ability of a bank to

[[Page 63977]]

securitize and sell loans and other obligations it holds, including 
loans that qualify as collateral for Type IV securities, is addressed 
in Sec. 1.3(g).)
---------------------------------------------------------------------------

    \5\ See Interpretive Letter No. 514 (May 5, 1990), reprinted in 
[1990-1991 Transfer Binder] Fed. Banking L. Rep. (CCH) para. 83,218; 
Interpretive Letter No. 362 (May 22, 1986), reprinted in [1985-1987 
Transfer Binder] Fed. Banking L. Rep. (CCH) para. 85,532.
---------------------------------------------------------------------------

    Congress made clear that it intended the OCC and other bank 
regulatory agencies to have authority to limit or restrict bank 
purchases of securities in order to ensure the safety and soundness of 
insured depository institutions. See H.R. Conf. Rep. No. 652, 103rd 
Cong., 2nd Sess. sec. 347, at 184 (1994). The OCC believes that it can 
ensure safe and sound investments involving purchases of small 
business-related securities, as defined in section 3(a)(53)(A) of the 
Exchange Act, 15 U.S.C. 78c(a)(53)(A), if the OCC permits purchases in 
unlimited amounts only if the small business-related securities are 
rated in one of the top two rating categories by an NRSRO. In addition, 
however, the final rule permits a national bank to purchase small 
business-related securities that an NRSRO has rated in the top third or 
fourth rating category, provided the bank may not hold small business-
related securities from a single issuer if the aggregate par value of 
the security exceeds 25 percent of the bank's capital and surplus. The 
OCC has imposed this 25 percent limit as a safety and soundness-based 
prudential limit.

Type V Securities (Sec. 1.3(f))

    The proposal limited a national bank's holding of Type V securities 
from any one obligor (or certain related issuers) to 15 percent of the 
bank's capital and surplus. The OCC requested specific comment on 
whether a higher limit, such as 25 percent, would be sufficient to 
prevent excess concentration.
    Four commenters questioned whether the OCC intended the term 
``obligor,'' in this context, to mean the underlying borrowers whose 
notes comprise a security. The OCC did not intend that result. The 15 
percent limit applied to the entity that was issuer of the security, 
not to each obligor on the loans that back a particular security. The 
final rule clarifies this point by substituting the word ``issuer'' for 
``obligor.''
    One of these commenters noted that the OCC used the terms obligor 
and issuer interchangeably in other sections of the rule and 
recommended that the OCC clarify the terms. To address this concern, 
the text of the final rule has been revised to use the two terms in a 
more precise fashion and rephrase certain sections to enhance clarity.
    Many commenters recommended that the OCC raise the capital 
limitation for Type V securities from 15 percent to 25 percent. These 
commenters asserted that Type V securities are analogous to secured 
loans and therefore should be eligible for the 25 percent limit of 12 
U.S.C. 84.
    The OCC has carefully considered these comments, and the final rule 
replaces the proposed 15 percent limitation with a 25 percent of 
capital limitation. The OCC believes the 25 percent of capital limit is 
a prudential limit that provides sufficient protection against undue 
risk concentrations. This limit parallels the 25 percent credit 
concentration benchmark in the Comptroller's Handbook for National Bank 
Examiners. The Handbook identifies credit concentrations in excess of 
25 percent of a bank's capital as raising potential safety and 
soundness concerns. For this purpose, the Handbook guidance aggregates 
direct and indirect obligations of an obligor or issuer and also 
specifically contemplates application of the 25 percent benchmark to 
concentrations that may result from an acquisition of a volume of loans 
from a single source, regardless of the diversity of the individual 
borrowers. See Comptroller's Handbook Sec. 215. Accordingly, national 
banks are urged to monitor carefully their aggregate credit exposure to 
any single obligor or issuer in order to avoid imprudent concentrations 
of credit.
    This provision is otherwise adopted as proposed.

Securitization (Sec. 1.3(g))

    The proposal added this section to incorporate the OCC's long-
standing position that a national bank may securitize and sell loan 
assets that it holds. The ability of a bank to sell loans and other 
obligations through the issuance and sale of certificates evidencing 
interests in pools of the assets provides flexibility that can enhance 
bank safety and soundness.6 The provision is adopted substantially 
as proposed and reflects the OCC's long-standing treatment of national 
banks' securitization activities as affirmed by case law.7 
National banks engaging in securitization activities should consult OCC 
Bulletin 96-52 (September 25, 1996), which provides guidelines for 
national banks on their securitization activities.
---------------------------------------------------------------------------

    \6\ See, e.g., Remarks by Alan Greenspan, Chairman, Board of 
Governors of the Federal Reserve System before the American Bankers 
Association (October 8, 1994). See also Statement by Donald G. 
Coonley, Chief National Bank Examiner, OCC, Asset Securitization and 
Secondary Markets: Hearings Before the Subcomm. on Policy, Research, 
and Insurance of the Comm. on Banking, Finance and Urban Affairs, 
102d Cong., 1st Sess. 2-4 (1991), reprinted in OCC Quarterly Journal 
(December 1991); and Joint Statement by Richard Spillenkothen, 
Director, Division of Banking Supervision and Regulation, Board of 
Governors of the Federal Reserve System, and Donald H. Wilson, 
Financial Markets Officer, Federal Reserve Bank of Chicago, 
Secondary Market for Commercial Real Estate Loans: Hearings Before 
the Subcomm. on Policy, Research, and Insurance of the Comm. on 
Banking, Finance and Urban Affairs, 102d Cong., 2d Sess. 16-19 
(1992), reprinted in 78 Fed. Res. Bull. 492 (1992).
    \7\ See, e.g., Interpretive Letter No. 585 (June 8, 1992), 
reprinted in [1992-1993 Transfer Binder] Fed. Banking L. Rep. (CCH) 
para. 83,406 (securitized motor vehicle retail installment sales 
contracts purchased from automobile dealers); Interpretive Letter 
No. 540 (December 12, 1990), reprinted in [1990-1991 Transfer 
Binder] Fed. Banking L. Rep. (CCH) para. 83,252 (securitized credit 
card receivables originated by bank or purchased from others); 
Interpretive Letter No. 514 (May 5, 1990), reprinted in [1990-1991 
Transfer Binder] Fed. Banking L. Rep. (CCH) para. 83,218 
(securitized mortgages); Interpretive Letter No. 416 (February 16, 
1988), reprinted in [1988-1989 Transfer Binder] Fed. Banking L. Rep. 
(CCH) para. 85,640 (securitized automobile loans); Interpretive 
Letter No. 388 (June 16, 1987), reprinted in [1988-1989 Transfer 
Binder] Fed. Banking L. Rep. (CCH) para. 85,612 (sale of mortgage-
backed pass-through certificates); No Objection Letter No. 87-9 
(December 16, 1987), reprinted in [1988-1989 Transfer Binder] Fed. 
Banking L. Rep. (CCH) para. 84,038 (securitization of commercial 
loans originated by the bank); Interpretive Letter No. 362 (May 22, 
1986), reprinted in [1985-1987 Transfer Binder] Fed. Banking L. Rep. 
(CCH) para. 85,532 (sales of bonds collateralized by mortgages). 
Regarding sales of participations in pools of loans, see Letter from 
Billy C. Wood, Deputy Comptroller, Multinational Banking (May 29, 
1981), reprinted in [1981-82 Transfer Binder] Fed. Banking L. Rep. 
(CCH) para. 85,275; Letter from Paul M. Homan, Senior Deputy 
Comptroller for Bank Supervision (February 1, 1980), reprinted in 
[1981-82 Transfer Binder] Fed. Banking L. Rep. (CCH) para. 85,213; 
Letter from John M. Miller, Deputy Chief Counsel (July 31, 1979), 
reprinted in [1978-79 Transfer Binder] Fed. Banking L. Rep. (CCH) 
para. 85,182; Letter from Paul M. Homan, Senior Deputy Comptroller 
for Bank Supervision (April 20, 1979), reprinted in [1978-79 
Transfer Binder] Fed. Banking L. Rep. (CCH) para. 85,167; Letter 
from H. Joe Selby, Deputy Comptroller for Operations (October 17, 
1978), reprinted in [1978-79 Transfer Binder] Fed. Banking L. Rep. 
(CCH) para. 85,144; Letter from John G. Heimann, Comptroller of the 
Currency (May 18, 1978), reprinted in [1978-79 Transfer Binder] Fed. 
Banking L. Rep. (CCH) para. 85,116; Letter from Charles B. Hall, 
Deputy Comptroller for Banking Operations (February 14, 1978), 
reprinted in [1978-79 Transfer Binder] Fed. Banking L. Rep. (CCH) 
para. 85,100; Letter from Robert Bloom, Acting Comptroller of the 
Currency (March 30, 1977), reprinted in [1973-78 Transfer Binder] 
Fed. Banking L. Rep. (CCH) para. 97,093. Regarding national bank 
authority to securitize assets, see Security Pacific v. Clarke, 885 
F.2d 1034 (2d Cir. 1989), cert. denied, 493 U.S. 1070 (1990).
---------------------------------------------------------------------------

