[Federal Register Volume 76, Number 30 (Monday, February 14, 2011)]
[Rules and Regulations]
[Pages 8265-8278]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-3199]



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 Rules and Regulations
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  Federal Register / Vol. 76, No. 30 / Monday, February 14, 2011 / 
Rules and Regulations  

[[Page 8265]]



FEDERAL RESERVE SYSTEM

12 CFR Part 225

Regulation Y; Docket No. R-1397
RIN 7100-AD58


Conformance Period for Entities Engaged in Prohibited Proprietary 
Trading or Private Equity Fund or Hedge Fund Activities

AGENCY: Board of Governors of the Federal Reserve System (``Board'').

ACTION: Final rule.

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SUMMARY: The Board is adopting a final rule to implement the 
conformance period during which banking entities and nonbank financial 
companies supervised by the Board must bring their activities and 
investments into compliance with the prohibitions and restrictions on 
proprietary trading and relationships with hedge funds and private 
equity funds imposed by section 619 of the Dodd-Frank Wall Street 
Reform and Consumer Protection Act (``Dodd-Frank Act''). Section 619 is 
commonly referred to as the ``Volcker Rule.'' The final rule is similar 
to the proposal issued for comment in November 2010. The Board, 
however, has incorporated a number of changes to the final rule to 
address issues raised by public commenters, to reduce potential 
regulatory burdens, and to clarify application of the rule.

DATES: The final rule is effective on April 1, 2011.

FOR FURTHER INFORMATION CONTACT: Brian P. Knestout, Senior Attorney, 
(202) 452-2249, Jeremy R. Newell, Senior Attorney, (202) 452-3239, 
Christopher M. Paridon, Senior Attorney, (202) 452-3274, or Kieran J. 
Fallon, Associate General Counsel, (202) 452-5270, Legal Division; 
David K. Lynch, Division of Banking Supervision and Regulation, Board 
of Governors of the Federal Reserve System, 20th Street and 
Constitution Avenue, NW., Washington, DC 20551. Users of 
Telecommunication Device for Deaf (TDD) only, call (202) 263-4869.

SUPPLEMENTARY INFORMATION:

I. Background

    The Dodd-Frank Act was enacted on July 21, 2010.\1\ Section 619 of 
the Dodd-Frank Act adds a new section 13 to the Bank Holding Company 
Act of 1956 (``BHC Act'') (to be codified at 12 U.S.C. 1851) that 
generally prohibits banking entities \2\ from engaging in proprietary 
trading or from investing in, sponsoring, or having certain 
relationships with a hedge fund or private equity fund.\3\ The new 
section 13 of the BHC Act also provides that nonbank financial 
companies supervised by the Board that engage in such activities or 
have such investments shall be subject to additional capital 
requirements, quantitative limits, or other restrictions.\4\ These 
prohibitions and other provisions of section 619 are commonly known, 
and referred to herein, as the ``Volcker Rule.''
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    \1\ Dodd-Frank Wall Street Reform and Consumer Protection Act, 
Public Law 111-203, 124 Stat. 1376 (2010).
    \2\ The term ``banking entity'' is defined in section 13(h)(1) 
of the BHC Act, as amended by section 619 of the Dodd-Frank Act. See 
12 U.S.C. 1851(h)(1). The term means any insured depository 
institution (other than certain limited-purpose trust institutions), 
any company that controls an insured depository institution, any 
company that is treated as a bank holding company for purposes of 
section 8 of the International Banking Act of 1978 (12 U.S.C. 3106), 
and any affiliate or subsidiary of any of the foregoing.
    \3\ The Volcker Rule defines the terms ``hedge fund'' and 
``private equity fund'' as an issuer that would be an investment 
company, as defined under the Investment Company Act of 1940 (15 
U.S.C. 80a-1 et seq.), but for section 3(c)(1) or 3(c)(7) of that 
Act, or any such similar funds as the appropriate Federal banking 
agencies, the Securities and Exchange Commission (``SEC''), and the 
Commodity Futures Trading Commission (``CFTC'') may, by rule, 
determine should be treated as a hedge fund or private equity fund. 
See 12 U.S.C. 1851(h)(2).
    \4\ See 12 U.S.C. 1851(a)(2) and (f)(4). A ``nonbank financial 
company supervised by the Board'' is a nonbank financial company or 
other company that has been designated by the Financial Stability 
Oversight Council (``FSOC'') under section 113 of the Dodd-Frank Act 
as requiring supervision and regulation by the Board on a 
consolidated basis because of the danger such company may pose to 
the financial stability of the United States.
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    The Board and several other agencies have responsibilities with 
respect to the Volcker Rule. As required by the Dodd-Frank Act, the 
FSOC recently issued a study of the Volcker Rule, which included 
several recommendations regarding the implementation of its 
prohibitions and restrictions.\5\ As a general matter, authority for 
developing and adopting regulations to implement the prohibitions and 
restrictions of the Volcker Rule is divided between the Board, the 
Office of the Comptroller of the Currency (``OCC''), the Federal 
Deposit Insurance Corporation (``FDIC''), the SEC and the CFTC in the 
manner provided in section 13(b)(2) of the BHC Act.\6\ The Board and 
these other agencies are directed to adopt implementing rules not later 
than 9 months after completion of the FSOC's study.\7\ The restrictions 
and prohibitions of the Volcker Rule become effective 12 months after 
issuance of final rules by the agencies, or July 21, 2012, whichever is 
earlier.
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    \5\ See FSOC, Study & Recommendations on Prohibitions on 
Proprietary Trading & Certain Relationships with Hedge Funds & 
Private Equity Funds (January 18, 2011), available at http://www.treasury.gov/initiatives/Documents/Volcker%20sec%20%20619%20study%20final%201%2018%2011%20rg.pdf.
    \6\ See 12 U.S.C. 1851(b)(2). The Secretary of the Treasury, as 
Chairperson of the FSOC, is responsible for coordinating the 
agencies' rulemakings under the Volcker Rule. See id. at Sec.  
1851(b)(2)(B)(ii).
    \7\ See id. at Sec.  1851(b)(2)(A).
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    The Board, however, is solely charged with adopting rules to 
implement the provisions of the Volcker Rule that provide a banking 
entity or a nonbank financial company supervised by the Board a period 
of time after the effective date of the Volcker Rule to bring the 
activities, investments, and relationships of the banking entity or 
company that were commenced, acquired, or entered into before the 
Volcker Rule's effective date into compliance with the Volcker Rule and 
the agencies' implementing regulations.\8\ This period is intended to 
give markets and firms an opportunity to adjust to the Volcker Rule.\9\
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    \8\ See id. at Sec.  1851(c)(6).
    \9\ See 156 Cong. Rec. S5898 (daily ed. July 15, 2010) 
(Statement of Senator Merkley).
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    In November 2010, the Board requested public comment on a proposed 
rule that would implement the conformance period provisions of the 
Volcker Rule.\10\ The proposed rule included the general two-year 
conformance period available to all banking entities and nonbank 
financial companies supervised by the Board, as well as the provisions 
of the Volcker

[[Page 8266]]

Rule that allow the Board to extend, by rule or order, this two-year 
period by up to three, one-year periods.\11\ In addition, the proposal 
implemented the special five-year extended transition period available 
for certain qualifying investments in hedge funds and private equity 
funds that are ``illiquid funds.'' \12\ The proposed rule also defined 
certain terms related to the conformance period, specified how an 
application or request for extension should be submitted, and 
identified the factors that the Board may consider when evaluating such 
a request. The public comment period on the proposed rule closed on 
January 10, 2011.
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    \10\ See 75 FR 72741 (Nov. 26, 2010).
    \11\ 12 U.S.C. 1851(c)(2).
    \12\ 12 U.S.C. 1851(c)(3), (c)(4), and (h)(7).
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II. Overview of Comments

    The Board received 12 comments on the proposed rule. Commenters 
included financial trade associations, banking entities, individuals, 
and a member of Congress. In general, commenters supported the proposed 
rule but recommended one or more changes to specific provisions of the 
proposal. A majority of the commenters focused on the 5-year extended 
transition period available to banking entities to the extent necessary 
to fulfill a contractual obligation in place on May 1, 2010, to take or 
retain an interest in a hedge fund or private equity fund that 
qualifies as an ``illiquid fund'' under the Volcker Rule. For example, 
some commenters suggested that the Board broaden its definition of 
``illiquid assets,'' which is used in determining whether a hedge fund 
or private equity fund is an illiquid fund. Others requested that the 
Board lower the proposed rule's requirement that at least 75 percent of 
a fund's assets be invested in ``illiquid assets'' (either as of May 1, 
2010, or on a future date) in order for the fund to qualify for the 
extended transition period. Many commenters also asserted that the 
proposed rule's definition of when a banking entity has a ``contractual 
obligation'' to invest or remain invested in an illiquid fund was too 
narrow and would limit the number of hedge funds and private equity 
funds that could take advantage of the extended transition period for 
illiquid funds.
    Some commenters also asked that the Board, in the final rule, 
address several aspects of the Volcker Rule that were not covered by 
the proposal. For instance, some commenters requested that the final 
rule state that section 13 of the BHC Act does not prohibit insurance 
companies from conducting their normal business operations, or does not 
prohibit foreign companies from engaging in prohibited proprietary 
trading in the securities of U.S. companies if such trades were booked 
outside of the United States.
    Additionally, some commenters addressed the procedural aspects of 
the proposed rule governing the receipt and review of applications for 
an extension of the conformance period. For example, some commeters 
requested that the rule permit the Board to grant all possible 
extensions to a banking entity at a single time. Other commenters 
suggested that the final rule permit banking entities to submit a 
request for extension well in advance of the date an extension might be 
needed, and expressly provide for a standard time period for the Board 
to review any extension requests. The comments received on the proposed 
rule are discussed in greater detail in the following parts of this 
SUPPLEMENTARY INFORMATION.

