[Federal Register Volume 63, Number 169 (Tuesday, September 1, 1998)]
[Rules and Regulations]
[Pages 46518-46524]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-23379]



[[Page 46517]]

_______________________________________________________________________

Part III

Department of the Treasury
Office of the Comptroller of the Currency



12 CFR Part 3

Federal Reserve System



12 CFR Parts 208 and 225

Federal Deposit Insurance Corporation



12 CFR Part 325

Department of the Treasury
Office of Thrift Supervision
_______________________________________________________________________



12 CFR Part 567



Risk-Based Capital Standards: Unrealized Holding Gains on Certain 
Equity Securities; Final Rule

  Federal Register / Vol. 63, No. 169 / Tuesday, September 1, 1998 / 
Rules and Regulations  

[[Page 46518]]



DEPARTMENT OF THE TREASURY

Office of the Comptroller of the Currency

12 CFR Part 3

[Docket No. 98-12]
RIN 1557-AB14

FEDERAL RESERVE SYSTEM

12 CFR Parts 208 and 225

[Regulations H and Y; Docket No. R-0982]

FEDERAL DEPOSIT INSURANCE CORPORATION

12 CFR Part 325

RIN 3064-AC11

DEPARTMENT OF THE TREASURY

Office of Thrift Supervision

12 CFR Part 567

[Docket No. 98-75]
RIN 1550-AB11


Risk-Based Capital Standards: Unrealized Holding Gains on Certain 
Equity Securities

AGENCIES: Office of the Comptroller of the Currency, Treasury; Board of 
Governors of the Federal Reserve System; Federal Deposit Insurance 
Corporation; and Office of Thrift Supervision, Treasury.

ACTION: Final rule.

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SUMMARY: The Office of the Comptroller of the Currency (OCC), the Board 
of Governors of the Federal Reserve System (Board), the Federal Deposit 
Insurance Corporation (FDIC), and the Office of Thrift Supervision 
(OTS) (collectively, the Agencies) are amending their respective risk-
based capital standards for banks, bank holding companies, and thrifts 
(institutions) with regard to the regulatory capital treatment of 
unrealized holding gains on certain equity securities. These gains are 
reported as a component of equity capital under U.S. generally accepted 
accounting principles (GAAP), but have not been included in regulatory 
capital under the Agencies' capital standards. This final rule permits 
institutions to include in supplementary (Tier 2) capital up to 45 
percent of the pretax net unrealized holding gains on certain 
available-for-sale (AFS) equity securities. The final rule is intended 
to make the regulatory capital treatment of these unrealized gains 
consistent with the international standards of the Basle Accord.

DATES: This final rule is effective October 1, 1998. The Agencies will 
not object if an institution wishes to apply the provisions of this 
final rule beginning on September 1, 1998.

FOR FURTHER INFORMATION CONTACT: OCC: Roger Tufts, Senior Economic 
Advisor (202/874-5070), Amrit Sekhon, Examiner (202/874-5070), Capital 
Policy Division; or Ronald Shimabukuro, Senior Attorney (202/874-5090), 
Legislative and Regulatory Activities Division, Office of the 
Comptroller of the Currency, 250 E Street, SW, Washington, DC 20219.
    Board: Norah Barger, Assistant Director (202/452-2402), Barbara 
Bouchard, Manager (202/452-3072), John F. Connolly, Supervisory 
Financial Analyst (202/452-3621), Division of Banking Supervision and 
Regulation; or Mark E. Van Der Weide, Staff Attorney (202/452-2263), 
Legal Division. For the hearing impaired only, Telecommunication Device 
for the Deaf (TDD), Diane Jenkins (202/452-3544), Board of Governors of 
the Federal Reserve System, 20th and C Streets, NW, Washington, DC 
20551.
    FDIC: For supervisory issues, Stephen G. Pfeifer, Examination 
Specialist (202/898-8904) or Carol L. Liquori, Examination Specialist 
(202/898-7289), Accounting Section, Division of Supervision; for legal 
issues, Jamey Basham, Counsel, Legal Division (202/898-7265), Federal 
Deposit Insurance Corporation, 550 17th Street, NW, Washington, DC 
20429.
    OTS: Michael D. Solomon, Senior Program Manager for Capital Policy 
(202/906-5654), Supervision Policy; or Vern McKinley, Senior Attorney 
(202/906-6241), Regulations and Legislation Division, Office of the 
Chief Counsel, Office of Thrift Supervision, 1700 G Street, NW, 
Washington, DC 20552.

SUPPLEMENTARY INFORMATION:

Background

    The Agencies' risk-based capital standards implementing the 
International Convergence of Capital Measurement and Capital Standards 
(the Basle Accord) 1 include definitions for core (Tier 1) 
capital and supplementary (Tier 2) capital.2 Under the 
Agencies' capital standards, Tier 1 capital generally includes common 
stockholders' equity, noncumulative perpetual preferred stock, and 
minority interests in the equity accounts of consolidated 
subsidiaries.3 The common stockholders' equity component is 
defined to include common stock; related surplus; and retained earnings 
(including capital reserves and adjustments for the cumulative effect 
of foreign currency translation); less net unrealized holding losses on 
AFS equity securities with readily determinable fair values. Net 
unrealized holding gains on such equity securities and net unrealized 
holding gains and losses on AFS debt securities are not included in the 
Agencies' regulatory capital definition of common stockholders' 
equity.4 Tier 2 capital includes, subject to certain 
limitations and conditions, the allowance for loan and lease losses; 
cumulative perpetual preferred stock and related surplus; and certain 
other maturing or redeemable capital instruments.
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    \1\ The Basle Accord is a risk-based capital framework developed 
by the Basle Committee on Banking Regulations and Supervisory 
Practices and endorsed by the central bank governors of the Group of 
Ten (G-10) countries in July 1988. The Basle Committee is comprised 
of the central banks and supervisory authorities from the G-10 
countries (Belgium, Canada, France, Germany, Italy, Japan, the 
Netherlands, Sweden, Switzerland, the United Kingdom, and the United 
States) and Luxembourg.
    \2\ Each Agency's risk-based capital standards contain more 
detailed descriptions of core and supplementary capital. See 12 CFR 
Part 3, Appendix A, for national banks; 12 CFR Part 208, Appendix A, 
for state member banks; 12 CFR Part 225, Appendix A, for bank 
holding
    \3\ Bank holding companies may also include limited amounts of 
cumulative perpetual preferred stock in Tier 1 capital.
    \4\ For regulatory reporting purposes, institutions record net 
unrealized gains and losses on AFS securities (debt and equity) in 
accordance with Statement of Financial Accounting Standards (SFAS) 
No. 115, ``Accounting for Certain Investments in Debt and Equity 
Securities.'' AFS securities are all debt securities not held for 
trading that an institution does not have the positive intent and 
ability to hold to maturity and equity securities with readily 
determinable fair values not held for trading. AFS securities must 
be reported at fair value with unrealized holding gains or losses 
(i.e., the amount by which fair value exceeds or falls below cost) 
reported, net of tax, directly in a separate component of common 
stockholders' equity.
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    The Basle Accord also permits institutions to include up to 45 
percent of the pretax net unrealized gains on equity securities in 
supplementary capital. As explained in the Basle Accord, the 55 percent 
discount is applied to the unrealized gains to reflect the potential 
volatility of this form of unrealized capital, as well as the tax 
liability charges that generally would be incurred if the unrealized 
gain were realized or otherwise taxed currently. When the Agencies 
implemented the Basle Accord by issuing their respective risk-based 
capital standards in 1989, they decided not to include unrealized gains 
on AFS equity securities in Tier 2 capital.

[[Page 46519]]

Proposed Rule

    The Agencies believe that it is appropriate to continue the 
existing regulatory capital treatment of net unrealized holding gains 
and losses on AFS debt securities and net unrealized holding losses on 
AFS equity securities. However, for institutions that have net 
unrealized holding gains on AFS equity securities, the Agencies decided 
to consider whether to include at least a portion of the unrealized 
gains on such securities in regulatory capital. Accordingly, on October 
27, 1997, the Agencies published a joint proposal to amend their 
respective risk-based capital standards for institutions (62 FR 55682).
    Specifically, the Agencies proposed, consistent with the Basle 
Accord, to permit institutions that legally hold equity securities to 
include up to 45 percent of the pretax net unrealized holding gains 
(that is, the excess amount, if any, of fair value over historical 
cost) on AFS equity securities in Tier 2 capital. The proposed rule 
required that equity securities be valued in accordance with GAAP and 
have readily determinable fair values,5 and institutions 
should be able to substantiate those values. In the event that an 
Agency determines that an institution's AFS equity securities are not 
prudently valued in accordance with GAAP, the institution may be 
precluded from including all or a portion of the 45 percent of pretax 
net unrealized holding gains on those securities in Tier 2 capital.
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    \5\ The Agencies intend to rely on the guidance set forth in 
SFAS 115 for purposes of determining whether equity securities have 
fair values that are ``readily determinable.'' Under SFAS 115, the 
fair value of an equity security is readily determinable if sales 
prices or bid-and-ask quotations are currently available on a 
securities exchange registered with the Securities and Exchange 
Commission or in the over-the-counter market, provided that those 
prices or quotations for the over-the-counter market are publicly 
reported by the National Association of Securities Dealers Automated 
Quotations System or by the National Quotations Bureau. Restricted 
stock does not meet this definition. The fair value of an equity 
security traded only in a foreign market is readily determinable if 
that foreign market is of a breadth and scope comparable to one of 
the U.S. markets referred to previously. The fair value of an 
investment in a mutual fund is readily determinable if the fair 
value per share (unit) is determined and published and is the basis 
for current transactions.
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Comments Received