Investment Company Shares (Sec. 1.3(h))

    The proposal incorporated OCC interpretations concerning the 
authority of a national bank to hold instruments representing indirect 
interests in assets in which the bank could invest directly.8 
Former part 1 did not address a national bank's investment in an 
investment company. The proposal permitted a national bank to purchase 
and sell for its own account shares of a

[[Page 63978]]

registered investment company, subject to two requirements: First, the 
investment company's portfolio must be composed entirely of assets in 
which the bank could invest directly. Second, the amount of the bank's 
investment in shares of any one investment company is subject to the 
most stringent investment limitations applicable to the underlying 
securities and loans that compose that investment company's portfolio.
---------------------------------------------------------------------------

    \8\ Banking Circular 220 (November 21, 1986); An Examiner's 
Guide to Investment Products and Practices at 23 (December 1992).
---------------------------------------------------------------------------

    The proposal permitted banks to purchase shares in investment 
companies, including mutual funds, that are registered under section 8 
of the Investment Company Act of 1940 ('40 Act), 15 U.S.C. 80a-8. See 
Sec. 1.2(c) (defining ``investment company''). The OCC requested 
comment on whether the OCC should permit banks to purchase shares of 
limited partnerships with fewer than 100 investors, i.e., a partnership 
that would not qualify as an investment company within the meaning of 
section 3(c)(1) of the '40 Act, if the partnerships' portfolios consist 
solely of Type I securities that the bank may purchase and sell for its 
own account. The '40 Act's definition of ``investment company'' 
excludes issuers whose outstanding securities are beneficially owned by 
100 or fewer persons and who are not making, or do not presently 
propose to make, a public offering of their securities.
    Several commenters recommended that the OCC permit banks to 
purchase shares in entities with 100 or fewer investors, although these 
entities would not be subject to '40 Act regulation. The commenters 
asserted that so long as the pass-through entity allows a bank to 
invest solely in investments that the bank could purchase directly for 
its own account, the number of investors should not matter.
    One commenter opposed expanding the proposed definition asserting 
that the '40 Act establishes a regulatory framework for investment 
companies that addresses the unique risks posed by pooled investment 
vehicles. The commenter asserted that to allow national banks to invest 
in entities not subject to the '40 Act, for their own accounts, could 
leave bank capital open to substantial risk.
    The OCC agrees with this commenter that the absence of a regulatory 
scheme, such as the '40 Act, could pose additional risk for national 
banks. Therefore, the final rule adopts the definition of ``investment 
company'' as proposed in Sec. 1.2(c). Further, the final rule does not 
expressly permit banks to purchase shares from entities with 100 or 
fewer investors that are exempt from '40 Act registration.
    However, the OCC recognizes that there may be circumstances in 
which a bank's purchase of interests in a certain exempt investment 
fund would be acceptable. Therefore, the final rule provides that, on a 
case-by-case basis, the OCC may determine that interests in other 
entities, the portfolios of which consist exclusively of investments 
eligible for national banks to hold directly, also are permissible for 
national banks.
    The final rule also relocates the provision that limited the amount 
of the bank's investment in shares of any one investment company to the 
most stringent investment limitations applicable to the underlying 
securities that compose that investment company's portfolio. The OCC 
has determined that, for clarity, this limitation belongs in Sec. 1.4, 
which governs the calculation of limits. As discussed later, the final 
rule also changes this limitation.

Securities Held Based on Estimates of Obligor's Performance 
(Sec. 1.3(i))

    The proposal retained the flexibility contained in the former rule 
that permitted a bank, notwithstanding the general definition of an 
investment security in Sec. 1.2(e), to treat certain debt securities, 
(such as pools of mortgage or business loans in moderate and low- 
income areas or community development loans), as investment securities 
when the bank concludes, on the basis of estimates that the bank 
reasonably believes are reliable, that the obligor will be able to meet 
its obligations under that security.
    The OCC requested comment on whether it should provide further 
clarification of the standards applicable to securities held based on 
estimates of obligor's performance and, if so, what clarification is 
needed.
    The majority of the commenters on this section asserted that it 
would not be helpful for the OCC to provide further clarification of 
the standards applicable to securities held based on estimates of an 
obligor's performance. Therefore, the OCC adopts the final rule as 
proposed.

Calculation of Limits (Sec. 1.4)

    The proposal added a section that consolidated the calculation of 
limits requirements of part 1.
    Proposed paragraphs (a) and (b) Sec. 1.4 prescribed the dates for 
calculating capital and surplus and stated the OCC's authority to 
require more frequent calculations. The proposal required a bank to 
calculate its investment limitations as of the most recent of: (1) The 
date on which the bank's Consolidated Report of Condition and Income 
(call report) is properly signed and submitted; (2) the date on which 
the bank's call report is required to be submitted; or (3) the date on 
which there is a change in the bank's capital category for purposes of 
12 U.S.C. 1831o and 12 CFR 6.3.
    The OCC received no significant comments on these paragraphs. The 
final rule makes the following changes to the proposal to conform to 
the OCC's recently proposed changes to its lending limit regulation, 12 
CFR part 32. See 61 FR 37227 (July 17, 1996). The final rule requires a 
bank to determine its investment limitations as of the most recent of: 
(1) The last day of the preceding calendar quarter; or (2) the date on 
which there is a change in the bank's capital category for purposes of 
12 U.S.C. 1831o and 12 CFR 6.3.
    The final rule prescribes an effective date for a bank's investment 
limit. The final rule provides that an investment limit that is 
calculated as of the last day of the preceding calendar quarter becomes 
effective on the earlier of the date on which the bank's call report is 
submitted or the date on which the bank's call report is required to be 
submitted. An investment limit calculated as of the date on which there 
is a change in the bank's capital category becomes effective on that 
day.
    The effective date requirements are added in a new paragraph 
Sec. 1.4(b). The final rule moves proposed paragraph Sec. 1.4(b), which 
stated the OCC's authority to require more frequent calculations, to 
Sec. 1.4(c), to accommodate the insertion of new paragraph Sec. 1.4(b) 
and otherwise adopts that paragraph Sec. 1.4(c) as it was proposed.