III. Explanation of Final Rule

    In developing this final rule, the Board has carefully considered 
the comments received on the proposal, as well as the language and 
legislative history of the Volcker Rule, and the Board's experience in 
supervising and regulating banking entities' trading activities and 
investments in, or relationships with, hedge funds and private equity 
funds. The Board also consulted with the Department of the Treasury, 
the OCC, the FDIC, the SEC, and the CFTC.
    After this review, the Board has determined to adopt a final rule 
that is substantially similar to the proposed rule. However, in 
response to comments, the Board has modified the proposed rule in a 
number of respects. For example, the Board has--
     Expanded the conditions under which an asset may be 
considered an ``illiquid asset'' to include situations where an asset 
is subject to a contractual restriction on sale or redemption for a 
period of 3 years or more;
     Broadened the types of documents that may be considered in 
determining whether a hedge fund or private equity fund is 
``contractually committed'' to principally invest in illiquid assets or 
whether a banking entity that has sponsored a hedge fund or private 
equity fund is ``contractually obligated'' to invest or remain invested 
in the fund;
     Extended, from 90 days to 180 days, the number of days in 
advance a request for an extension of the conformance period by a 
specific company must be filed with the Board; and
     Clarified that the Board expects to act on extension 
requests within 90 days from receipt of a complete record.
    These changes as well as the Board's responses to the comments 
received are discussed in greater detail below.
    The final rule does not address definitional or other aspects of 
the Volcker Rule that are subject to, or more appropriately addressed 
as part of, the separate interagency rulemaking to be conducted under 
section 13(b)(2) of the BHC Act.\13\ For example, the final rule 
incorporates without modification the definitions of ``banking 
entity,'' ``hedge fund,'' and ``private equity fund'' contained in the 
Dodd-Frank Act. In addition, the final rule does not address several 
topics suggested by commenters--such as, for example, the general 
application of the Volcker Rule to banking entities that are insurance 
companies or foreign entities, or whether banking entities should also 
have an extended period of time to conform investments in funds that do 
not qualify for the statute's extended transition period for illiquid 
funds--that are appropriately addressed through the coordinated 
interagency rulemaking process provided for in section 13(b)(2) of the 
BHC Act.\14\ The Board expects to review the final rule after 
completion of the interagency rulemaking process under section 13(b)(2) 
to determine whether modifications or adjustments to the rule are 
appropriate in light of the final rules adopted under that section.
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    \13\ See id. at Sec.  1851(b)(2).
    \14\ See, e.g., 12 U.S.C. 1851 (d)(1)(F), (H), (I), and (J).
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A. General Conformance Period

    The prohibitions and restrictions of the Volcker Rule do not take 
effect until the earlier of July 21, 2012, or 12 months after the 
issuance of final regulations by the rulewriting agencies under section 
13(b)(2) of the BHC Act. However, in order to allow the markets and 
firms to adjust to these prohibitions and restrictions, the Volcker 
Rule, by its terms and without any action by the Board, provides 
banking entities and nonbank financial companies supervised by the 
Board an additional conformance period during which the entity or 
company can wind down, sell, or otherwise conform its activities, 
investments, and relationships to the requirements of the Volcker Rule. 
Under the statute, this conformance period generally extends through 
the date that is 2 years after the date on which the prohibitions 
become effective or, in the case of a nonbank financial company 
supervised by the Board, 2 years after the company is designated by the 
FSOC for supervision by the Board, if that period is later.

[[Page 8267]]

    Section 225.181(a) of the final rule implements these provisions. 
In addition, section 225.181(a)(2) of the final rule clarifies how the 
conformance period applies to a company that first becomes a banking 
entity after July 21, 2010 (the date of enactment of the Dodd-Frank 
Act), because, for example, the company acquires or becomes affiliated 
with an insured depository institution for the first time. In these 
circumstances, the restrictions and prohibitions of the Volcker Rule 
would first become effective with respect to the company only at the 
time it became a banking entity. Accordingly, the final rule (like the 
proposal) provides that such a company generally must bring its 
activities, investments, and relationships into compliance with the 
requirements of the Volcker Rule before the later of: (i) The date the 
Volcker Rule's prohibitions would otherwise become effective with 
respect to the company under section 225.181(a)(1) of the rule; or (ii) 
2 years after the date on which the company first becomes a banking 
entity. Thus, for example, a company that first becomes a banking 
entity on January 1, 2015, would have until January 1, 2017, to bring 
its activities and investments into conformance with the requirements 
of section 13 of the BHC Act and its implementing regulations. In this 
way, the final rule provides comparable treatment to ``new'' banking 
entities and nonbank financial companies supervised by the Board, and 
is consistent with the manner in which newly established bank holding 
companies are treated for purposes of the nonbanking restrictions under 
section 4 of the BHC Act.\15\
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    \15\ See 12 U.S.C. 1843(a)(2).
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B. Extension of Conformance Period

    The Volcker Rule also permits the Board, by rule or by order, to 
extend the generally available two-year conformance period by up to 
three additional one-year periods, for an aggregate conformance period 
of 5 years.\16\ In order to grant any extension, the Board must 
determine that the extension is consistent with the purposes of the 
Volcker Rule and would not be detrimental to the public interest.\17\ 
The process and standards for obtaining a one-year extension are 
discussed in Part III.E of this SUPPLEMENTARY INFORMATION.
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    \16\ 12 U.S.C. 1851(c)(2).
    \17\ Id.
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    Several commenters requested that the Board modify the rule to 
allow the Board to grant a banking entity at one time all three of the 
one-year extensions potentially available under section 13(c)(2) of the 
BHC Act.\18\ One commenter, however, suggested that multiple extensions 
of the conformance period would not be in keeping with the purpose of 
the Volcker Rule and urged the Board to restrict extensions to a single 
one-year general extension (with potentially one additional one-year 
extension in the case of an illiquid fund investment). Section 13(c)(2) 
of the BHC Act specifically provides that the ``Board may, by rule or 
order, extend [the general two-year conformance period] for not more 
than one year at a time,'' with a maximum of three, one-year 
extensions.\19\ Accordingly, the Board has modified the rule to clarify 
that the Board may only grant up to three separate one-year extensions 
of the general conformance period (and may not grant all three one-year 
extensions at a single time).
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    \18\ If the extension request pertained to an investment in an 
illiquid fund, some commenters also requested that the rule allow 
the Board, at the same time, to also approve a five-year extended 
transition period for the investment.
    \19\ See 12 U.S.C. 1851(c)(2) (emphasis added).
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    Several commenters requested that the Board clarify that the final 
rule provides a conformance period for both investments in hedge funds 
and private equity funds and activities prohibited under the Volcker 
Rule. The general conformance period (including any extension thereof) 
is available to both banking entities and nonbank financial companies 
supervised by the Board for activities commenced prior to the Volcker 
Rule's effective date and applies to any activities, investments and 
relationships that may be prohibited or restricted by the Volcker Rule.