    The Agencies received eleven comments on the proposal, six from 
financial institutions and five from banking trade associations. Seven 
commenters expressed support for the proposal; the remaining four 
respondents were opposed.
    Respondents supporting the proposal included three institutions and 
four trade associations. These commenters generally believe that 
convergence with the Basle Accord will result in greater uniformity 
with foreign capital standards, and will mitigate a source of 
competitive inequality arising from continuing differences in 
supervisory capital requirements across countries. Three commenters 
representing trade associations further emphasized that the proposed 
rule would treat net unrealized holding gains on AFS equity securities 
more consistently with the current treatment of net unrealized holding 
losses since the latter are already deducted from Tier 1 capital. 
Another commenter observed that including net unrealized holding gains 
in Tier 2 capital is more comparable to the GAAP treatment of such 
gains as a component of equity capital.
    Opponents of the proposal, three financial institutions and one 
banking trade association, expressed varying concerns. The financial 
institution representatives generally stated that the proposed rule 
would place an additional burden on small community banks. The 
remaining opponent of the proposed rule expressed opposition to the 
fair value treatment of debt and equity securities for regulatory 
capital calculations (an opinion expressed by two other trade 
associations, despite their support for the proposal). This commenter 
noted that market fluctuations could have a significant impact on 
capital levels if the unrealized equity gains are included and the 
proposed discount may be insufficient to absorb the potential 
volatility in the value of these assets. This commenter also disagreed 
with the timing of the proposal, indicating that the currently strong 
market could create equity holding gains that may not be sustained if 
the economy weakens. In such an event, the commenter was concerned that 
institutions unduly relying on unrealized holding gains in their 
portfolios may find their capital levels falling below regulatory 
minimums due to an adverse change in market conditions.
    Several commenters made suggestions for improvements or requests 
for clarification. Two supporters of the proposal recommended that the 
Agencies further amend the risk-based capital guidelines to eliminate 
the Tier 1 capital deduction for net unrealized losses on AFS equity 
securities in favor of a deduction from Tier 2 capital, thereby 
providing parallel treatment of both unrealized gains and losses on AFS 
equity securities. Others, claiming that AFS debt securities are as 
liquid and marketable as AFS equity holdings, recommended that the 
Agencies work with the Basle Committee to allow unrealized holding 
gains on debt securities to be treated as supplementary capital.
    Two commenters, each with a different overall opinion of the 
proposed rule, questioned the proposed 55 percent discount applied to 
the amount permitted to be recognized for regulatory capital purposes. 
One stated that the discount was excessive and suggested the Agencies 
consider eliminating or reducing the discount. While generally in favor 
of the proposal, this commenter noted that a comparable discount was 
not required by GAAP and pointed out that unrealized losses were not 
similarly discounted. The other commenter believed unrealized equity 
gains should either be fully recognized in capital or be entirely 
disallowed. Since the commenter expected a discount to be included in 
the final rule, the commenter voiced overall opposition to the 
proposal.
    The Agencies were also asked to clarify that the proposal applies 
to equity securities held in subsidiaries of financial institutions. 
Finally, two commenters supported a reexamination of the whole risk-
based capital framework, contending that the framework is too complex 
for small, traditional institutions and the current risk weight 
categories are too broad.

Response to Comments

    After carefully considering the comments received, the Agencies are 
adopting the final rule substantially as proposed. The Agencies agree 
that adopting this rule will result in more consistency with the 
capital standards applied to financial institutions in other countries 
that have adopted the treatment permitted in the Basle Accord. Although 
limited to a supplementary capital item, recognizing unrealized gains 
on AFS equity securities in Tier 2 capital is more consistent with the 
treatment of unrealized losses on such equity securities and is also 
more comparable to the GAAP treatment of such gains as a component of 
equity capital.
    Under the final rule an institution is permitted, but not required, 
to recognize up to 45 percent of pretax net unrealized holding gains on 
AFS equity securities in Tier 2 capital. The information the 
institution must assemble in support of such treatment is the same as 
that already used by the institution when it prepares its

[[Page 46520]]

regulatory reports 6 in accordance with GAAP and there are 
no new capital restrictions or limitations imposed. Consequently, the 
Agencies find no reason to believe that this final rule places an 
additional burden on institutions of any size, including small 
community banks.
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    \6\ These reports are the Consolidated Reports of Condition and 
Income for banks supervised by the OCC, the Board, or the FDIC; the 
Thrift Financial Report for thrift institutions supervised by the 
OTS; and the FR Y-9C Report for bank holding companies supervised by 
the Board.
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    Unrealized gains and losses on many financial assets, including AFS 
debt securities and most loans, are ignored for purposes of calculating 
capital under the Agencies' leverage and risk-based capital standards. 
However, the Agencies do not agree with the argument raised in some of 
the comment letters that, for regulatory capital purposes, historical 
cost (rather than fair value) should be used for equity securities. To 
the contrary, the Agencies believe that the fair value of equity 
securities is relevant when evaluating regulatory capital.
    At the time the risk-based capital guidelines were promulgated in 
1989, GAAP and the regulatory reporting rules generally required equity 
investments to be valued at the lower of cost or market (LOCOM) with 
any net unrealized losses on these investments deducted from equity 
capital.7 Consistent with this LOCOM accounting approach, 
the Agencies did not include net unrealized gains on equity securities 
in Tier 2 capital. However, in 1993, SFAS 115 was adopted. This 
accounting standard, which applies fair value accounting to many equity 
securities and requires institutions to reflect changes in the fair 
value of their AFS equity securities as a component of equity capital, 
was also adopted by the Agencies for regulatory reporting purposes. 
Although SFAS 115 further requires AFS debt securities to be carried at 
fair value, the unrealized holding gains and losses on these securities 
generally are more temporary in nature because the fair values of these 
debt instruments, over time, tend to approach their respective face 
values. Thus, any unrealized gains and losses on these debt instruments 
generally diminish as the instruments draw closer to their maturity 
dates. As a result, the Agencies continue to believe that unrealized 
gains and losses on AFS debt instruments are appropriately excluded 
from regulatory capital. However, the Agencies now believe it is 
appropriate, subject to prudential supervisory limitations, to include 
in Tier 2 capital at least a portion of an institution's net unrealized 
holding gains on AFS equity securities. Consistent with current 
supervisory policy, to the extent that unrealized gains and losses on 
AFS debt securities and other assets are not formally recognized for 
regulatory capital purposes, the Agencies will continue to consider the 
impact of any appreciation or depreciation on these assets when 
evaluating an institution's capital adequacy.
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    \7\ This LOCOM accounting approach for equity securities was 
required by SFAS No. 12, ``Accounting for Certain Marketable 
Securities.''
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    This final rule does not revise the treatment of net unrealized 
losses on AFS equity securities. The Agencies believe any measure of 
potential loss must be reflected in Tier 1 capital so as to provide an 
adequate cushion against risk. Therefore, in accordance with the 
Agencies' existing capital standards, these net unrealized losses will 
continue to be deducted in determining Tier 1 capital.
    The Agencies agree with the concerns of the commenter that market 
fluctuations could have a significant impact on capital levels if net 
unrealized holding gains on equity securities are included in Tier 2 
capital. Thus, as a prudent supervisory constraint, and consistent with 
the Basle Accord, it appears appropriate to limit the amount of net 
appreciation on AFS equity securities that may be included in Tier 2 
capital to no more than 45 percent of the pretax net unrealized holding 
gains on these securities. Although not required by GAAP, this discount 
will help minimize supervisory concerns about market volatility, forced 
sale risk, and possible tax charges.
    Furthermore, to prevent undue reliance on such gains to meet 
minimum capital requirements, unrealized gains on AFS equity securities 
are not included in the calculation of Tier 1 capital under the 
Agencies' leverage and risk-based capital ratios. Although up to 45 
percent of these net unrealized holding gains may be included in 
calculating total risk-based capital, the allowable portion of these 
gains is only included in Tier 2 capital, which, in turn, is limited 
under the Agencies' risk-based capital standards to no more than 100 
percent of Tier 1 capital.
    The proposed rulemaking did not address how unrealized gains on 
equity securities that are held by an institution's subsidiaries should 
be treated in those cases where the institution's investment in the 
subsidiary itself is required to be deducted from regulatory capital. 
If an institution's investment in a subsidiary is deducted for 
regulatory capital purposes, any unrealized gains on equity securities 
held by the subsidiary will not be included in the institution's Tier 2 
capital. On September 12, 1997, the FDIC published a request for 
comments regarding proposed changes to the rules regarding the 
activities of insured state banks and insured state savings 
associations (62 FR 47969). If this rule is adopted as proposed by the 
FDIC, a state institution's investment in a subsidiary which, in turn, 
invests in listed equity securities or shares of investment companies 
of a type not permitted for a national bank or federal savings 
association, as authorized by the proposed rule in the case of well-
capitalized institutions, would be deducted from Tier 1 capital for 
regulatory capital purposes.
    Finally, the Agencies have considered the commenters' concern that 
the current risk-based capital rules are too complex for small 
traditional institutions and that the current risk weight categories 
are too broad. Although the Agencies are sympathetic to this concern 
and will continue to seek ways to reduce burden on banks wherever 
appropriate, a broad-based reexamination of the risk-based capital 
framework is outside the scope of this rulemaking.