Calculation of Type III and Type V Securities Holdings (Sec. 1.4(d))

    Proposed Sec. 1.4(c) limited a national bank's holdings of Type III 
investment securities of any one issuer/obligor (or certain related 
issuer/obligors) to 10 percent of the bank's capital and surplus. The 
proposal limited a national bank's holdings of Type V securities of any 
one issuer/obligor to 15 percent of the bank's capital and surplus. In 
calculating these capital limits, the proposal required a bank to 
combine: (1) Obligations of issuer/obligors that are related directly 
or indirectly through common control; and (2) securities of issuer/
obligors that are credit-enhanced by the same entity.
    The OCC requested comment on other bases upon which a bank should 
combine its holdings when calculating its investment in Type III or 
Type V securities of any one issuer/obligor. Specifically, the OCC 
asked whether a bank should combine obligations that

[[Page 63979]]

are predominately collateralized by loans made by the same originator 
or by originators that are related directly or indirectly through 
common control. In addition, commenters were asked to address whether 
and under what circumstances an issuer or affiliate of the issuer would 
provide a guarantee or other form of credit enhancement for Type V 
securities that could be a source of credit exposure of the investing 
bank to the issuer or its affiliate. Comment was also invited on 
whether the 15 percent investment limitation or a lower limitation is 
appropriate under these circumstances.
    Five commenters stated that the OCC should not require banks to 
combine obligations of issuer/obligors of Type V securities that are 
related through common control. These commenters asserted that the risk 
assessment for the securities is based on the creditworthiness of the 
underlying borrowers whose loans collateralize the issuance, and on the 
credit enhancement rather than on the creditworthiness of the Type V 
issuer/obligor. They stated that, if the parent company provides no 
guarantee, there is no common source of risk and that applying a 
limitation on common sources of credit enhancement is sufficient to 
safeguard against risk concentrations. Similarly, a few commenters also 
recommended that the OCC remove the requirement to aggregate holdings 
of entities under direct or indirect common control for Type III 
securities. They asserted that the requirement would be unduly 
burdensome for banks.
    The OCC continues to believe that combining obligations of issuer/
obligors that are related through common control represents a prudent 
supervisory response, given the effect of common control on 
underwriting standards and servicing effectiveness, and especially in 
light of other burden reducing changes the OCC has made to the final 
rule. Thus, the final rule retains the requirement that banks aggregate 
issuer/obligors of Type III and Type V securities, respectively, that 
are under common ownership or control.
    The comments demonstrate that the proposal left unclear whether it 
required banks to aggregate Type III and Type V securities issued by 
the same issuer/obligor. The final rule adds a new provision to clarify 
that the aggregation requirement applies separately to Type III and 
Type V securities. The OCC emphasizes, however, that the Comptroller's 
Handbook for National Bank Examiners identifies credit concentrations 
in excess of 25 percent of a bank's capital as raising potential safety 
and soundness concerns. For this purpose, the Handbook guidance does 
aggregate direct and indirect obligations of an issuer/obligor. Thus, 
if a bank's aggregate holdings of Type III and Type V securities issued 
by the same issuer/obligor exceed 25 percent of the bank's capital, the 
bank, as a matter of safety and soundness, should have carefully 
considered whether, and be able to demonstrate why, the characteristics 
of the Type III and Type V securities it holds do not entail an undue 
concentration.9
---------------------------------------------------------------------------

    \9\ Similarly, a bank may acquire debt obligations of an issuer/
obligor pursuant to the bank's authority to make loans, (provided 
appropriate underwriting standards are met) rather than under its 
authority to hold investment securities. See OCC Interpretive Letter 
No. 663, reprinted in [1994-1995 Transfer Binder] Fed. Banking L. 
Rep. (CCH) para. 83,611 (June 8, 1995); OCC Interpretive Letter No. 
600, reprinted in [1992-1993 Transfer Binder] Fed. Banking L. Rep. 
(CCH) para. 83,427 (July 31, 1992); OCC Banking Circular 181 (Rev) 
(Purchase of loans in whole or in part-participations) (August 2, 
1984). In such a case, the holding would be permissible under a 
separate authority of the bank, but the credit concentration 
standards described in the Comptroller's Handbook would still be 
applicable and could curtail the amount of the bank's holdings under 
the two different sources of authority.
---------------------------------------------------------------------------

    As noted in the earlier discussion of Sec. 1.3(f), the final rule 
changes the Type V limitation from 15 percent to 25 percent of capital 
and surplus. The final rule also changes proposed paragraph Sec. 1.3(c) 
to paragraph Sec. 1.3(d) to accommodate the insertion of new paragraph 
Sec. 1.3(b).

Calculation of Investment Company Holdings (Sec. 1.4(e))

    In Sec. 1.4(d), the proposal required a bank to use reasonable 
efforts to calculate and combine its pro rata share of a particular 
security in the portfolio of each investment company with the bank's 
direct holdings of securities of that issuer. In Sec. 1.3(h), the 
proposal required the bank to apply the most stringent investment limit 
that would apply to the underlying securities in the investment 
company's portfolio.
    For example, if the investment company holds a Type III security, 
the proposal limited the bank's holdings of shares of that investment 
company to 10 percent of the bank's capital and surplus. The proposal 
would thereby have codified Banking Circular 220 (BC 220) (Nov. 21, 
1986), which authorizes national banks to purchase the shares of 
investment companies whose portfolios are comprised entirely of bank-
eligible securities.
    One commenter asserted that application of the most restrictive 
limit at the investment company level unnecessarily constrains a 
national bank's ability to buy investment company shares, especially 
when the company's portfolio contains only a proportionately small 
amount of securities subject to an investment limit. As the commenter 
noted, the treatment prescribed by the proposal would restrict the 
bank's purchase of the shares of the hypothetical mutual fund described 
above to 10 percent of capital and surplus even if the fund's portfolio 
was not evenly divided between Type I and Type III securities but 
contained 95 percent Type I and 5 percent Type III securities.
    The commenter recommended that the OCC permit banks to use a 
``pass-through'' analysis instead, that is, that the OCC permit banks 
to disregard the investment company level for purposes of applying the 
investment limits and allow banks to apply the applicable limit only to 
the pro rata portion of the underlying securities. This commenter also 
noted that allowing pass-through treatment is more consistent with the 
requirement in proposed Sec. 1.4(d), by which banks must make 
``reasonable efforts'' to aggregate their direct and indirect holdings 
of a security.
    The final rule consolidates the two investment limit requirements 
set forth in Secs. 1.3(h) and 1.4(d) into a single investment limit 
calculation provision, paragraph Sec. 1.4(e). The final rule also 
modifies these provisions significantly in consideration of the comment 
received.
    The OCC agrees that the OCC should give banks the flexibility to 
apply a pass-through analysis to determine the applicable investment 
limit if the bank aggregates its pro rata holdings of a security in an 
investment company with the bank's direct and other indirect holdings 
of that security. Therefore, the final rule permits banks to look 
through to the securities in the portfolio of an investment company and 
apply the appropriate limitation to the aggregate of the bank's pro 
rata interest in securities of a particular issuer that are held in an 
investment company's portfolio and the bank's direct holdings of the 
same securities.
    The OCC recognizes that some institutions may prefer the method set 
forth in proposed Sec. 1.3(h), which implemented BC 220 and required 
banks to apply the most stringent applicable investment limit to the 
bank's entire holdings of a particular investment company. Because 
calculating pro rata holdings of securities that the bank holds through 
an investment company may be burdensome for some institutions, the 
final rule gives a bank the option to apply the most stringent 
investment limit to the bank's entire holdings of a

[[Page 63980]]

particular investment company if the investment company is diversified. 
An investment company is diversified if its holdings of the securities 
of any one issuer do not exceed 5 percent of the investment company's 
total portfolio.
    For institutions that choose to calculate an investment limit using 
the most stringent applicable limit, the final rule does not require a 
bank to aggregate the investment company's holdings of a security with 
the bank's direct holdings of the security. The OCC believes that the 5 
percent diversification requirement applicable to diversified 
investment companies provides sufficient protection against risk 
concentrations when a bank elects to apply the most stringent 
investment limit to the bank's investment in the investment company.

Safe and Sound Banking Practices; Credit Information Required 
(Sec. 1.5)

    The proposal changed the requirement that, in addition to the 
specific requirements of part 1, a bank must exercise ``prudent banking 
judgment'' to a requirement that a bank must adhere to ``safe and sound 
banking practices,'' and identified certain risks that a bank should 
consider as part of safe and sound banking. The proposal also required 
each bank to obtain credit information that demonstrates the ability of 
issuer/obligors to satisfy their obligations and to maintain records 
that document the bank's compliance with this section.
    The OCC received no comments on this section. The proposal required 
banks to consider market, interest rate, liquidity, legal, and 
operations and systems risks, as well as credit risk. The final rule 
conforms the list of risks identified by the proposal to the risks that 
are now specified in the OCC's risk-based supervision approach. The 
final rule requires banks to consider interest rate, credit, liquidity, 
price, foreign exchange, transaction, compliance, strategic, and 
reputation risks. The final rule also makes minor stylistic changes to 
this section.