C. Extended Transition Period for Illiquid Funds

    Section 619 of the Dodd-Frank Act includes a special provision to 
address the difficulty banking entities may experience in conforming 
investments in illiquid funds. This provision expressly permits a 
banking entity to request the Board's approval for an additional 
extension of up to 5 years in order to permit the banking entity to 
meet contractual commitments in place as of May 1, 2010, to a hedge 
fund or private equity fund that qualifies as an ``illiquid fund.'' 
Specifically, the statute provides that the Board may extend the period 
during which a banking entity may take or retain an ownership interest 
in, or otherwise provide additional capital to, an illiquid fund, but 
only if the extension is necessary to allow the banking entity to 
fulfill a contractual obligation that was in effect on May 1, 2010.\20\ 
The statute also provides that any extended transition period granted 
with respect to an illiquid fund automatically terminates on the date 
during any such extension on which the banking entity is no longer 
under a contractual obligation to invest in, or provide capital to, the 
illiquid fund.
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    \20\ Id. at Sec.  1851(c)(3)(A).
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    As provided in the Volcker Rule, the Board may grant a banking 
entity only one extended transition period with respect to any illiquid 
fund, which may not exceed 5 years.\21\ Any extended transition period 
granted may be in addition to the conformance period available under 
other provisions of the Volcker Rule.\22\ The purpose of this extended 
transition or ``wind-down'' period for investments in an illiquid fund 
is to minimize disruption of existing investments in illiquid funds and 
permit banking entities to fulfill existing obligations to illiquid 
funds while still steadily moving banking entities toward conformance 
with the prohibitions and restrictions of the Volcker Rule.\23\
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    \21\ The statute provides that a banking entity may apply for a 
single extension with respect to an illiquid fund, and that such 
extension may not exceed 5 years. In light of the statutory 
language, and as noted in the notice of proposed rulemaking, the 
Board retains the right to grant an extended transition period of 
less than 5 years if, based on all the facts and circumstances, it 
determines a limited extension is appropriate.
    \22\ Id. at Sec.  1851(c)(3)(B).
    \23\ See 156 Cong. Rec. S5899 (daily ed. July 15, 2010) 
(statement of Sen. Merkley).
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    Section 225.181(b) of the final rule implements the statute's 
extended transition period for illiquid funds.\24\ As a general matter, 
and consistent with the terms of the Volcker Rule, the final rule

[[Page 8268]]

requires that a banking entity's investment in, or relationship with, a 
hedge fund or private equity fund must meet two sets of criteria to 
qualify for the statute's extended transition period. The first set of 
criteria focuses on the nature, assets and investment strategy of the 
hedge fund or private equity fund itself. The second set of criteria 
focuses on the terms of the banking entity's investment in the hedge 
fund or private equity fund.
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    \24\ Section 13(h)(7)(B) of the BHC Act provides that, for 
purposes of the definition of an ``illiquid fund,'' the term ``hedge 
fund'' shall not include a ``private equity fund,'' as such term is 
used in section 203(m) of the Investment Advisors Act of 1940 (15 
U.S.C. 80b-3(m)).'' See 12 U.S.C. 1851(h)(7)(B). However, section 
203(m) of the Investment Advisors Act, as added by section 408 of 
the Dodd-Frank Act, does not contain a definition of, nor does it 
use the term, ``private equity fund.'' Moreover, as the Board noted 
in the proposal, Congress' intent in adopting this exclusion is 
unclear. For example, a fund that invests primarily in nonpublic 
portfolio companies, which are commonly referred to in the 
investment community as ``private equity funds,'' appears to be the 
type of fund that the Volcker Rule intended to potentially qualify 
as an ``illiquid fund.'' The Board does not believe that it is 
necessary to resolve the ambiguity surrounding this provision 
because the exclusion would not have any effect on the ability of a 
fund to qualify as an illiquid fund. This is because the Volcker 
Rule defines a ``hedge fund'' and a ``private equity fund'' 
synonymously. 12 U.S.C. 1851(h)(2). Thus, any illiquid fund that 
would have been excluded from the definition of ``hedge fund'' 
because it met the missing definition of a ``private equity fund'' 
in the Investment Advisors Act could still qualify for the extended 
conformance period afforded to illiquid funds as a ``private equity 
fund'' under the Volcker Rule itself.
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1. Fund-Focused Criteria
    As noted above, the extended transition period under section 
13(c)(3) of the BHC Act is available only with respect to investments 
made in an ``illiquid fund,'' and then only with respect to investments 
in or obligations to these funds made as of May 1, 2010. In accordance 
with the language of the Volcker Rule, the final rule retains the 
definition of an ``illiquid fund'' to mean a hedge fund or private 
equity fund that: (i) As of May 1, 2010, was principally invested in 
illiquid assets, or was invested in, and contractually committed to 
principally invest in, illiquid assets; and (ii) makes all investments 
pursuant to, and consistent with, an investment strategy to principally 
invest in illiquid assets.\25\ In determining how to implement the 
definition of an illiquid fund, the Board has considered, among other 
things, the terms of the statute, as well as public comments submitted 
on the proposed rule, information (including confidential supervisory 
information) concerning the terms of investments in hedge funds or 
private equity funds, the characteristics of liquid and illiquid 
assets, and the ability of a fund to divest assets held by the fund.
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    \25\ 12 CFR 225.180(f).
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    a. ``Illiquid Asset.''
    The final rule, like the proposal, generally defines an ``illiquid 
asset'' as any asset that is not a liquid asset. In turn, the final 
rule defines ``liquid assets'' to include:
     Cash or cash equivalents;
     Any asset that is traded on a recognized, established 
exchange, trading facility or other market on which there exist 
independent, bona fide offers to buy and sell so that a price 
reasonably related to the last sales price or current bona fide 
competitive bid and offer quotations can be determined for the asset 
almost instantaneously;
     Any asset for which there are bona fide, competitive bid 
and offer quotations in a recognized inter-dealer quotation system or 
similar system or for which multiple dealers furnish bona fide, 
competitive bid and offer quotations to other brokers and dealers on 
request;
     Any asset the price of which is quoted routinely in a 
widely disseminated publication that is readily available to the 
general public or through an electronic service that provides 
indicative data from real-time financial networks;
     Any asset with an initial term of one year or less and the 
payments on which at maturity may be settled, closed-out, or paid in 
cash or one or more other liquid assets described above; and
     Any other asset that the Board determines, based on all 
the facts and circumstances, is a liquid asset.\26\
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    \26\ 12 CFR 225.180(h).
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    These standards are designed to capture the wide range of 
instruments and assets (or their equivalents) that one actively or 
routinely trades on markets or trading facilities, or for which bid, 
offer or price quotations are widely available. For example, these 
standards would treat as a liquid asset: (i) Equity and debt 
securities, derivatives, and commodity futures traded on a registered 
securities exchange, board of trade, alternative trading system, 
electronic trading platform or similar market that provides 
independent, bona fide offers to buy and sell; (ii) assets traded on an 
electronic inter-dealer quotation system, such as OTC Bulletin Board or 
the system maintained by PINK OTC Markets, Inc., as well as over-the-
counter derivatives, debt securities (such as corporate bonds), and 
syndicated commercial loans for which active inter-dealer markets 
exist; and (iii) financial instruments for which indicative price data 
is supplied by an electronic service, such as Markit Group Limited.
    The standards contained in the second, third, and fourth standards 
above are based on existing standards in the Federal banking and 
securities laws that are designed to identify securities that are 
liquid and may be sold promptly at a price that is reasonably related 
to its fair value. Specifically, the second standard above is based in 
part on the SEC's definition of securities for which a ``ready market'' 
exists for purposes of the net capital rules applicable to broker-
dealers under the Securities Exchange Act of 1934 (``Exchange 
Act'').\27\ Similarly, the third standard above is based, in part, on 
the actions regularly taken by a ``qualified OTC market maker'' as 
defined in the SEC's Rule 3b-8, with respect to securities under the 
Exchange Act.\28\ The fourth standard above is based, in part, on the 
criteria used to identify whether a security or other asset is a 
``marketable security'' or a ``liquid asset'' for purposes of the 
Board's Regulation W governing transactions between member banks and 
their affiliates.\29\ In each instance, the Board has modified the 
standard as incorporated into the final rule to reflect the broader 
range of financial instruments (including derivatives) or other assets 
that may be held by a hedge fund or private equity fund and that should 
be considered ``liquid'' if traded or quoted in the manner described.
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    \27\ See 15 CFR 240.15c3-1(c)(11)(i).
    \28\ See 15 CFR 240.3b-8(a).
    \29\ See 12 CFR 223.42(e) and (f)(5).
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    The fifth standard is designed to capture instruments with a 
relatively short (one year or less) duration and that can be monetized 
or converted at maturity into a liquid asset. In light of these 
features, the Board believes it is appropriate to treat such 
instruments as liquid assets for purposes of the Volcker Rule's 
conformance period. The final rule recognizes that there may be 
situations where other, non-enumerated assets may be liquid even though 
they are not included in the standards contained in sections 
225.181(h)(1)-(5) of the final rule. In order to address these 
situations, the Board has expressly retained the ability to determine 
that any other asset is a liquid asset, based on all the facts and 
circumstances.
    On the other hand, consistent with the language of the Volcker 
Rule, the definition of illiquid assets in the final rule should 
generally encompass investments made by hedge funds or private equity 
funds in privately-held portfolio companies, real estate (other than 
those made through publicly traded REITs), and venture capital 
opportunities, as well as investments in other hedge funds or private 
equity funds where such investments do not qualify as liquid 
assets.\30\ The Volcker Rule specifically refers to portfolio company 
investments, real estate investments, and venture capital investments 
as examples of the types of investments that should normally be