Final Rule

    After careful consideration of all the comments received, the 
Agencies have decided to adopt the final rule with only minor technical 
modifications. Under the final rule, institutions that legally hold 
equity securities are permitted to include up to 45 percent of the 
pretax net unrealized holding gains on AFS equity securities in Tier 2 
capital. Revisions from the original proposal have been limited to 
minor changes in the regulatory text to ensure consistency among the 
rules issued by each Agency.
    Institutions need to be aware that, although including a portion of 
unrealized gains on AFS equity securities in Tier 2 capital may 
increase their total risk-based capital ratio, it may reduce their Tier 
1 risk-based capital ratio.8 Such decreases could occur 
because an institution's total risk-weighted assets (the denominator 
for both the Tier 1 and total risk-based capital ratios) would increase 
by the amount of pretax net unrealized holding gains on AFS equity 
securities included in Tier 2 capital. However, none of these gains 
would be included in Tier 1

[[Page 46521]]

capital, thereby potentially decreasing an institution's Tier 1 risk-
based capital ratio. For this reason, institutions should weigh the 
effects on both their total risk-based capital ratio and Tier 1 risk-
based capital ratio when determining the amount of unrealized gains on 
AFS equity securities, if any, to include in Tier 2 capital.
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    \8\ The leverage ratio will not be affected because the 
unrealized gains on AFS equity securities are not included in the 
numerator (Tier 1 capital) nor the denominator (total assets as 
defined in the agencies' capital standards) when computing the 
leverage ratio.
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Early Compliance

    Subject to certain exceptions, 12 U.S.C. 4802(b) provides that new 
regulations and amendments to regulations prescribed by a Federal 
banking agency which impose additional reporting, disclosures, or other 
new requirements on an insured depository institution shall take effect 
on the first day of a calendar quarter which begins on or after the 
date on which the regulations are published in final form. However, 
section 4802(b) also permits persons who are subject to such 
regulations to comply with the regulation before its effective date. 
Accordingly, the Agencies will not object if an institution wishes to 
apply the provisions of this final rule beginning with the date it is 
published in the Federal Register.

Regulatory Flexibility Act Analysis

    Pursuant to section 605(b) of the Regulatory Flexibility Act, the 
Agencies have determined that this final rule will not have a 
significant economic impact on a substantial number of small entities 
in accordance with the spirit and purposes of the Regulatory 
Flexibility Act (5 U.S.C. 601 et seq.). The final rule will permit, but 
not obligate, institutions to include up to 45 percent of the pretax 
net unrealized holding gains on AFS equity securities in Tier 2 
capital. The information which an institution must assemble in support 
of such treatment is the same as that already created when it prepares 
its regulatory reports in accordance with GAAP. For those institutions 
choosing to utilize the final rule, the effect would be to increase 
immediately the amount of Tier 2 capital held by institutions, 
including small institutions, by the amount of their qualifying pretax 
net unrealized holding gains on such securities subject to the existing 
limit on Tier 2 capital. Thereafter, the amount of Tier 2 capital will 
increase or decrease as the fair value of the institution's holdings of 
AFS equity securities changes. The Agencies have concluded that the 
increase and changes in Tier 2 capital will not have a significant 
impact on the amount of total capital held by institutions, regardless 
of size.

Paperwork Reduction Act

    The Agencies have determined that the final rule does not involve a 
collection of information pursuant to the provisions of the Paperwork 
Reduction Act of 1995 (44 U.S.C. 3501 et seq.).