Convertible Securities (Sec. 1.6)

    The proposal set forth the restrictions on investment in certain 
convertible securities. The proposal required a bank to write down the 
carrying value of a convertible security to an amount that represents 
the value of the security considered independently of the conversion 
feature or attached stock purchase warrant. The proposal also 
prohibited a bank from purchasing securities convertible into stock at 
the option of the issuer.
    The OCC received no comments on this section. However, the OCC has 
determined that requiring a bank to write down the carrying value of a 
security independently of the conversion feature is not consistent with 
generally accepted accounting principles (GAAP). Therefore, the final 
rule eliminates this requirement. While the final rule does not 
specifically state that a bank must account for convertible securities 
in accordance with GAAP, it is the OCC's policy that if the OCC is 
silent on accounting treatment, the OCC requires banks to conform with 
GAAP.
    The final rule adopts as proposed the provision prohibiting 
national banks from purchasing securities convertible into stock at the 
option of the issuer.

Securities Held in Satisfaction of Debts Previously Contracted; Holding 
Period; Disposal; Accounting Treatment; Non-Speculative Purpose 
(Sec. 1.7)

    The proposal added new provisions to clarify how a bank must treat 
securities held in satisfaction of debts previously contracted (DPC). 
These provisions embodied standards prescribed in the OCC's regulation 
on other real estate owned (OREO), 12 CFR part 34, and the OCC's 
related interpretation, see Interpretive Letter No. 604 (October 8, 
1992). The proposal provided that a national bank holding securities in 
satisfaction of DPC may do so for a period of five years from the date 
that ownership of the securities was originally transferred to the 
bank, plus, if permitted by the OCC, an additional five years. The 
proposal also required a bank to mark-to-market securities held in 
satisfaction of DPC.
    The OCC received one comment on this section. The commenter 
suggested that the OCC should avoid specifying an accounting treatment 
in the rule. Instead, the commenter recommended that a reference be 
made to the call report instructions.
    The OCC agrees that it is unnecessary to specify the accounting 
treatment for DPC securities in the regulation. Accordingly, the final 
rule removes the reference to mark-to-market accounting and simply says 
that banks should account for DPC securities consistent with GAAP. In 
addition, the OCC emphasizes that extensions of the five-year holding 
period for shares acquired DPC are not automatic. While the five year 
holding period, plus extensions up to an additional five years, is 
based on the OCC's OREO standards, the OCC expects that a bank should, 
in general, be able to dispose of DPC securities more quickly than real 
estate. Accordingly, the OCC will require a clearly convincing 
demonstration of why any additional holding period is needed for 
securities acquired DPC.

Nonconforming Investments (Sec. 1.8)

    The proposal clarified that a bank does not violate an applicable 
investment limitation when an investment in securities that was legal 
when made becomes nonconforming as a result of certain enumerated 
events, if the bank exercises reasonable efforts to bring the 
investment into conformity with applicable limitations.
    The OCC asked commenters to address whether: (1) the phrase 
``reasonable efforts'' needs additional clarification; (2) the OCC 
should require a bank to make ``reasonable efforts'' to bring into 
conformity an investment where the quality of a security deteriorates 
so that the security is no longer an investment security; and (3) any 
other events should be added to the list of circumstances that may 
cause an investment in securities to become nonconforming.
    Two commenters recommended that the OCC eliminate the requirement 
that a bank must make reasonable efforts to conform an asset to the 
appropriate investment limit. The commenters stated that the 
requirement should not apply because the factor that caused 
nonconformity is beyond the bank's ability to control. One commenter 
noted that the reasonable efforts language might require a bank to sell 
securities at an exaggerated loss. Similarly, two commenters asked the 
OCC to clarify that a bank will have a substantial period of time 
before it is required to sell a non-conforming investment if the sale 
would result in a loss to the bank.
    The OCC does not intend ``reasonable efforts'' to mean that a bank 
should sell a nonconforming investment at an exaggerated or unnecessary 
loss. The OCC intends a bank to use sound banking judgment to determine 
when it would be inappropriate to sell or reduce its holdings of a 
nonconforming investment. In the final rule, the OCC adopts the 
requirement that a bank must use reasonable efforts to bring an 
investment into conformity with the understanding that ``reasonable 
efforts'' should not pose significant harm to the bank if a reasonable 
probability exists that a loss can be avoided in the foreseeable 
future. The final rule makes minor clarifying changes to this section.

Amortization of Premiums (Former Sec. 1.10)

    The proposal removed former Sec. 1.10 because the OCC believes that 
GAAP appropriately governs the treatment of premiums. GAAP requires 
that a bank defer recognition of a premium paid for

[[Page 63981]]

an investment security and amortize the premium over the period to 
maturity of the security. In contrast, former Sec. 1.10 permitted a 
bank to charge off the entire premium at the time of purchase or to 
amortize the premium in any manner the bank considers appropriate as 
long as the premium is extinguished entirely at or before the maturity 
of the security.
    The OCC received no comments on the removal of this section, which 
is therefore removed in the final rule.

Interpretations

Indirect General Obligations (Sec. 1.100)

    The proposal clarified and shortened former Sec. 1.120 and 
renumbered it Sec. 1.100. The proposal removed former paragraphs (f) 
``Tax anticipation notes,'' and (g) ``Bond anticipation notes'' as 
unnecessary.
    The OCC received no significant comments on this section, which is 
adopted as proposed.

Eligibility of Securities for Purchase, Dealing in, and Underwriting by 
National Banks; General Guidelines (Former Sec. 1.100)

    The proposal removed former Sec. 1.100, which contained 
introductory and explanatory comments that the OCC believes are 
unnecessary in light of other proposed changes to part 1.
    The OCC received no comments on the proposal's removal of this 
section.

Taxing Powers of a State or a Political Subdivision (Sec. 1.110)

    The proposal shortened former Sec. 1.130, removed portions that are 
no longer necessary, and renumbered it Sec. 1.110. The proposal added 
new text to provide standards for determining when obligations that are 
expressly or implicitly dependent upon voter or legislative 
authorization of appropriations are considered supported by the full 
faith and credit of a State or political subdivision.
    The OCC received no significant comments on this section, which is 
adopted as proposed.

Prerefunded or Escrowed Bonds and Obligations Secured by Type I 
Securities (Sec. 1.120)

    The proposal made former Sec. 1.120(e) proposed Sec. 1.120. The OCC 
proposed no substantive changes to this provision.
    The OCC received no comments on this section, which is adopted as 
proposed.

Type II Securities; Guidelines for Obligations Issued for University 
and Housing Purposes (Sec. 1.130)

    The proposal streamlined former Sec. 1.140, clarified the types of 
issuers whose obligations qualify as Type II securities, and renumbered 
the section Sec. 1.130.
    The OCC received no comments on this section, which is adopted as 
proposed.

Effective Date

    The final rule takes effect on December 31, 1996. The OCC finds 
good cause for prescribing this year-end effective date in that it will 
enable national banks to adjust their practices to conform with the 
regulation at the beginning of a calendar quarter, which also marks the 
beginning of a reporting period for purposes of the Consolidated Report 
of Condition and Income (Call Report). 5 U.S.C. 553(d)(3).