[[Page 8269]]

considered illiquid assets for these purposes.\31\
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    \30\ Some commenters requested that the Board specifically 
include in the definition of ``illiquid asset'' any investment in 
real estate or a portfolio company and venture capital investments. 
While the Board agrees that such investments are typically illiquid, 
the Board does not believe it appropriate to include as illiquid 
assets all investments that potentially could be characterized as a 
real estate, portfolio company, or venture capital investment. For 
example, the Board believes that an investment in the equity 
securities of a small or recently established company should be 
considered a liquid asset for purposes of the Volcker Rule if such 
equity securities are traded on a national security exchange.
    \31\ 12 U.S.C. 1851(h)(7)(A)(i)
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    In addition, the final rule, like the proposed rule, provides that 
an asset--including a liquid asset such as a security--may be 
considered an ``illiquid asset'' if, because of statutory or regulatory 
restrictions applicable to the hedge fund, private equity fund or 
asset, the asset cannot be offered, sold, or otherwise transferred by 
the hedge fund or private equity fund to a person that is unaffiliated 
with the banking entity. This exception to the general ``liquid asset'' 
definition recognizes that funds frequently acquire assets that are 
normally liquid in transactions that cause the asset to be subject to 
one or more statutory or regulatory restrictions under the Federal 
securities laws that temporarily prohibit the transferability or resale 
of the security. For example, hedge funds or private equity funds often 
acquire equity securities in private transactions that result in the 
security being subject to restrictions on resale (such as under Rule 
144A of the Securities Act of 1933).\32\ Several commenters requested 
that the final rule also permit an asset to be an illiquid asset due to 
contractual restrictions on sale or transfer (in addition to statutory 
or regulatory restrictions). In response to comments, the Board has 
modified the final rule to provide that an asset may be considered an 
illiquid asset if contractual restrictions applicable to the hedge 
fund, private equity fund or asset prohibit the fund from offering, 
selling, or otherwise transferring the asset to a person that is 
unaffiliated with the relevant banking entity for a period of 3 or more 
years.
---------------------------------------------------------------------------

    \32\ See 15 CFR 230.144a.
---------------------------------------------------------------------------

    Similarly, the proposed rule also provided that an asset would be 
considered illiquid only for so long as the relevant statutory or 
regulatory restriction was applicable. In light of the foregoing, as 
well as the forward-looking nature of the ``principally invested'' and 
``contractually committed'' to principally invest in illiquid assets 
tests discussed below, the Board has removed those provisions of the 
proposal. Accordingly, assets subject to the type of statutory, 
regulatory, or contractual restrictions specified in the final rule 
would generally be considered illiquid assets for purposes of the 
Volcker Rule. However, because these restrictions may lapse at a future 
date (including prior to the point in time when a banking entity 
submits its request for an extended transition period), the final rule 
has been modified to specifically provide that, in connection with its 
review of a banking entity's request for an extended transition period, 
the Board will consider the extent to which the fund's current assets 
are no longer illiquid (e.g. due to the lapse of applicable 
restrictions on an investment because a previously illiquid venture 
capital or portfolio company investment has become liquid, such as 
through the initial public offering of the company's stock).
    Some commenters requested that the Board broaden the definition of 
``illiquid assets'' to specifically include assets that would otherwise 
meet the rule's definition of a liquid asset, but that the relevant 
fund may have difficulty selling (or selling at a price the fund 
believes to be reasonable) because the size of the fund's position in 
the security or instrument is large relative to daily trading volume in 
the security or instrument or the outstanding number of securities or 
instruments of the same class or type. Some commenters also requested 
that the rule provide the Board flexibility to determine, on a case-by-
case basis, that an asset that otherwise meets the definition of a 
liquid asset was illiquid. Similarly, some commenters asked that the 
rule specifically provide that a liquid asset could be considered 
illiquid due to adverse market conditions that might make it difficult 
for the fund to sell the security or instrument or sell it at a price 
the fund believes is reasonable.
    The Board recognizes that market conditions (including trading 
volumes) at the time a security or instrument is being sold may have a 
material effect on the price of the security or instrument. However, by 
including only investments in portfolio companies, real estate 
investments, and venture capital investments as examples of illiquid 
assets, the Volcker Rule itself suggests that the term ``illiquid 
asset'' was intended to encompass only those types of investments that 
are illiquid by their nature, rather than those that may be illiquid 
due only to prevailing market conditions or the size of a particular 
fund's holdings of the security or instrument. This intent is 
reinforced by the fact that the statute requires that a banking entity 
determine whether a hedge fund or private equity fund is an illiquid 
fund as of May 1, 2010.\33\ If the status of an investment by a fund as 
a liquid or illiquid asset was dependent on market conditions at a 
future date, it would be difficult or impossible for banking entities 
and the Board to determine which funds qualify as illiquid funds and, 
potentially, all hedge funds and private equity funds could qualify as 
illiquid funds. The statute provides a general conformance period of up 
to 5 years for any asset, which should assist banking entities in 
transitioning large positions or assets to the requirements of the 
Volcker Rule. Moreover, as discussed in Part III.E below, for those 
funds that do qualify as illiquid funds, the Board may consider market 
conditions, as well as the actions taken by the banking entity to 
divest the impermissible investment, in determining whether to grant up 
to a 5-year extended transition period with respect to the fund. For 
these reasons, the Board has not modified the rule to allow an asset to 
be considered illiquid based on market conditions or the absolute or 
relative size of a fund's holdings.
---------------------------------------------------------------------------

    \33\ 12 U.S.C. 1851(h)(7)(A)(i).
---------------------------------------------------------------------------

    b. ``Principally invested.''
    The statute's fund-related criteria also require that the hedge 
fund or private equity fund either (1) have been principally invested 
in illiquid assets as of May 1, 2010, or (2) have been invested to some 
degree in illiquid assets and contractually committed to principally 
invest in illiquid assets as of such date. In addition, in either case, 
the fund must make all of its investments pursuant to, and consistent 
with, an investment strategy to principally invest in illiquid assets. 
The proposed rule provided that a hedge fund or private equity fund 
would be considered to be ``principally invested'' in illiquid assets 
if at least 75 percent of the fund's consolidated total assets are, or 
were expected to be, comprised of illiquid assets or risk-mitigating 
hedges entered into in connection with, and related to, individual or 
aggregated positions in, or holdings of, illiquid assets. The proposal 
allowed a fund to count risk-mitigating hedging positions that are 
related to the fund's holdings of illiquid assets towards the 75 
percent asset test because such positions are, by definition, 
associated with the fund's illiquid holdings.
    Commenters supported the inclusion of risk-mitigating hedging 
positions related to illiquid assets in the determination of whether a 
fund is ``principally invested'' in illiquid assets.\34\ However, many 
commenters asserted that the proposed 75 percent threshold for a fund 
to be principally invested in illiquid assets was too high and 
requested that a lower threshold--no higher than approximately 50 
percent--be included in the final rule. Many of these commenters noted 
that

[[Page 8270]]

the Board had previously interpreted the phrase ``engaged principally'' 
in section 20 of the Glass-Steagall Act (previously codified at 12 
U.S.C. 377) to mean between 5 percent and 25 percent of the relevant 
firm's revenue.\35\ On the other hand, one commenter asserted that the 
75 percent test was appropriate.
---------------------------------------------------------------------------

    \34\ The Board expects to interpret the language concerning 
risk-mitigating hedges consistent with the manner in which such 
language is implemented through the rulemaking process conducted 
under section 13(b)(2) of the BHC Act.
    \35\ Revenue Limit on Bank-Ineligible Activities of Subsidiaries 
of Bank Holding Companies Engaged in Underwriting and Dealing in 
Securities, 61 FR 68750 (Dec. 30, 1996); see also J.P. Morgan & Co., 
Inc., The Chase Manhattan Corp., Bankers Trust New York Corp., 
Citicorp, and Security Pacific Corp., 75 Federal Reserve Bulletin 
192 (1989); Citicorp, J.P. Morgan & Co., and Bankers Trust New York 
Corp., 73 Federal Reserve Bulletin 473 (1987).
---------------------------------------------------------------------------

    The Board continues to believe that 75 percent is an appropriate 
threshold for determining whether a fund is ``principally invested'' in 
illiquid assets for purposes of the Volcker Rule. As noted in the 
proposed rule, many types of hedge funds and private equity funds have 
investment strategies that focus almost exclusively on one type of 
illiquid assets, such as real estate or start-up companies (including 
new or emerging companies in the technology, life sciences, alternative 
energy, or ``clean tech'' areas).\36\ These types of hedge funds and 
private equity funds typically request capital contributions from their 
investors only when particular investment opportunities have been 
identified and hold only a small portion of their assets in cash or 
other liquid assets (other than during brief periods pending the 
investment of capital or the distribution of proceeds from the sale of 
an investment). The Board continues to believe that by limiting the 
availability of the extended transition period to hedge funds or 
private equity funds that ``principally invest'' in and have an 
investment strategy to principally invest in illiquid assets, such as 
real estate, nonpublic portfolio companies, and venture capital 
opportunities, Congress appears to have intended the extended 
transition period to be available to those types of funds that 
principally focus and direct their capital towards investments in 
illiquid assets. Moreover, the Volcker Rule's extended transition 
period is available only to banking entities that are contractually 
obligated to invest or remain invested in the fund. Funds that have (or 
expect to have) a substantial majority of their investments in illiquid 
assets are more likely to prohibit investors from withdrawing their 
investments prior to the expiration of the general conformance period 
under the Volcker Rule (which, as noted above, may potentially extend 
to 2017).
---------------------------------------------------------------------------