Small Business Regulatory Enforcement Fairness Act

    The Small Business Regulatory Enforcement Fairness Act of 1996 
(SBREFA) (Title II, Pub. L. 1004-121) provides generally for agencies 
to report rules to Congress for review. The reporting requirement is 
triggered when a federal agency issues a final rule. Accordingly, the 
Agencies will file the appropriate reports with Congress as required by 
SBREFA.
    The Office of Management and Budget has determined that this final 
rule does not constitute a ``major rule'' as defined by SBREFA.

OCC and OTS Executive Order 12866 Determination

    The OCC and the OTS have determined that the final rule does not 
constitute a ``significant regulatory action'' for the purposes of 
Executive Order 12866.

OCC and OTS Unfunded Mandates Reform Act of 1995 Determinations

    Section 202 of the Unfunded Mandates Reform Act of 1995, Pub. L. 
104-4 (Unfunded Mandates Act) requires that an agency prepare a 
budgetary impact statement before promulgating a rule that includes a 
Federal mandate that may result in 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. As discussed in the preamble, 
this rule will permit institutions to include up to 45 percent of 
pretax net unrealized holding gains on AFS equity securities in Tier 2 
capital under the Agencies' risk-based capital rules. The final rule 
will reduce regulatory burden by increasing the amount of supplementary 
capital held by certain institutions. The OCC and the OTS have 
therefore determined that the overall effect of the rule on national 
banks and thrifts will not result in aggregate expenditures by State, 
local, or tribal governments or by the private sector of $100 million 
or more. Accordingly, the OCC and the OTS have not prepared a budgetary 
impact statement or specifically addressed the regulatory alternatives 
considered.

List of Subjects

12 CFR Part 3

    Administrative practice and procedure, Capital, National banks, 
Reporting and recordkeeping requirements, Risk.

12 CFR Part 208

    Accounting, Agriculture, Banks, banking, Confidential business 
information, Crime, Currency, Federal Reserve System, Mortgages, 
Reporting and recordkeeping requirements, Securities.

12 CFR Part 225

    Administrative practice and procedure, Banks, banking, Federal 
Reserve System, Holding Companies, Reporting and recordkeeping 
requirements, Securities.

12 CFR Part 325

    Administrative practice and procedure, Banks, banking, Capital 
adequacy, Reporting and recordkeeping requirements, Savings 
associations, State non-member banks.

12 CFR Part 567

    Capital, Reporting and recordkeeping requirements, Savings 
associations.

Authority and Issuance

Office of the Comptroller of the Currency

12 CFR Chapter I

    For the reasons set out in the joint preamble, part 3 of chapter I 
of title 12 of the Code of Federal Regulations is amended as follows:

PART 3--MINIMUM CAPITAL RATIOS; ISSUANCE OF DIRECTIVES

    1. The authority citation for part 3 continues to read as follows:

    Authority: 12 U.S.C. 93a, 161, 1818, 1828(n), 1828 note, 1831n 
note, 1835, 3907, and 3909.

    2. In appendix A to part 3, section 2. is amended by adding a new 
paragraph (b)(5) including footnote 5 to read as follows:

Appendix A to Part 3--Risk-Based Capital Guidelines

* * * * *
    Section 2. Components of Capital.
* * * * *
    (b) * * *
    (5) Up to 45 percent of the pretax net unrealized holding gains 
(that is, the excess, if any, of the fair value over historical 
cost) on available-for-sale equity securities with

[[Page 46522]]

readily determinable fair values.5 Unrealized gains 
(losses) on other types of assets, such as bank premises and 
available-for-sale debt securities, are not included in Tier 2 
capital, but the OCC may take these unrealized gains (losses) into 
account as additional factors when assessing a bank's overall 
capital adequacy.
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    \5\ The OCC reserves the authority to exclude all or a portion 
of unrealized gains from Tier 2 capital if the OCC determines that 
the equity securities are not prudently valued.
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* * * * *
    Dated: August 12, 1998.
Julie L. Williams,
Acting Comptroller of the Currency.

Federal Reserve System

12 CFR Chapter II

    For the reasons set forth in the joint preamble, parts 208 and 225 
of chapter II of title 12 of the Code of Federal Regulations are 
amended as follows:

PART 208--MEMBERSHIP OF STATE BANKING INSTITUTIONS IN THE FEDERAL 
RESERVE SYSTEM (REGULATION H)

    1. The authority citation for part 208 is revised to read as 
follows:

    Authority: 12 U.S.C. 24, 36, 92(a), 93(a), 248(a), 248(c), 321-
338a, 371d, 461, 481-486, 601, 611, 1814, 1816, 1818, 1820(d)(9), 
1823(j), 1828(o), 1831, 1831o, 1831p-1, 1831r-1, 1835a, 1882, 2901-
2907, 3105, 3310, 3331-3351, and 3906-3909; 15 U.S.C. 78b, 78l(b), 
78l(g), 78l(i), 78o-4(c)(5), 78q, 78q-1, and 78w; 31 U.S.C. 5318; 42 
U.S.C. 4012a, 4104a, 4104b, 4106, and 4128.