                                                Derivation Table                                                
                      [Only substantive modifications, additions and changes are indicated]                     
----------------------------------------------------------------------------------------------------------------
          Revised provision                  Original provision                        Comments                 
----------------------------------------------------------------------------------------------------------------
Sec.  1.1............................  Secs.  1.1, 1.2..............  Modified.                                 
Sec.  1.2(a).........................  .............................  Added.                                    
Sec.  1.2(b).........................  Sec.  1.3(g).................  Modified.                                 
Sec.  1.2(c).........................  --...........................  Added.                                    
Sec.  1.2(d).........................  --...........................  Added.                                    
Sec.  1.2(e).........................  Sec.  1.3(b).................  Modified.                                 
Sec.  1.2(f).........................  Sec.  1.5(a).................  Significant change.                       
Sec.  1.2(g).........................  --...........................  Added.                                    
Sec.  1.2(h).........................  Sec.  1.3(f).................  ..........................................
Sec.  1.2(i).........................  Secs.  1.3(c), 1.110.........  Modified.                                 
Sec.  1.2(j).........................  Sec.  1.3(d).................  Modified.                                 
Sec.  1.2(k).........................  Sec.  1.3(e).................  Modified.                                 
Sec.  1.2(l).........................  --...........................  Added.                                    
Sec.  1.2(m).........................  --...........................  Added.                                    
                                       Sec.  1.3(a).................  Removed.                                  
Sec.  1.3(a).........................  Sec.  1.4....................  Modified.                                 
Sec.  1.3(b).........................  Secs.  1.3(d), 1.6, 1.7(a)...  Modified.                                 
Sec.  1.3(c).........................  Secs.  1.3(e), 1.7(a)........  Modified.                                 
Sec.  1.3(d).........................  Sec.  1.7(a), 12 CFR 7.1021..  Modified.                                 
Sec.  1.3(e).........................  --...........................  Added.                                    
Sec.  1.3(f).........................  --...........................  Added.                                    
Sec.  1.3(g).........................  --...........................  Added.                                    
Sec.  1.3(h).........................  --...........................  Added.                                    
Sec.  1.3(i).........................  Secs.  1.5(b), 1.7(b)........  Modified.                                 
Sec.  1.4............................  --...........................  Added.                                    
Sec.  1.5............................  Sec.  1.8....................  Significant change.                       
Sec.  1.6............................  Sec.  1.9....................  Modified.                                 
Sec.  1.7(a).........................  Sec.  1.11...................  ..........................................
Sec.  1.7(b).........................  --...........................  Added.                                    
                                       Sec.  1.7(c).................  Removed.                                  
                                       Sec.  1.7(d).................  Added.                                    
Sec.  1.7(c).........................  --...........................  Added.                                    
Sec.  1.8............................  --...........................  Added.                                    
                                       Sec.  1.10...................  Removed.                                  
                                       Sec.  1.100..................  Removed.                                  
Sec.  1.100(a).......................  Sec.  1.120..................  ..........................................

[[Page 63982]]

                                                                                                                
Sec.  1.100(b)(1)....................  Sec.  1.120(a)...............  ..........................................
Sec.  1.100(b)(2)....................  Sec.  1.120(b)...............  ..........................................
Sec.  1.100(b)(3)....................  Sec.  1.120(c)...............  ..........................................
Sec.  1.100(b)(4)....................  Sec.  1.120(d)...............  ..........................................
Sec.  1.110..........................  Sec.  1.130..................  Modified.                                 
                                       Sec.  1.120(f)...............  Removed.                                  
                                       Sec.  1.120(g)...............  Removed.                                  
Sec.  1.120..........................  Sec.  1.120(e)...............  ..........................................
Sec.  1.130(a).......................  Sec.  1.140(a)...............  Modified.                                 
Sec.  1.130(b).......................  Sec.  1.140(b)...............  ..........................................
Sec.  1.130(c).......................  Sec.  1.140(c)...............  Modified.                                 
----------------------------------------------------------------------------------------------------------------

Regulatory Flexibility Act

    It is hereby certified that this regulation will not have a 
significant economic impact on a substantial number of small entities. 
Accordingly, a regulatory flexibility analysis is not required. This 
regulation will reduce the regulatory burden on national banks, 
regardless of size, by simplifying and clarifying existing regulatory 
requirements.

Paperwork Reduction Act of 1995

    The OCC invites comments on:
    (1) Whether the collections of information contained in this notice 
of final rule are necessary for the proper performance of OCC 
functions, including whether the information has practical utility;
    (2) The accuracy of the estimate of the burden of the information 
collections;
    (3) Ways to enhance the quality, utility, and clarity of the 
information to be collected;
    (4) Ways to minimize the burden of the information collections on 
respondents, including through the use of automated collection 
techniques or other forms of information technology; and
    (5) Estimates of capital or startup costs and costs of operation, 
maintenance, and purchase of services to provide information.
    Respondents/recordkeepers are not required to respond to these 
collections of information unless this displays a currently valid OMB 
control number.
    The collection of information requirements contained in this final 
rule have been approved by the Office of Management and Budget under 
OMB control number 1557-0205 in accordance with the Paperwork Reduction 
Act of 1995 (44 U.S.C. 3507(d)). Comments on the collections of 
information should be sent to the Office of Management and Budget, 
Paperwork Reduction Project (1557-0205), Washington, DC 20503, with 
copies to the Legislative and Regulatory Activities Division, Office of 
the Comptroller of the Currency, 250 E Street, SW, Washington, DC 
20219.
    The collection of information requirements in this final rule are 
found in 12 CFR 1.3 and 1.7. This information is required to enable the 
OCC to make determinations as to the safety and soundness of 
activities. The likely respondents/recordkeepers are national banks.
    Estimated average annual burden hours per respondent/recordkeeper: 
18.4 hours.
    Estimated number of respondents and/or recordkeepers: 25.
    Estimated total annual reporting and recordkeeping burden: 460 
hours.
    Start-up costs to respondents: None.

Executive Order 12866

    The OCC has determined that this final rule is not a significant 
regulatory action.

Unfunded Mandates Act of 1995

    Section 202 of the Unfunded Mandates Reform Act of 1995 (Unfunded 
Mandates Act) (signed into law on March 22, 1995) requires that an 
agency prepare a budgetary impact statement before promulgating a rule 
that includes a Federal mandate that may result in the expenditure by 
State, local, and tribal governments, in the aggregate, or by the 
private sector, of $100 million or more in any one year. If a budgetary 
impact statement is required, Section 205 of the Unfunded Mandates Act 
also requires an agency to identify and consider a reasonable number of 
regulatory alternatives before promulgating a rule. Because the OCC has 
determined that this final rule will not result in expenditures by 
State, local, and tribal governments or by the private sector of $100 
million or more in any one year, the OCC has not prepared a budgetary 
impact statement or specifically addressed the regulatory alternatives 
considered. Nevertheless, as discussed in the preamble, the final rule 
has the effect of reducing burden and increasing the discretion of 
national banks regarding their sound investment activities.

List of Subjects

12 CFR Part 1

    Banks, banking, National banks, Reporting and recordkeeping 
requirements, Securities.

12 CFR Part 7

    Credit, Insurance, Investments, National banks, Reporting and 
recordkeeping requirements, Securities, Surety bonds.

Authority and Issuance

    For the reasons set out in the preamble, chapter I of title 12 of 
the Code of Federal Regulations is amended as set forth below:
    1. Part 1 is revised to read as follows:

PART 1--INVESTMENT SECURITIES

Sec.
1.1 Authority, purpose, and scope.
1.2 Definitions.
1.3 Limitations on dealing in, underwriting, and purchase and sale 
of securities.
1.4 Calculation of limits.
1.5 Safe and sound banking practices; credit information required.
1.6 Convertible securities.
1.7 Securities held in satisfaction of debts previously contracted; 
holding period; disposal; accounting treatment; non-speculative 
purpose.
1.8 Nonconforming investments.

Interpretations

1.100 Indirect general obligations.
1.110 Taxing powers of a State or political subdivision.
1.120 Prerefunded or escrowed bonds and obligations secured by Type 
I securities.
1.130 Type II securities; guidelines for obligations issued for 
university and housing purposes.

    Authority: 12 U.S.C. 1 et seq., 24 (Seventh), and 93a.

[[Page 63983]]

Sec. 1.1  Authority, purpose, and scope.