    \36\ Accordingly, institutional investors, such as pension plans 
and endowments, that seek exposure to different types of assets 
typically invest in a range of different types of hedge funds or 
private equity funds to obtain diversification across asset classes.
---------------------------------------------------------------------------

    As the courts have recognized, statutory terms must be read in 
light of the purposes of the relevant statutory provision and, thus, 
the same or similar terms may appropriately be interpreted differently 
when used in different acts.\37\ The Board notes, moreover, that while 
commenters requested a lower threshold, commenters did not provide 
specific examples of funds that would potentially satisfy the 
``principally invested'' asset test if it was set at 50 percent as 
opposed to 75 percent or supporting explanations as to why treating 
such funds as illiquid funds would be more consistent with the purposes 
of the Volcker Rule.
---------------------------------------------------------------------------

    \37\ See Environmental Defense v. Duke Energy Corp., 549 U.S. 
561, 575 (2007); see also U.S. v. Cleveland Indians Baseball Co., 
532 U.S. 200, 213 (2001); Robinson v. Shell Oil Co., 519 U.S. 337, 
343-344 (1997).
---------------------------------------------------------------------------

    As noted above, by the terms of the statute, a fund qualifies as an 
illiquid fund if, as of May 1, 2010, it (i) was ``principally invested 
in illiquid assets,'' or (ii) was invested in illiquid assets to some 
degree and contractually committed to principally invest in illiquid 
assets. In addition, the fund must actually make all of its investments 
(including investments made after May 1, 2010,) pursuant to and 
consistent with an investment strategy to principally invest in 
illiquid assets.\38\
---------------------------------------------------------------------------

    \38\ See 12 U.S.C. 1851(h)(7)(i) and (ii).
---------------------------------------------------------------------------

    The final rule provides that the determination of whether a fund 
was ``principally invested'' in illiquid assets as of May 1, 2010, must 
be made based on the fund's financial statements prepared in accordance 
with U.S. Generally Accepted Accounting Principles (``GAAP'') or other 
applicable accounting standards. Several commenters noted that funds 
often prepare their financial statements at the end of each calendar 
quarter and, thus, may not have financial statements dated as of May 1, 
2010. In recognition of this, a banking entity may use a fund's most 
recent financial statements prepared under GAAP or other appropriate 
accounting standards as of any date between February 28, 2010, and May 
1, 2010, to determine whether the fund was principally invested in 
illiquid assets as of May 1, 2010. Thus, if a fund prepares financial 
statements at the end of each calendar quarter, the banking entity 
could use the fund's financial statements as of March 30, 2010, to 
determine whether the fund was principally invested in illiquid assets 
as of May 1, 2010 (assuming the fund did not prepare additional 
financial statements between March 30 and May 1, 2010).
    Under the proposed rule, a fund would have been considered to be 
``contractually committed to principally invest'' in illiquid assets as 
of May 1, 2010, if the fund's organizational documents (such as the 
limited partnership agreement in the case of a fund organized in this 
manner), or other documents that constitute a contractual obligation of 
the fund (such as a binding side letter agreement entered into with 
investors) that was in effect as of May 1, 2010, provided for the fund 
to be principally invested in illiquid assets. The proposed rule would 
have required that any such contractual commitments require the fund to 
be principally invested in illiquid assets during the period beginning 
on the date when capital contributions are first received by the fund 
for the purpose of making investments and ending on the fund's expected 
termination date. Additionally, the proposed rule provided that a fund 
would be considered to have an ``investment strategy to principally 
invest'' in illiquid assets if the fund either: (i) markets or holds 
itself out to investors as intending to principally invest in illiquid 
assets; or (ii) has a documented investment policy of principally 
investing in illiquid assets.
    The Board has made several changes to the corresponding provisions 
of the final rule in response to comments received on the proposal. 
First, the Board has modified the final rule to provide that, in 
determining whether a fund is contractually committed to principally 
invest, or has an investment strategy to principally invest, in 
illiquid assets, a banking entity may take into account written 
representations contained in the fund's offering documents regarding 
its investment obligations and strategy (in addition to the fund's 
organizational documents). Funds typically are bound to comply with any 
written representations contained in the fund's private placement 
memorandum or other offering documents and a fund's failure to do so 
may subject the fund to liability under the Federal securities 
laws.\39\
---------------------------------------------------------------------------

    \39\ See, e.g., 17 CFR 240.10b-5. Some commenters requested that 
the Board provide that a fund is ``contractually committed'' to 
principally invest in illiquid assets if that was consistent with 
the reasonable expectations of investors in the fund. The Board has 
not modified the rule in this manner because such expectations may 
not represent a legally binding obligation of the fund and would be 
difficult to verify, thus potentially allowing evasions of the 
Volcker Rule.
---------------------------------------------------------------------------

    Second, the final rule has been modified so that a fund will be

[[Page 8271]]

considered ``contractually committed to principally invest'' in 
illiquid assets if the fund's organizational documents or offering 
documents provide for the fund to be principally invested in illiquid 
assets at all times other than during limited temporary periods. Some 
commenters noted that, after its initial pre-investment organizational 
period, an illiquid fund may naturally experience certain limited 
periods of time when more than 25 percent of its assets may be in 
liquid assets, such as when investments are exited and capital has not 
yet been reinvested or distributed to investors.
    Several commenters also asked that the Board clarify when the 
determination of whether a fund is ``contractually committed to 
principally invest'' in illiquid assets must be made and how such 
determination should be made with respect to investments not yet made. 
The Volcker Rule expressly provides that the determination of whether a 
fund is ``contractually committed to principally invest'' in illiquid 
assets is to be made ``as of May 1, 2010.'' \40\ Thus, a fund that was 
contractually committed to principally invest in illiquid assets on May 
1, 2010, would meet this prong of the test to be an illiquid fund.
---------------------------------------------------------------------------

    \40\ 12 U.S.C. 1851(h)(7)(A)(i).
---------------------------------------------------------------------------

    In considering whether a hedge fund or private equity fund's 
organizational documents, marketing materials, or investment policy 
provide for the fund to principally invest in illiquid assets, banking 
entities should consider whether the assets to be acquired by the fund 
(as specified in such materials) are of the type and nature that would 
make the assets ``illiquid assets'' or ``liquid assets'' for purposes 
of the rule. For example, if a fund's investment strategy provides for 
the fund to primarily invest in publicly traded stocks or OTC 
derivatives that are regularly bought and sold in the inter-dealer 
market, the fund would not be considered to have an investment strategy 
to principally invest in illiquid assets. This would be the case even 
if the fund's investment strategy did not indicate that the assets 
acquired by the fund must be traded on a recognized exchange, trading 
facility, or market of the type described in section 225.180(h)(2) or 
quoted on inter-dealer systems of the type described in section 
225.180(h)(3). On the other hand, a fund generally would be considered 
to have an investment policy of principally investing in illiquid 
assets if the fund's organizational documents or offering materials 
provide for the fund to invest in the equity of early-stage nonpublic 
companies, even if the fund's documents do not specify that the equity 
of such companies must not be traded or quoted in the manner described 
in section 225.180(h)(2)-(4). This would be true even if such 
investments may later be converted into publicly traded securities of 
the company (such as, for example, in connection with an initial public 
offering of the company) in order to facilitate the fund's sale of the 
investment.
2. Criteria Focused on the Banking Entity's Investment
    Besides meeting the criteria described above, a banking entity's 
interest in a hedge fund or private equity fund may qualify for the 
extended transition period in section 13(c)(3) of the BHC Act only if 
the banking entity's retention of that ownership interest in the fund, 
or provision of additional capital to the fund, is necessary to fulfill 
a contractual obligation of the banking entity that was in effect on 
May 1, 2010.\41\ This statutory restriction complements and reinforces 
the fund-related criteria discussed above because a fund that is 
principally invested in liquid assets is unlikely to require its 
investors to commit to remaining invested in the fund for, or provide 
additional capital over, the extended period of time covered by the 
Volcker Rule's extended transition period.
---------------------------------------------------------------------------

    \41\ 12 U.S.C. 1851(c)(3)(A).
---------------------------------------------------------------------------