    2. In appendix A to part 208, the introductory paragraphs in 
section II.A.2. are revised and footnote 8 is removed and reserved to 
read as follows:

Appendix A to Part 208--Capital Adequacy Guidelines for State Member 
Banks: Risk-Based Measure

* * * * *
    II. * * *
    A. * * *
    2. Supplementary capital elements (Tier 2 capital). The Tier 2 
component of a bank's qualifying total capital may consist of the 
following items that are defined as supplementary capital elements:
    (i) Allowance for loan and lease losses (subject to limitations 
discussed below);
    (ii) Perpetual preferred stock and related surplus (subject to 
conditions discussed below);
    (iii) Hybrid capital instruments (as defined below) and 
mandatory convertible debt securities;
    (iv) Term subordinated debt and intermediate-term preferred 
stock, including related surplus (subject to limitations discussed 
below);
    (v) Unrealized holding gains on equity securities (subject to 
limitations discussed in section II.A.2.e. of this appendix).
    The maximum amount of Tier 2 capital that may be included in a 
bank's qualifying total capital is limited to 100 percent of Tier 1 
capital (net of goodwill and other intangible assets required to be 
deducted in accordance with section II.B.1.b. of this appendix).
    The elements of supplementary capital are discussed in greater 
detail below.
* * * * *
    3. In appendix A to part 208, section II.A.2., paragraphs d. and e. 
are revised to read as follows:
* * * * *
    II. * * *
    A. * * *
    2. * * *
    d. Subordinated debt and intermediate term preferred stock. (i) 
The aggregate amount of term subordinated debt (excluding mandatory 
convertible debt) and intermediate-term preferred stock that may be 
treated as supplementary capital is limited to 50 percent of Tier 1 
capital (net of goodwill and other intangible assets required to be 
deducted in accordance with section II.B.1.b. of this appendix). 
Amounts in excess of these limits may be issued and, while not 
included in the ratio calculation, will be taken into account in the 
overall assessment of a bank's funding and financial condition.
    (ii) Subordinated debt and intermediate-term preferred stock 
must have an original weighted average maturity of at least five 
years to qualify as supplementary capital. (If the holder has the 
option to require the issuer to redeem, repay, or repurchase the 
instrument prior to the original stated maturity, maturity would be 
defined, for risk-based capital purposes, as the earliest possible 
date on which the holder can put the instrument back to the issuing 
bank.) 12 In the case of subordinated debt, the 
instrument must be unsecured and must clearly state on its face that 
it is not a deposit and is not insured by a Federal agency. To 
qualify as capital in banks, debt must be subordinated to general 
creditors and claims of depositors. Consistent with current 
regulatory requirements, if a state member bank wishes to redeem 
subordinated debt before the stated maturity, it must receive prior 
approval of the Federal Reserve.
---------------------------------------------------------------------------

    \12\ As a limited-life capital instrument approaches maturity it 
begins to take on characteristics of a short-term obligation. For 
this reason, the outstanding amount of term subordinated debt and 
limited-life preferred stock eligible for inclusion in Tier 2 is 
reduced, or discounted, as these instruments approach maturity: one-
fifth of the original amount (less redemptions) is excluded each 
year during the instrument's last five years before maturity. When 
the remaining maturity is less than one year, the instrument is 
excluded from Tier 2 capital.
---------------------------------------------------------------------------

    e. Unrealized gains on equity securities and unrealized gains 
(losses) on other assets. Up to 45 percent of pretax net unrealized 
holding gains (that is, the excess, if any, of the fair value over 
historical cost) on available-for-sale equity securities with 
readily determinable fair values may be included in supplementary 
capital. However, the Federal Reserve may exclude all or a portion 
of these unrealized gains from Tier 2 capital if the Federal Reserve 
determines that the equity securities are not prudently valued. 
Unrealized gains (losses) on other types of assets, such as bank 
premises and available-for-sale debt securities, are not included in 
supplementary capital, but the Federal Reserve may take these 
unrealized gains (losses) into account as additional factors when 
assessing a bank's overall capital adequacy.
* * * * *

PART 225--BANK HOLDING COMPANIES AND CHANGE IN BANK CONTROL 
(REGULATION Y)

    1. The authority citation for part 225 is revised to read as 
follows:

    Authority: 12 U.S.C. 1817(j)(13), 1818, 1828(o), 1831i, 1831p-1, 
1843(c)(8), 1844(b), 1972(1), 3106, 3108, 3310, 3331-3351, 3907, and 
3909.

    2. In appendix A to part 225, the introductory paragraphs of 
section II.A.2. are revised and footnote 8 is removed and reserved to 
read as follows:

Appendix A to Part 225--Capital Adequacy Guidelines for Bank Holding 
Companies: Risk-Based Measure

* * * * *
    II. * * *
    A. * * *
    2. Supplementary capital elements (Tier 2 capital). The Tier 2 
component of an institution's qualifying total capital may consist 
of the following items that are defined as supplementary capital 
elements:
    (i) Allowance for loan and lease losses (subject to limitations 
discussed below);
    (ii) Perpetual preferred stock and related surplus (subject to 
conditions discussed below);
    (iii) Hybrid capital instruments (as defined below), perpetual 
debt and mandatory convertible debt securities;
    (iv) Term subordinated debt and intermediate-term preferred 
stock, including related surplus (subject to limitations discussed 
below);
    (v) Unrealized holding gains on equity securities (subject to 
limitations discussed in section II.A.2.e. of this appendix).
    The maximum amount of Tier 2 capital that may be included in an 
organization's qualifying total capital is limited to 100 percent of 
Tier 1 capital (net of goodwill and other intangible assets required 
to be deducted in accordance with section II.B.1.b. of this 
appendix).
    The elements of supplementary capital are discussed in greater 
detail below.
* * * * *
    3. In appendix A to part 225, section II.A.2., paragraphs d and e 
are revised to read as follows:
* * * * *
    II. * * *
    A. * * *
    2. * * *
    d. Subordinated debt and intermediate-term preferred stock. (i) 
The aggregate