    (a) Authority. This part is issued pursuant to 12 U.S.C. 1 et seq., 
12 U.S.C. 24 (Seventh), and 12 U.S.C. 93a.
    (b) Purpose This part prescribes standards under which national 
banks may purchase, sell, deal in, underwrite, and hold securities, 
consistent with the authority contained in 12 U.S.C. 24 (Seventh) and 
safe and sound banking practices.
    (c) Scope. The standards set forth in this part apply to national 
banks, District of Columbia banks, and federal branches of foreign 
banks. Further, pursuant to 12 U.S.C. 335, State banks that are members 
of the Federal Reserve System are subject to the same limitations and 
conditions that apply to national banks in connection with purchasing, 
selling, dealing in, and underwriting securities and stock. In addition 
to activities authorized under this part, foreign branches of national 
banks are authorized to conduct international activities and invest in 
securities pursuant to 12 CFR part 211.


Sec. 1.2  Definitions.

    (a) Capital and surplus means:
    (1) A bank's Tier 1 and Tier 2 capital calculated under the OCC's 
risk-based capital standards set forth in appendix A to 12 CFR part 3 
(or comparable capital guidelines of the appropriate Federal banking 
agency) as reported in the bank's Consolidated Report of Condition and 
Income filed under 12 U.S.C. 161 (or under 12 U.S.C. 1817 in the case 
of a state member bank); plus
    (2) The balance of a bank's allowance for loan and lease losses not 
included in the bank's Tier 2 capital, for purposes of the calculation 
of risk-based capital described in paragraph (a)(1) of this section, as 
reported in the bank's Consolidated Report of Condition and Income 
filed under 12 U.S.C. 161 (or under 12 U.S.C. 1817 in the case of a 
state member bank).
    (b) General obligation of a State or political subdivision means:
    (1) An obligation supported by the full faith and credit of an 
obligor possessing general powers of taxation, including property 
taxation; or
    (2) An obligation payable from a special fund or by an obligor not 
possessing general powers of taxation, when an obligor possessing 
general powers of taxation, including property taxation, has 
unconditionally promised to make payments into the fund or otherwise 
provide funds to cover all required payments on the obligation.
    (c) Investment company means an investment company, including a 
mutual fund, registered under section 8 of the Investment Company Act 
of 1940, 15 U.S.C. 80a-8.
    (d) Investment grade means a security that is rated in one of the 
four highest rating categories by:
    (1) Two or more NRSROs; or
    (2) One NRSRO if the security has been rated by only one NRSRO.
    (e) Investment security means a marketable debt obligation that is 
not predominantly speculative in nature. A security is not 
predominantly speculative in nature if it is rated investment grade. 
When a security is not rated, the security must be the credit 
equivalent of a security rated investment grade.
    (f) Marketable means that the security:
    (1) Is registered under the Securities Act of 1933, 15 U.S.C. 77a 
et seq.;
    (2) Is a municipal revenue bond exempt from registration under the 
Securities Act of 1933, 15 U.S.C. 77c(a)(2);
    (3) Is offered and sold pursuant to Securities and Exchange 
Commission Rule 144A, 17 CFR 230.144A, and rated investment grade or is 
the credit equivalent of investment grade; or
    (4) Can be sold with reasonable promptness at a price that 
corresponds reasonably to its fair value.
    (g) NRSRO means a nationally recognized statistical rating 
organization.
    (h) Political subdivision means a county, city, town, or other 
municipal corporation, a public authority, and generally any publicly-
owned entity that is an instrumentality of a State or of a municipal 
corporation.
    (i) Type I security means:
    (1) Obligations of the United States;
    (2) Obligations issued, insured, or guaranteed by a department or 
an agency of the United States Government, if the obligation, 
insurance, or guarantee commits the full faith and credit of the United 
States for the repayment of the obligation;
    (3) Obligations issued by a department or agency of the United 
States, or an agency or political subdivision of a State of the United 
States, that represent an interest in a loan or a pool of loans made to 
third parties, if the full faith and credit of the United States has 
been validly pledged for the full and timely payment of interest on, 
and principal of, the loans in the event of non-payment by the third 
party obligor(s);
    (4) General obligations of a State of the United States or any 
political subdivision;
    (5) Obligations authorized under 12 U.S.C. 24 (Seventh) as 
permissible for a national bank to deal in, underwrite, purchase, and 
sell for the bank's own account, including qualified Canadian 
government obligations; and
    (6) Other securities the OCC determines to be eligible as Type I 
securities under 12 U.S.C. 24 (Seventh).
    (j) Type II security means an investment security that represents:
    (1) Obligations issued by a State, or a political subdivision or 
agency of a State, for housing, university, or dormitory purposes;
    (2) Obligations of international and multilateral development banks 
and organizations listed in 12 U.S.C. 24 (Seventh);
    (3) Other obligations listed in 12 U.S.C. 24 (Seventh) as 
permissible for a bank to deal in, underwrite, purchase, and sell for 
the bank's own account, subject to a limitation per obligor of 10 
percent of the bank's capital and surplus; and
    (4) Other securities the OCC determines to be eligible as Type II 
securities under 12 U.S.C. 24 (Seventh).
    (k) Type III security means an investment security that does not 
qualify as a Type I, II, IV, or V security, such as corporate bonds and 
municipal revenue bonds.
    (l) Type IV security means:
    (1) A small business-related security as defined in section 
3(a)(53)(A) of the Securities Exchange Act of 1934, 15 U.S.C. 
78c(a)(53)(A), that is rated investment grade or is the credit 
equivalent thereof, that is fully secured by interests in a pool of 
loans to numerous obligors.
    (2) A commercial mortgage-related security that is offered or sold 
pursuant to section 4(5) of the Securities Act of 1933, 15 U.S.C. 
77d(5), that is rated investment grade or is the credit equivalent 
thereof, or a commercial mortgage-related security as described in 
section 3(a)(41) of the Securities Exchange Act of 1934, 15 U.S.C. 
78c(a)(41), that is rated investment grade in one of the two highest 
investment grade rating categories, and that represents ownership of a 
promissory note or certificate of interest or participation that is 
directly secured by a first lien on one or more parcels of real estate 
upon which one or more commercial structures are located and that is 
fully secured by interests in a pool of loans to numerous obligors.
    (3) A residential mortgage-related security that is offered and 
sold pursuant to section 4(5) of the Securities Act of 1933, 15 U.S.C. 
77d(5), that is rated investment grade or is the credit equivalent 
thereof, or a residential mortgage-related security as described in 
section 3(a)(41) of the Securities Exchange Act of 1934, 15 U.S.C. 
78c(a)(41)), that is rated investment

[[Page 63984]]

grade in one of the two highest investment grade rating categories, and 
that does not otherwise qualify as a Type I security.
    (m) Type V security means a security that is:
    (1) Rated investment grade;
    (2) Marketable;
    (3) Not a Type IV security; and
    (4) Fully secured by interests in a pool of loans to numerous 
obligors and in which a national bank could invest directly.


Sec. 1.3  Limitations on dealing in, underwriting, and purchase and 
sale of securities.