    The proposed rule provided that a banking entity would be 
considered to have a ``contractual obligation'' to remain invested in a 
fund only if the banking entity, under the contractual terms of its 
equity, partnership, or other ownership interest in the fund or other 
contractual arrangements with the fund that were in effect as of May 1, 
2010, is prohibited from both: (i) Redeeming all of its equity, 
partnership, or other ownership interests in the fund; and (ii) selling 
or otherwise transferring all such ownership interests to a person that 
is not an affiliate of the banking entity. Similarly, the proposed rule 
specified that a banking entity has a contractual obligation to provide 
additional capital to an illiquid fund only if the banking entity is 
required, under the contractual terms of its equity, partnership, or 
other ownership interest in the fund or other contractual arrangements 
with the fund (such as a side letter with the fund that is binding on 
the banking entity) that were in effect as of May 1, 2010, to provide 
additional capital to the fund. The proposal also provided that either 
of the contractual obligations described above will be considered not 
to impose a contractual obligation to invest or remain invested for 
purposes of the Volcker Rule if: (i) The obligation may be terminated 
by the banking entity or any of its subsidiaries or affiliates; or (ii) 
the obligation may be terminated with the consent of other persons 
unless the banking entity and its subsidiaries and affiliates have used 
their reasonable best efforts to obtain such consent and such consent 
has been denied.
    The Board received a number of comments on these aspects of the 
proposal. For example, some commenters noted that a banking entity's 
contractual obligation to remain invested in a fund may be subject to 
one or more contractual provisions whereby the obligation may be 
excused or otherwise terminated if the banking entity's compliance with 
the obligation would cause, or would be reasonably likely to cause, the 
banking entity or the fund to be in violation of applicable laws or 
regulations (so-called ``regulatory-out'' provisions). Commenters 
requested that the final rule permit a banking entity to qualify for 
the extended transition period and remain invested in an illiquid fund 
despite such regulatory-out provisions. These commenters asserted that 
otherwise the purpose of the extended transition period would not be 
fulfilled because those banking entities that exercised prudence in 
obtaining regulatory outs in their agreements with illiquid funds would 
be forced to exit these investments and could not take advantage of the 
Volcker Rule's extended transition period for illiquid funds. These 
commenters also asserted that such forced sales could have adverse 
consequences on the banking entity, other investors in the fund, or the 
markets for illiquid assets.
    In addition, some commenters requested that the Board strike the 
provisions of the final rule that provide that the extended transition 
period automatically terminates upon expiration of the banking entity's 
contractual obligation to remain invested in, or provide capital to, an 
illiquid fund. One commenter specifically requested that the final rule 
provide a 6-month ``grace period'' which would allow a banking entity 
to conform its investment in and relationship with an illiquid fund 
upon termination of the extended transition period. Several commenters 
also requested that the final rule allow a banking entity to use 
``commercially reasonable efforts'' instead of ``reasonable best 
efforts'' to obtain any consents or approvals necessary to terminate 
the banking entity's contractual obligation to a fund, and allow the 
banking entity to remain

[[Page 8272]]

invested so long as such efforts are not successful.
    The Board has carefully considered these comments. The plain 
language of the Volcker Rule permits a banking entity to potentially 
receive an extended transition period with respect to an investment in 
an illiquid fund only if and to the extent necessary to fulfill a 
contractual obligation that was in effect on May 1, 2010.\42\ Moreover, 
the Volcker Rule specifically provides that any extended transition 
granted by the Board will automatically, by operation of law, terminate 
on the date on which the contractual obligation to invest in the 
illiquid fund terminates.\43\
---------------------------------------------------------------------------

    \42\ 12 U.S.C. 1851(c)(3).
    \43\ Id. at Sec.  1851(c)(4)(B).
---------------------------------------------------------------------------

    If, pursuant to the terms of its obligation in effect on May 1, 
2010, a banking entity has the contractual right to terminate its 
investment or commitments to an illiquid fund because such investments 
would be prohibited by the Volcker Rule after the expiration of the 
general conformance period (and any extensions thereof), then an 
extended transition period would not be necessary to fulfill the 
banking entity's contractual obligation to the fund because the banking 
entity could legally withdraw from its investments or commitments 
without violating its contractual obligation at the end of the general 
conformance period (and any extensions thereof). Thus, the Board does 
not believe the statute permits it to grant an extended transition 
period to a banking entity if its contractual obligation in place on 
May 1, 2010, permits the banking entity to terminate those obligations 
because they would violate the Volcker Rule after the end of the 
general conformance period (and any extensions thereof).\44\
---------------------------------------------------------------------------

    \44\ For similar reasons, the Board does not have discretion to 
permit the extended transition period to continue after the date the 
relevant banking entity's contractual obligation terminates. As 
such, the final rule does not provide any ``grace period'' and 
retains the requirement that any extended transition period 
automatically terminates on the date on which the contractual 
obligation to invest in, or provide additional capital to, the 
illiquid fund terminates.
---------------------------------------------------------------------------

    Whether a banking entity has the right to withdraw its investments 
or terminate its obligations to an illiquid fund based on the 
contractual provisions in effect on May 1, 2010, will depend on the 
specific terms of those obligations. For example, if those obligations 
provide the banking entity the right and ability to redeem or sell its 
investment if the banking entity determines that continued ownership of 
the investment would violate the Volcker Rule, the banking entity must 
exercise that right no later than the end of the Volcker Rule's general 
conformance period and any extensions thereof and should begin to plan 
for such actions. In some instances, however, the banking entity's 
right or ability to redeem or sell its investments under a regulatory-
out provision pertaining to its obligations in effect as of May 1, 
2010, may be dependent on the consent of an unaffiliated party (such as 
the general partner or other investors of the fund).\45\ In such 
circumstances, the banking entity and its affiliates must use their 
reasonable best efforts to obtain such consent.\46\ The Board will 
consider whether a banking entity and its affiliates have used their 
reasonable best efforts to obtain the unaffiliated party's consent in 
determining whether to grant the banking entity an extended transition 
period with respect to the investment.\47\ For example, the Board will 
consider whether the banking entity used its reasonable best efforts, 
but an unaffiliated general partner or other investors denied the 
request due to the failure of the banking entity to agree to 
unreasonable demands by the general partner or investors.
---------------------------------------------------------------------------

    \45\ For example, the terms of the banking entity's regulatory-
out provision in its contractual obligation may allow the banking 
entity to redeem or sell its investments only with the approval of 
the general partner, or only if the general partner concurs that 
retention of the banking entity's ownership interest would result in 
a violation of the law.
    \46\ The Board believes that requiring a banking entity to use 
its ``reasonable best efforts'' to terminate its obligation 
appropriately reflects the Volcker Rule's intent that banking 
entities should use all reasonable efforts to conform to the 
requirements of the Volcker Rule.
    \47\ Some commenters noted that some contractual obligations in 
place as of May 1, 2010, may require a banking entity to provide 
additional capital to a fund even after the banking entity has fully 
sold its investment in the fund (such as, for example, if the person 
that acquired the banking entity's ownership interest fails to 
comply with any related obligation to provide such additional 
amounts). Subject to the conditions and restrictions described above 
and in the final rule, such obligations may constitute a contractual 
obligation to provide additional capital to the fund.
---------------------------------------------------------------------------

    As noted above, the statute provides that the extended transition 
period is only available to banking entities in order to take or retain 
an interest in an illiquid fund, and then only to the extent necessary 
to fulfill a contractual obligation that was in effect on May 1, 2010. 
The Board recognizes that there may be instances where, in connection 
with its ownership interest in an illiquid fund, a banking entity 
serves as the general partner or managing member of, or otherwise 
``sponsors,'' an illiquid fund. In such situations, a banking entity 
will usually hold some ownership interest in the fund, and that 
ownership interest may be in excess of the de minimis interest 
permitted under the Volcker Rule.\48\ Accordingly, if a banking entity 
is granted an extended transition period to take or retain an interest 
in an illiquid fund, the banking entity may continue to serve as the 
general partner, managing member, or sponsor of the illiquid fund to 
the extent such service is related to the banking entity's retention of 
its permitted ownership interest. If, however, a banking entity was not 
acting as general partner, managing member, or sponsor of the illiquid 
fund as of May 1, 2010, then it may not begin to serve that role during 
the extended transition period.
---------------------------------------------------------------------------

    \48\ See 12 U.S.C. 1851(d)(4).
---------------------------------------------------------------------------

D. Nonbank Financial Companies Supervised by the Board

    As noted above, the Volcker Rule does not prohibit nonbank 
financial companies supervised by the Board from engaging in 
proprietary trading, or from having the types of investments in or 
relationships with hedge funds or private equity funds that banking 
entities are prohibited or restricted from having under the Volcker 
Rule. However, the Volcker Rule provides that the Board or other 
appropriate agency impose additional capital charges, quantitative 
limits, or other restrictions on nonbank financial companies supervised 
by the Board or their subsidiaries that are engaged in such activities 
or maintain such relationships.\49\ The Volcker Rule generally gives 
nonbank financial companies supervised by the Board the same general 
two-year conformance period (with the potential of up to three, one-
year extensions) to bring their activities into compliance with any 
requirements or limits established as is available to banking entities. 
Accordingly, section 225.182 of the final rule provides a nonbank 
financial company supervised by the Board two years after the date the 
company first becomes a nonbank financial company supervised by the 
Board to conform its activities to any applicable requirements of the 
Volcker Rule, including any capital requirements or quantitative 
limitations adopted thereunder and applicable to the company. 
Consistent with the conformance period available to banking entities, 
the final rule also provides the Board the ability to extend this two-
year conformance period by up to three additional one-year periods, if 
the Board determines that such an extension is consistent with the 
purpose of the Volcker Rule and would not be detrimental to the public 
interest.\50\
---------------------------------------------------------------------------

    \49\ See id. at Sec.  1851(a)(2), (d)(4).
    \50\ See id. at Sec.  1851(c)(2).