[[Page 46523]]

amount of term subordinated debt (excluding mandatory convertible 
debt) and intermediate-term preferred stock that may be treated as 
supplementary capital is limited to 50 percent of Tier 1 capital 
(net of goodwill and other intangible assets required to be deducted 
in accordance with section II.B.1.b. of this appendix). Amounts in 
excess of these limits may be issued and, while not included in the 
ratio calculation, will be taken into account in the overall 
assessment of an organization's funding and financial condition.
    (ii) Subordinated debt and intermediate-term preferred stock 
must have an original weighted average maturity of at least five 
years to qualify as supplementary capital.12 (If the 
holder has the option to require the issuer to redeem, repay, or 
repurchase the instrument prior to the stated maturity, maturity 
would be defined, for risk-based capital purposes, as the earliest 
possible date on which the holder can put the instrument back to the 
issuing banking organization.) 13 In the case of 
subordinated debt, the instrument must be unsecured and must clearly 
state on its face that it is not a deposit and is not insured by a 
Federal agency. Bank holding company debt must be subordinated in 
the right of payment to all senior indebtedness of the company.
---------------------------------------------------------------------------

    \12\ Unsecured term debt issued by bank holding companies prior 
to March 12, 1988, and qualifying as secondary capital at the time 
of issuance continues to qualify as an element of supplementary 
capital under the risk-based framework, subject to the 50 percent of 
Tier 1 capital limitation. Bank holding company term debt issued on 
or after March 12, 1988, must be subordinated in order to qualify as 
capital.
    \13\ As a limited-life capital instrument approaches maturity it 
begins to take on characteristics of a short-term obligation. For 
this reason, the outstanding amount of term subordinated debt and 
limited-life preferred stock eligible for inclusion in Tier 2 is 
reduced, or discounted, as these instruments approach maturity: one-
fifth of the original amount (less redemptions) is excluded each 
year during the instrument's last five years before maturity. When 
the remaining maturity is less than one year, the instrument is 
excluded from Tier 2 capital.
---------------------------------------------------------------------------

    e. Unrealized gains on equity securities and unrealized gains 
(losses) on other assets. Up to 45 percent of pretax net unrealized 
holding gains (that is, the excess, if any, of the fair value over 
historical cost) on available-for-sale equity securities with 
readily determinable fair values may be included in supplementary 
capital. However, the Federal Reserve may exclude all or a portion 
of these unrealized gains from Tier 2 capital if the Federal Reserve 
determines that the equity securities are not prudently valued. 
Unrealized gains (losses) on other types of assets, such as bank 
premises and available-for-sale debt securities, are not included in 
supplementary capital, but the Federal Reserve may take these 
unrealized gains (losses) into account as additional factors when 
assessing an institution's overall capital adequacy.
* * * * *
    By order of the Board of Governors of the Federal Reserve 
System, August 25, 1998.
Jennifer J. Johnson,
Secretary of the Board.

Federal Deposit Insurance Corporation

12 CFR Chapter III

    For the reasons set forth in the joint preamble, part 325 of 
chapter III of title 12 of the Code of Federal Regulations is amended 
as follows:

PART 325--CAPITAL MAINTENANCE

    1. The authority citation for part 325 continues to read as 
follows:

    Authority: 12 U.S.C. 1815(a), 1815(b), 1816, 1818(a), 1818(b), 
1818(c), 1818(t), 1819(Tenth), 1828(c), 1828(d), 1828(i), 1828(n), 
1828(o), 1831o, 1835, 3907, 3909, 4808; Pub. L. 102-233, 105 Stat. 
1761, 1789, 1790 (12 U.S.C. 1831n note); Pub. L. 102-242, 105 Stat. 
2236, 2355, as amended by Pub. L. 103-325, 108 Stat. 2160, 2233 (12 
U.S.C. 1828 note); Pub. L. 102-242, 105 Stat. 2236, 2386, as amended 
by Pub. L. 102-550, 106 Stat. 3672, 4089 (12 U.S.C. 1828 note).

    2. In appendix A to part 325, the introductory paragraphs of 
section I.A.2. are revised to read as follows:

Appendix A to Part 325--Statement of Policy on Risk-Based Capital

* * * * *
    I. * * *
    A. * *  *
    2. Supplementary capital elements (Tier 2) consist of:
    i. Allowance for loan and lease losses, up to a maximum of 1.25 
percent of risk-weighted assets;
    ii. Cumulative perpetual preferred stock, long-term preferred 
stock (original maturity of at least 20 years), and any related 
surplus;
    iii. Perpetual preferred stock (and any related surplus) where 
the dividend is reset periodically based, in whole or part, on the 
bank's current credit standing, regardless of whether the dividends 
are cumulative or noncumulative;
    iv. Hybrid capital instruments, including mandatory convertible 
debt securities;
    v. Term subordinated debt and intermediate-term preferred stock 
(original average maturity of five years or more) and any related 
surplus; and
    vi. Net unrealized holding gains on equity securities (subject 
to the limitations discussed in paragraph I.A.2.(f) of this 
section).
    The maximum amount of Tier 2 capital that may be recognized for 
risk-based capital purposes is limited to 100 percent of Tier 1 
capital (after any deductions for disallowed intangibles and 
disallowed deferred tax assets). In addition, the combined amount of 
term subordinated debt and intermediate-term preferred stock that 
may be treated as part of Tier 2 capital for risk-based capital 
purposes is limited to 50 percent of Tier 1 capital. Amounts in 
excess of these limits may be issued but are not included in the 
calculation of the risk-based capital ratio.
* * * * *
    3. In appendix A to part 325, the last undesignated paragraph of 
section I.A.2., entitled ``Discount of limited-life supplementary 
capital instruments,'' is designated as paragraph (e) and a new 
paragraph (f) is added to section I.A.2. to read as follows:
* * * * *
    I. * * *
    A. * * *
    2. * * *
    (f) Unrealized gains on equity securities and unrealized gains 
(losses) on other assets. Up to 45 percent of pretax net unrealized 
holding gains (that is, the excess, if any, of the fair value over 
historical cost) on available-for-sale equity securities with 
readily determinable fair values may be included in supplementary 
capital. However, the FDIC may exclude all or a portion of these 
unrealized gains from Tier 2 capital if the FDIC determines that the 
equity securities are not prudently valued. Unrealized gains 
(losses) on other types of assets, such as bank premises and 
available-for-sale debt securities, are not included in 
supplementary capital, but the FDIC may take these unrealized gains 
(losses) into account as additional factors when assessing a bank's 
overall capital adequacy.
* * * * *
    4. In appendix A to part 325, Table I is revised to read as 
follows:

               Table I.-- Definition of Qualifying Capital              
------------------------------------------------------------------------
                                             Minimum requirements and   
               Components                          limitations          
------------------------------------------------------------------------
(1) Core Capital (Tier 1)..............  Must equal or exceed 4% of risk-
                                          weighted assets.              
(2) Common stockholders' equity capital  No limit.1                     
(3) Noncumulative perpetual preferred    No limit.\1\                   
 stock and any related surplus.                                         
(4) Minority interests in equity         No limit.\1\                   
 capital accounts of consolidated                                       
 subsidiaries.                                                          
(5) Less: All intangible assets other    (\2\)                          
 than mortgage servicing rights and                                     
 purchased credit card relationships.                                   
(6) Less: Certain deferred tax assets..  (\3\)                          

[[Page 46524]]

                                                                        
(7) Supplementary Capital (Tier 2).....  Total of Tier 2 is limited to  
                                          100% of Tier 1.4              
(8) Allowance for loan and lease losses  Limited to 1.25% of risk-      
                                          weighted assets.4             
(9) Unrealized gains on certain equity   Limited to 45% of pretax net   
 securities 5.                            unrealized gains.\5\          
(10) Cumulative perpetual and long-term  No limit within Tier 2; long-  
 preferred stock (original maturity of    term preferred is amortized   
 20 years or more) and any related        for capital purposes as it    
 surplus.                                 approaches maturity.          
(11) Auction rate and similar preferred  No limit within Tier 2.        
 stock (both cumulative and non-                                        
 cumulative).                                                           
(12) Hybrid capital instruments          No limit within Tier 2.        
 (including mandatory convertible debt                                  
 securities).                                                           
(13) Term subordinated debt and          Term subordinated debt and     
 intermediate-term preferred stock        intermediate term preferred   
 (original weighted average maturity of   stock are limited to 50% of   
 five years or more).                     Tier 1\4\ and amortized for   
                                          capital purposes as they      
                                          approach maturity.            
(14) Deductions (from the sum of Tier 1                                 
 plus Tier 2).                                                          
(15) Investments in banking and finance                                 
 subsidiaries that are not consolidated                                 
 for regulatory capital purposes.                                       
(16) Intentional, reciprocal cross-                                     
 holdings of capital securities issued                                  
 by banks.                                                              
(17) Other deductions (such as           On a case-by-case basis or as a
 investments in other subsidiaries or     matter of policy after formal 
 in joint ventures) as determined by      consideration of relevant     
 supervisory authority.                   issues.                       
(18) Total Capital (Tier 1 + Tier 2--    Must equal or exceed 8% of risk-
 Deductions).                             weighted assets.              
------------------------------------------------------------------------
\1\ No express limits are placed on the amounts of nonvoting common,    
  noncumulative perpetual preferred stock, and minority interests that  
  may be recognized as part of Tier 1 capital. However, voting common   
  stockholders' equity capital generally will be expected to be the     
  dominant form of Tier 1 capital and banks should avoid undue reliance 
  on other Tier 1 capital elements.                                     
\2\ The amounts of mortgage servicing rights and purchased credit card  
  relationships that can be recognized for purposes of calculating Tier 
  1 capital are subject to the limitations set forth in Sec.  325.5(f). 
  All deductions are for capital purposes only; deductions would not    
  affect accounting treatment.                                          
\3\ Deferred tax assets are subject to the capital limitations set forth
  in Sec.  325.5(g).                                                    
\4\ Amounts in excess of limitations are permitted but do not qualify as
  capital.                                                              
\5\ Unrealized gains on equity securities are subject to the capital    
  limitations set forth in paragraph I.A.2.(f) of Appendix A to part    
  325.                                                                  

    By order of the Board of Directors.

    Dated at Washington, DC, this 25th day of August, 1998.

Federal Deposit Insurance Corporation.
Robert E. Feldman,
Executive Secretary.

Office of Thrift Supervision

12 CFR Chapter V

    For the reasons set forth in the joint preamble, part 567 of 
chapter V of title 12 of the Code of Federal Regulations is amended as 
set forth below:

PART 567--CAPITAL

    1. The authority citation for part 567 continues to read as 
follows:

    Authority: 12 U.S.C. 1462, 1462a, 1463, 1464, 1467a, 1828 
(note).

    2. Section 567.5 is amended by adding a new paragraph (b)(5) to 
read as follows:


Sec. 567.5  Components of capital.

* * * * *
    (b) * * *
    (5) Unrealized gains on equity securities. Up to 45 percent of 
unrealized gains on available-for-sale equity securities with readily 
determinable fair values may be included in supplementary capital. 
Unrealized gains are unrealized holding gains, net of unrealized 
holding losses, before income taxes, calculated as the amount, if any, 
by which fair value exceeds historical cost. The OTS may disallow such 
inclusion in the calculation of supplementary capital if the Office 
determines that the equity securities are not prudently valued.
* * * * *
    Dated: August 6, 1998.

    By the Office of Thrift Supervision.
Ellen Seidman,
Director.
[FR Doc. 98-23379 Filed 8-31-98; 8:45 am]
BILLING CODE 4810-33-P; 6210-01-P, 6714-01-P; 6720-01-P