    (a) Type I securities. A national bank may deal in, underwrite, 
purchase, and sell Type I securities for its own account. The amount of 
Type I securities that the bank may deal in, underwrite, purchase, and 
sell is not limited to a specified percentage of the bank's capital and 
surplus.
    (b) Type II securities. A national bank may deal in, underwrite, 
purchase, and sell Type II securities for its own account, provided the 
aggregate par value of Type II securities issued by any one obligor 
held by the bank does not exceed 10 percent of the bank's capital and 
surplus. In applying this limitation, a national bank shall take 
account of Type II securities that the bank is legally committed to 
purchase or to sell in addition to the bank's existing holdings.
    (c) Type III securities. A national bank may purchase and sell Type 
III securities for its own account, provided the aggregate par value of 
Type III securities issued by any one obligor held by the bank does not 
exceed 10 percent of the bank's capital and surplus. In applying this 
limitation, a national bank shall take account of Type III securities 
that the bank is legally committed to purchase or to sell in addition 
to the bank's existing holdings.
    (d) Type II and III securities; other investment securities 
limitations. A national bank may not hold Type II and III securities 
issued by any one obligor with an aggregate par value exceeding 10 
percent of the bank's capital and surplus. However, if the proceeds of 
each issue are to be used to acquire and lease real estate and related 
facilities to economically and legally separate industrial tenants, and 
if each issue is payable solely from and secured by a first lien on the 
revenues to be derived from rentals paid by the lessee under net 
noncancellable leases, the bank may apply the 10 percent investment 
limitation separately to each issue of a single obligor.
    (e) Type IV securities--(1) General. A national bank may purchase 
and sell Type IV securities for its own account. A national bank may 
deal in Type IV securities that are fully secured by Type I securities. 
Except as described in paragraph (e)(2) of this section, the amount of 
the Type IV securities that a bank may purchase and sell is not limited 
to a specified percentage of the bank's capital and surplus.
    (2) Limitation on small business-related securities rated in the 
third and fourth highest rating categories by an NRSRO. A national bank 
may hold small business-related securities, as defined in section 
3(a)(53)(A) of the Securities Exchange Act of 1934, 15 U.S.C. 
78c(a)(53)(A), of any one issuer with an aggregate par value not 
exceeding 25 percent of the bank's capital and surplus if those 
securities are rated investment grade in the third or fourth highest 
investment grade rating categories. In applying this limitation, a 
national bank shall take account of securities that the bank is legally 
committed to purchase or to sell in addition to the bank's existing 
holdings. No percentage of capital and surplus limit applies to small 
business related securities rated investment grade in the highest two 
investment grade rating categories.
    (f) Type V securities. A national bank may purchase and sell Type V 
securities for its own account provided that the aggregate par value of 
Type V securities issued by any one issuer held by the bank does not 
exceed 25 percent of the bank's capital and surplus. In applying this 
limitation, a national bank shall take account of Type V securities 
that the bank is legally committed to purchase or to sell in addition 
to the bank's existing holdings.
    (g) Securitization. A national bank may securitize and sell assets 
that it holds, as a part of its banking business. The amount of 
securitized loans and obligations that a bank may sell is not limited 
to a specified percentage of the bank's capital and surplus.
    (h) Investment company shares--(1) General. A national bank may 
purchase and sell for its own account investment company shares 
provided that:
    (i) The portfolio of the investment company consists exclusively of 
assets that the national bank may purchase and sell for its own account 
under this part; and
    (ii) The bank's holdings of investment company shares do not exceed 
the limitations in Sec. 1.4(e).
    (2) Other issuers. The OCC may determine that a national bank may 
invest in an entity that is exempt from registration as an investment 
company under section 3(c)(1) of the Investment Company Act of 1940, 
provided that the portfolio of the entity consists exclusively of 
assets that a national bank may purchase and sell for its own account 
under this part.
    (i) Securities held based on estimates of obligor's performance. 
(1) Notwithstanding Secs. 1.2(d) and (e), a national bank may treat a 
debt security as an investment security for purposes of this part if 
the bank concludes, on the basis of estimates that the bank reasonably 
believes are reliable, that the obligor will be able to satisfy its 
obligations under that security, and the bank believes that the 
security may be sold with reasonable promptness at a price that 
corresponds reasonably to its fair value.
    (2) The aggregate par value of securities treated as investment 
securities under paragraph (i)(1) of this section may not exceed 5 
percent of the bank's capital and surplus.


Sec. 1.4  Calculation of limits.

    (a) Calculation date. For purposes of determining compliance with 
12 U.S.C. 24 (Seventh) and this part, a bank shall determine its 
investment limitations as of the most recent of the following dates:
    (1) The last day of the preceding calendar quarter; or
    (2) The date on which there is a change in the bank's capital 
category for purposes of 12 U.S.C. 1831o and 12 CFR 6.3.
    (b) Effective date. (1) A bank's investment limit calculated in 
accordance with paragraph (a)(1) of this section will be effective on 
the earlier of the following dates:
    (i) The date on which the bank's Consolidated Report of Condition 
and Income (Call Report) is submitted; or
    (ii) The date on which the bank's Consolidated Report of Condition 
and Income is required to be submitted.
    (2) A bank's investment limit calculated in accordance with 
paragraph (a)(2) of this section will be effective on the date that the 
limit is to be calculated.
    (c) Authority of OCC to require more frequent calculations. If the 
OCC determines for safety and soundness reasons that a bank should 
calculate its investment limits more frequently than required by 
paragraph (a) of this section, the OCC may provide written notice to 
the bank directing the bank to calculate its investment limitations at 
a more frequent interval. The bank shall thereafter calculate its 
investment limits at that interval until further notice.
    (d) Calculation of Type III and Type V securities holdings--(1) 
General. In calculating the amount of its investment in Type III or 
Type V securities issued

[[Page 63985]]

by any one obligor, a bank shall aggregate:
    (i) Obligations issued by obligors that are related directly or 
indirectly through common control; and
    (ii) Securities that are credit enhanced by the same entity.
    (2) Aggregation by type. The aggregation requirement in paragraph 
(d)(1) of this section applies separately to the Type III and Type V 
securities held by a bank.
    (e) Limit on investment company holdings--(1) General. In 
calculating the amount of its investment in investment company shares 
under this part, a bank shall use reasonable efforts to calculate and 
combine its pro rata share of a particular security in the portfolio of 
each investment company with the bank's direct holdings of that 
security. The bank's direct holdings of the particular security and the 
bank's pro rata interest in the same security in the investment 
company's portfolio may not, in the aggregate, exceed the investment 
limitation that would apply to that security.
    (2) Alternate limit for diversified investment companies. A 
national bank may elect not to combine its pro rata interest in a 
particular security in an investment company with the bank's direct 
holdings of that security if:
    (i) The investment company's holdings of the securities of any one 
issuer do not exceed 5 percent of its total portfolio; and
    (ii) The bank's total holdings of the investment company's shares 
do not exceed the most stringent investment limitation that would apply 
to any of the securities in the company's portfolio if those securities 
were purchased directly by the bank.


Sec. 1.5  Safe and sound banking practices; credit information 
required.

    (a) A national bank shall adhere to safe and sound banking 
practices and the specific requirements of this part in conducting the 
activities described in Sec. 1.3. The bank shall consider, as 
appropriate, the interest rate, credit, liquidity, price, foreign 
exchange, transaction, compliance, strategic, and reputation risks 
presented by a proposed activity, and the particular activities 
undertaken by the bank must be appropriate for that bank.
    (b) In conducting these activities, the bank shall determine that 
there is adequate evidence that an obligor possesses resources 
sufficient to provide for all required payments on its obligations, or, 
in the case of securities deemed to be investment securities on the 
basis of reliable estimates of an obligor's performance, that the bank 
reasonably believes that the obligor will be able to satisfy the 
obligation.
    (c) Each bank shall maintain records available for examination 
purposes adequate to demonstrate that it meets the requirements of this 
part. The bank may store the information in any manner that can be 
readily retrieved and reproduced in a readable form.


Sec. 1.6  Convertible securities.

    A national bank may not purchase securities convertible into stock 
at the option of the issuer.


Sec. 1.7  Securities held in satisfaction of debts previously 
contracted; holding period; disposal; accounting treatment; non-
speculative purpose.

    (a) Securities held in satisfaction of debts previously contracted. 
The restrictions and limitations of this part, other than those set 
forth in paragraphs (b),(c), and (d) of this section, do not apply to 
securities acquired:
    (1) Through foreclosure on collateral;
    (2) In good faith by way of compromise of a doubtful claim; or
    (3) To avoid loss in connection with a debt previously contracted.
    (b) Holding period. A national bank holding securities pursuant to 
paragraph (a) of this section may do so for a period not to exceed five 
years from the date that ownership of the securities was originally 
transferred to the bank. The OCC may extend the holding period for up 
to an additional five years if a bank provides a clearly convincing 
demonstration as to why an additional holding period is needed.
    (c) Accounting treatment. A bank shall account for securities held 
pursuant to paragraph (a) of this section in accordance with Generally 
Accepted Accounting Principles.
    (d) Non-speculative purpose. A bank may not hold securities 
pursuant to paragraph (a) of this section for speculative purposes.


Sec. 1.8  Nonconforming investments.