---------------------------------------------------------------------------

[[Page 8273]]

E. Procedures Governing Extension Requests

    The proposed rule also addressed the process for banking entities 
and nonbank financial companies supervised by the Board to request a 
one-year extension of the general conformance period and for banking 
entities to request up to a five-year extended transition period with 
respect to an illiquid fund. The proposed rule generally required that 
any request for an extension must: (1) Be submitted in writing to the 
Board at least 90 days prior to the expiration of the applicable time 
period; (2) provide the reasons why the banking entity or nonbank 
financial company supervised by the Board believes the extension should 
be granted; and (3) provide a detailed explanation of the plan of the 
banking entity of nonbank financial company supervised by the Board for 
divesting or conforming the activity or investment(s). The proposed 
rule also described the factors that the Board may consider in 
reviewing any requests for an extension.
    The Board received several comments on the procedures for 
requesting an extension and the standards for reviewing these requests 
set forth in the proposed rule. In general, commenters requested that 
the Board allow a firm to submit an extension request well in advance 
of the end of the applicable time period. Commenters noted that winding 
down the activities and operations subject to the restrictions of the 
Volcker Rule could take significant time, and, as a result, companies 
subject to the Volcker Rule would benefit from knowing as early as 
possible whether or not they had been granted an extension. Some 
commenters additionally suggested that the Board modify the final rule 
to expressly provide for a standard time period for its review of any 
specific extension request, accompanied by an automatic approval of an 
extension if the review was not completed in the specified period. One 
commenter suggested that the Board require banking entities to provide 
extensive information on the steps that the banking entity has taken to 
conform to the requirements of the Volcker Rule.
    Several comments also addressed the proposed rule's list of factors 
that the Board would take into account in reviewing any request for a 
conformance period extension. For example, commenters suggested that 
the Board take into account the impact that an extension (or denial of 
an extension) related to investments in a hedge fund or private equity 
fund would have on unaffiliated, third-party investors in the fund, 
including the potential creation of conflicts of interest between a 
banking entity that sponsored a private equity or hedge fund and other 
investors in such fund.
    After considering the comments, the Board has modified the 
provisions governing the submission and review of extension requests in 
several respects. First, the final rule provides that a banking entity 
or nonbank financial company supervised by the Board seeking an 
extension of the conformance period must submit its request at least 
180 days prior to the expiration of the applicable time period, rather 
than 90 days as proposed. This additional period is designed to provide 
the Board additional time to review any submission, as well as to 
request additional information from the requesting company if necessary 
or appropriate. This deadline is the date by which an extension request 
must be filed. Firms are encouraged to submit their extension requests 
to the Board as early as possible. If additional requests are 
contemplated as being necessary after a permissible extension has been 
granted, a banking entity or nonbank financial company supervised by 
the Board may submit an additional request after the first day of the 
newly-extended period, and the Board would consider each request 
submitted in accordance with the procedures contained in the final 
rule. The final rule also provides that the Board will seek to act on 
any extension request no later than 90 days after receipt of all 
necessary information relating to the request.\51\
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    \51\ See 12 CFR 225.181(d)(2) and 225.182(d)(2).
---------------------------------------------------------------------------

    The proposed rule provided that, in reviewing a request for an 
extension, the Board may consider all the facts and circumstances 
related to the activity, investment, or fund, including each of the 
following factors (to the extent they are relevant): (i) Whether the 
activity or investment (A) involves or results in material conflicts of 
interest between the banking entity (or nonbank financial company 
supervised by the Board) and its clients, customers or counterparties; 
(B) would result, directly or indirectly, in a material exposure by the 
banking entity (or company) to high-risk assets or high-risk trading 
strategies; (C) would pose a threat to the safety and soundness of the 
banking entity (or company); or (D) would pose a threat to the 
financial stability of the United States; (ii) market conditions; (iii) 
the nature of the activity or investment; (iv) the date that the 
banking entity's contractual obligation to make or retain an investment 
in the fund was incurred and when it expires; (v) the contractual terms 
governing the banking entity's interest in the fund; (vi) the degree of 
control held by the banking entity over investment decisions of the 
fund; (vii) the types of assets held by the fund; (viii) the date on 
which the fund is expected to wind up its activities and liquidate or 
its investments may be redeemed or sold; (ix) the total exposure of the 
banking entity (or company) to the activity or investment and the risks 
that disposing of, or maintaining, the investment or activity may pose 
to the banking entity (or company); (x) the cost to the banking entity 
(or company) of disposing of the activity or investment within the 
applicable period; and (xi) any other factor that the Board believes 
appropriate
    After consideration of the comments, the Board has modified one 
existing factor and added two additional factors to this list. The 
first additional factor is whether divestiture or conformance of the 
activity or investment would involve or result in a material conflict 
of interest between the banking entity (or nonbank financial company 
supervised by the Board) and unaffiliated clients, customers, or 
counterparties to which the banking entity owes a duty. Because the 
Volcker Rule is intended to help prevent material conflicts of interest 
between a banking entity or nonbank financial company supervised by the 
Board and its clients, customers or counterparties, the Board believe 
this is an appropriate factor to consider in reviewing extension 
requests.\52\ The Board expects that this factor may be relevant when 
the banking entity serves as general partner or sponsor to a fund in 
which unaffiliated persons are investors, but generally would not be 
relevant when the banking entity (in addition to having an investment) 
serves only as investment advisor to the fund, because serving as an 
investment advisor would generally be a permissible activity for a 
banking entity even if it divests its ownership interests in the fund 
itself. In addition, the Board has modified the list of factors to 
specify that the Board may consider the firm's prior efforts to divest 
or conform the activity or investments, including, with respect to an 
illiquid fund, the extent to which the banking entity has made 
reasonable best efforts to terminate or obtain a waiver of its 
contractual obligation to take or retain an equity, partnership, or 
other ownership interest in, or provide additional capital to, the 
illiquid fund. The Board expects all banking entities and nonbank 
financial companies supervised by the Board to make

[[Page 8274]]

reasonable and good-faith efforts to divest or otherwise conform their 
prohibited activities and investments within the prescribed time 
periods. This includes taking all reasonable steps to divest the firm's 
interests in private equity and hedge funds covered by the restrictions 
in the Volcker Rule, such as making requests of a general partner or 
other applicable person(s) to withdraw from or transfer its interest in 
the fund whenever authorized or permitted by the relevant fund 
documents. The factors listed in the rule are not exclusive, and the 
Board retains the ability to consider other factors or considerations 
that it deems appropriate.
---------------------------------------------------------------------------

    \52\ See 12 U.S.C. 1851(d)(2)(A)(i).
---------------------------------------------------------------------------

    As noted in the proposed rule, the Board expects to carefully 
review requests for an extended transition period to ensure that the 
banking entity's interest in the fund and the fund's assets and 
investment strategy satisfy the requirements contained in the rule in 
order to be eligible for an extended transition period. As noted above 
in Part III.C.1.a of this SUPPLEMENTARY INFORMATION, the final rule 
provides that in evaluating the merits and appropriateness of a request 
for an extended transition period for an investment in an illiquid 
fund, the Board will consider the extent to which the fund's current 
assets are no longer illiquid (e.g. due to lapse of applicable 
restrictions on an investment because a previously illiquid venture 
capital or portfolio company investment has become liquid, such as 
through the initial public offering of the company's stock). The Board 
has modified the list of factors the Board may consider in the final 
rule to make this clear.
    The final rule retains the proposed rule's provision that allows 
the Board to impose conditions on any extension granted if the Board 
determines such conditions are necessary or appropriate to protect the 
safety and soundness of banking entities or the financial stability of 
the United States, address material conflicts of interest or other 
unsound practices, or otherwise further the purposes of section 13 of 
the BHC Act and the final rules.\53\ In cases where the banking entity 
is primarily supervised by another Federal banking agency, the SEC, or 
the CFTC, the Board will consult with such agency prior to approving 
any extension request by the banking entity, as well as before imposing 
conditions in connection with the approval of any extension request by 
the banking entity.
---------------------------------------------------------------------------