    (a) A national bank's investment in securities that no longer 
conform to this part but conformed when made will not be deemed in 
violation but instead will be treated as nonconforming if the reason 
why the investment no longer conforms to this part is because:
    (1) The bank's capital declines;
    (2) Issuers, obligors, or credit-enhancers merge;
    (3) Issuers become related directly or indirectly through common 
control;
    (4) The investment securities rules change;
    (5) The security no longer qualifies as an investment security; or
    (6) Other events identified by the OCC occur.
    (b) A bank shall exercise reasonable efforts to bring an investment 
that is nonconforming as a result of events described in paragraph (a) 
of this section into conformity with this part unless to do so would be 
inconsistent with safe and sound banking practices.

Interpretations


Sec. 1.100  Indirect general obligations.

    (a) Obligation issued by an obligor not possessing general powers 
of taxation. Pursuant to Sec. 1.2(b), an obligation issued by an 
obligor not possessing general powers of taxation qualifies as a 
general obligation of a State or political subdivision for the purposes 
of 12 U.S.C. 24 (Seventh), if a party possessing general powers of 
taxation unconditionally promises to make sufficient funds available 
for all required payments in connection with the obligation.
    (b) Indirect commitment of full faith and credit. The indirect 
commitment of the full faith and credit of a State or political 
subdivision (that possesses general powers of taxation) in support of 
an obligation may be demonstrated by any of the following methods, 
alone or in combination, when the State or political subdivision 
pledges its full faith and credit in support of the obligation.
    (1) Lease/rental agreement. The lease agreement must be valid and 
binding on the State or the political subdivision, and the State or 
political subdivision must unconditionally promise to pay rentals that, 
together with any other available funds, are sufficient for the timely 
payment of interest on, and principal of, the obligation. These lease/
rental agreement may, for instance, provide support for obligations 
financing the acquisition or operation of public projects in the areas 
of education, medical care, transportation, recreation, public 
buildings, and facilities.
    (2) Service/purchase agreement. The agreement must be valid and 
binding on the State or the political subdivision, and the State or 
political subdivision must unconditionally promise in the agreement to 
make payments for services or resources provided through or by the 
issuer of the obligation. These payments, together with any other 
available funds, must be sufficient for the timely payment of interest 
on, and principal of, the obligation. An agreement to purchase 
municipal sewer, water, waste disposal, or electric services may, for 
instance, provide support for obligations financing the construction or 
acquisition of facilities supplying those services.

[[Page 63986]]

    (3) Refillable debt service reserve fund. The reserve fund must at 
least equal the amount necessary to meet the annual payment of interest 
on, and principal of, the obligation as required by applicable law. The 
maintenance of a refillable reserve fund may be provided, for instance, 
by statutory direction for an appropriation, or by statutory automatic 
apportionment and payment from the State funds of amounts necessary to 
restore the fund to the required level.
    (4) Other grants or support. A statutory provision or agreement 
must unconditionally commit the State or the political subdivision to 
provide funds which, together with other available funds, are 
sufficient for the timely payment of interest on, and principal of, the 
obligation. Those funds may, for instance, be supplied in the form of 
annual grants or may be advanced whenever the other available revenues 
are not sufficient for the payment of principal and interest.


Sec. 1.110  Taxing powers of a State or political subdivision.

    (a) An obligation is considered supported by the full faith and 
credit of a State or political subdivision possessing general powers of 
taxation when the promise or other commitment of the State or the 
political subdivision will produce funds, which (together with any 
other funds available for the purpose) will be sufficient to provide 
for all required payments on the obligation. In order to evaluate 
whether a commitment of a State or political subdivision is likely to 
generate sufficient funds, a bank shall consider the impact of any 
possible limitations regarding the State's or political subdivision's 
taxing powers, as well as the availability of funds in view of the 
projected revenues and expenditures. Quantitative restrictions on the 
general powers of taxation of the State or political subdivision do not 
necessarily mean that an obligation is not supported by the full faith 
and credit of the State or political subdivision. In such case, the 
bank shall determine the eligibility of obligations by reviewing, on a 
case-by-case basis, whether tax revenues available under the limited 
taxing powers are sufficient for the full and timely payment of 
interest on, and principal of, the obligation. The bank shall use 
current and reasonable financial projections in calculating the 
availability of the revenues. An obligation expressly or implicitly 
dependent upon voter or legislative authorization of appropriations may 
be considered supported by the full faith and credit of a State or 
political subdivision if the bank determines, on the basis of past 
actions by the voters or legislative body in similar situations 
involving similar types of projects, that it is reasonably probable 
that the obligor will obtain all necessary appropriations.
    (b) An obligation supported exclusively by excise taxes or license 
fees is not a general obligation for the purposes of 12 U.S.C. 24 
(Seventh). Nevertheless, an obligation that is primarily payable from a 
fund consisting of excise taxes or other pledged revenues qualifies as 
a ``general obligation,'' if, in the event of a deficiency of those 
revenues, the obligation is also supported by the general revenues of a 
State or a political subdivision possessing general powers of taxation.


Sec. 1.120  Prerefunded or escrowed bonds and obligations secured by 
Type I securities.

    (a) An obligation qualifies as a Type I security if it is secured 
by an escrow fund consisting of obligations of the United States or 
general obligations of a State or a political subdivision, and the 
escrowed obligations produce interest earnings sufficient for the full 
and timely payment of interest on, and principal of, the obligation.
    (b) If the interest earnings from the escrowed Type I securities 
alone are not sufficient to guarantee the full repayment of an 
obligation, a promise of a State or a political subdivision possessing 
general powers of taxation to maintain a reserve fund for the timely 
payment of interest on, and principal of, the obligation may further 
support a guarantee of the full repayment of an obligation.
    (c) An obligation issued to refund an indirect general obligation 
may be supported in a number of ways that, in combination, are 
sufficient at all times to support the obligation with the full faith 
and credit of the United States or a State or a political subdivision 
possessing general powers of taxation. During the period following its 
issuance, the proceeds of the refunding obligation may be invested in 
U.S. obligations or municipal general obligations that will produce 
sufficient interest income for payment of principal and interest. Upon 
the retirement of the outstanding indirect general obligation bonds, 
the same indirect commitment, such as a lease agreement or a reserve 
fund, that supported the prior issue, may support the refunding 
obligation.


Sec. 1.130  Type II securities; guidelines for obligations issued for 
university and housing purposes.

    (a) Investment quality. An obligation issued for housing, 
university, or dormitory purposes is a Type II security only if it:
    (1) Qualifies as an investment security, as defined in Sec. 1.2(e); 
and
    (2) Is issued for the appropriate purpose and by a qualifying 
issuer.
    (b) Obligation issued for university purposes. (1) An obligation 
issued by a State or political subdivision or agency of a State or 
political subdivision for the purpose of financing the construction or 
improvement of facilities at or used by a university or a degree-
granting college-level institution, or financing loans for studies at 
such institutions, qualifies as a Type II security. Facilities financed 
in this manner may include student buildings, classrooms, university 
utility buildings, cafeterias, stadiums, and university parking lots.
    (2) An obligation that finances the construction or improvement of 
facilities used by a hospital may be eligible as a Type II security, if 
the hospital is a department or a division of a university, or 
otherwise provides a nexus with university purposes, such as an 
affiliation agreement between the university and the hospital, faculty 
positions of the hospital staff, and training of medical students, 
interns, residents, and nurses (e.g., a ``teaching hospital'').
    (c) Obligation issued for housing purposes. An obligation issued 
for housing purposes may qualify as a Type II security if the security 
otherwise meets the criteria for a Type II security.

PART 7--INTERPRETIVE RULINGS

    2. The authority citation for part 7 continues to read as follows:

    Authority: 12 U.S.C. 1 et seq. and 93a.


Sec. 7.1021  [Removed]

    3. Section 7.1021 is removed.

    Dated: November 22, 1996.
Eugene A. Ludwig,
Comptroller of the Currency.
[FR Doc. 96-30779 Filed 11-29-96; 8:45 am]
BILLING CODE 4810-33-P