    \53\ Nothing in the Volcker Rule or the final rule limits or 
otherwise affects the authority that the Board, the other Federal 
banking agencies, the SEC, or the CFTC may have under other 
provisions of law. In the case of the Board, these authorities 
include, but are not limited to, section 8 of the Federal Deposit 
Insurance Act and section 8 of the BHC Act. See 12 U.S.C. 1818, 
1847.
---------------------------------------------------------------------------

IV. Administrative Law Matters

A. Paperwork Reduction Act Analysis

    In accordance with the Paperwork Reduction Act of 1995 
(``PRA''),\54\ the Board has reviewed this final rule under the 
authority delegated to the Board by Office of Management and Budget 
(``OMB''). The Board may not conduct or sponsor, and a respondent is 
not required to respond to, an information collection unless it 
displays a currently valid OMB control number.
---------------------------------------------------------------------------

    \54\ 44 U.S.C. 3506; 5 CFR 1320, Appendix A.1
---------------------------------------------------------------------------

    Sections 225.181(c) and 225.182(c) of the final rule contain 
collections of information that are subject to the PRA. The OMB control 
number for these information collections will be assigned. These 
collections of information would only be required for banking entities 
and nonbank financial companies supervised by the Board that 
voluntarily decide to seek an extension of time to conform their 
activities to the Volcker Rule or divest their interest in an illiquid 
hedge fund or private equity fund. As discussed in the SUPPLEMENTARY 
INFORMATION, the Dodd-Frank Act generally requires banking entities and 
nonbank financial holding companies supervised by the Board to conform 
their activities and investments to the restrictions in the Volcker 
Rule within 2 years of the effective date of the Volcker Rule's 
restrictions. The final rule implements this conformance period and, as 
permitted by the Dodd-Frank Act, permits a banking entity or nonbank 
financial company supervised by the Board to request an extension of 
time to conform its activities to the Volcker Rule. Section 225.181(c) 
would require an application for an extension by a banking entity to be 
(1) submitted in writing to the Board at least 180 days prior to the 
expiration of the applicable time period, (2) provide the reasons why 
the banking entity believes the extension should be granted, and (3) 
provide a detailed explanation of the banking entity's plan for 
divesting or conforming the activity or investment(s). Section 
225.182(c) would require an application for an extension by a nonbank 
financial holding company to be (1) submitted in writing to the Board 
at least 180 days prior to the expiration of the applicable time 
period, (2) provide the reasons why the nonbank financial holding 
company believes the extension should be granted, and (3) provide a 
detailed explanation of the company's plan for coming into compliance 
with the requirements of the Volcker Rule. A request by a banking 
entity or nonbank financial company supervised by the Board also must 
address the relevant factors set out in section 225.181(d). A banking 
entity or nonbank financial company supervised by the Board may request 
confidential treatment of information submitted as part of an extension 
request in accordance with the Freedom of Information Act.
    In connection with the proposal, the Board estimated that there 
were approximately 7,200 banking entities as of December 31, 2009. Of 
that number, the Board estimated that approximately 720 banking 
entities would request an extension of the conformance period under the 
proposed rule. The number of nonbank financial companies supervised by 
the Board will be determined by the FSOC in accordance with the 
procedures established under the Dodd-Frank Act. Accordingly, the Board 
was unable and remains unable at this time to estimate the number of 
nonbank financial companies supervised by the Board that might request 
an extension of the Volcker Rule conformance period under the proposed 
rule. In the proposal, the Board estimated the burden request as 1 
hour, for a total estimated amount of annual burden of 720 hours.
    Some commenters asserted that the Board's proposal underestimated 
the regulatory burden and stated that it would take substantially 
longer than one hour to prepare a request for an extension and relevant 
supporting information. One commenter specifically noted that a banking 
entity could potentially be required to submit up to four extension 
requests with respect to a single illiquid fund (three requests for 
extension of the general conformance period and one request for the 
extended transition period provided for illiquid funds). In light of 
the comments received, the Board has revised its estimated burden per 
request to be 3 hours, and estimates that each of the 720 banking 
entities that are estimated to request an extension will file, on 
average, 10 requests for an extension, for a total estimated annual 
burden of 21,600 hours.

B. Regulatory Flexibility Act Analysis

    In accordance with Section 4(a) of the Regulatory Flexibility Act, 
5 U.S.C. 601 et seq, (``RFA''), the Board must publish a final 
regulatory flexibility analysis with this rulemaking. The RFA requires 
an agency either to provide a final regulatory flexibility analysis 
with a final rule for which a general notice of

[[Page 8275]]

proposed rulemaking is required or to certify that the final rule will 
not have a significant economic impact on a substantial number of small 
entities. Based on this analysis and for the reasons stated below, the 
Board believes that the final rule would not have a significant 
economic impact on a substantial number of small entities. 
Nevertheless, the Board is publishing a final regulatory flexibility 
analysis.
    The Volcker Rule, adopted as a new section 13 of the BHC Act, 
applies to all banking entities and nonbank financial companies 
supervised by the Board, regardless of size. The Board is amending 
Regulation Y to implement the provisions of the Dodd-Frank Act that 
allow a banking entity--including a small banking entity--or a nonbank 
financial company supervised by the Board to obtain, with the Board's 
approval, an extended period of time to conform its activities and 
investments to the requirements of the Volcker Rule. Under the rule, a 
banking entity of any size may request up to three one-year extensions 
of the general two-year conformance period provided under section 13 of 
the BHC Act, as well as one extension of up to five years to divest 
certain ownership interests in a hedge fund or private equity fund that 
qualifies as an ``illiquid fund'' under the statute and proposed rule. 
The SUPPLEMENTARY INFORMATION provides additional information regarding 
the reasons for, and the objective and legal basis of, the rule.
    Under regulations issued by the Small Business Administration 
(``SBA''), a bank or other depository institution is considered 
``small'' if it has $175 million or less in assets.\55\ As of December 
31, 2009, there were approximately 2450 small bank holding companies, 
293 small savings association, 132 small national banks, 73 small State 
member banks, 665 small State nonmember banks, and 21 small foreign 
banking organizations that are subject to section 8 of the 
International Banking Act of 1978. As of that date, there were no 
nonbank financial companies supervised by the Board. The Volcker Rule 
would affect only those entities that engage in activities or that hold 
investments prohibited or restricted under the terms of the Volcker 
Rule. As explained above, the Board estimates that of the total number 
of banking entities that would be affected by the Volcker Rule, 
approximately 10 percent would likely file an extension request under 
the proposed rule. Based on its supervisory experience, the Board 
believes that small banking entities are less likely to be engaged in 
the types of activities or hold investments prohibited under the 
Volcker Rule, and as such estimates that only 5 percent of small 
banking entities likely would file an extension request under the rule. 
The Board specifically requested comment on whether this estimate is 
appropriate, and no comments were received on this issue. The Board 
notes that the impact of the rule on entities choosing to take 
advantage of the rule's extended conformance period would be positive 
and not adverse. This is because the rule would allow affected entities 
to seek and obtain an extended period of time to conform their 
activities, investments, or relationships to the requirements of the 
Volcker Rule. The Board also has taken several steps to reduce the 
potential burden of the rule on all banking entities, including small 
banking entities. For example, the rule establishes a straightforward 
process for banking entities, including small banking entities, to 
request an extension of the conformance period or an extended 
transition period with respect to an investment in an illiquid fund, 
and permits such requests to be submitted in letter form. The rule also 
uses standards drawn from existing federal banking and securities 
regulations to help define the types of funds that may qualify as an 
``illiquid fund'' under the statute and the rule, which should assist 
small banking entities in determining whether their investments qualify 
for the extended transition period available for investments in 
illiquid funds.
---------------------------------------------------------------------------

    \55\ 13 CFR 121.201.
---------------------------------------------------------------------------

    As discussed in the SUPPLEMENTARY INFORMATION, the Dodd-Frank Act 
requires that the Board adopt rules implementing the Volcker Rule's 
conformance period. The Board does not believe that the final rule 
duplicates, overlaps, or conflicts with any other Federal rules.

Plain Language

    Section 722 of the Gramm-Leach-Bliley Act requires the Federal 
banking agencies to use plain language in all proposed and final rules 
published after January 1, 2000. The Board invited comment on whether 
the proposed rule was written plainly and clearly, or whether there 
were ways the Board could make the rule easier to understand. The Board 
received no comments on these matters and believes that the final rule 
is written plainly and clearly.

List of Subjects in 12 CFR Part 225

    Administrative practice and procedure, Banks, Banking, Holding 
companies, Reporting and recordkeeping requirements, Securities.

Authority and Issuance

    For the reasons stated in the preamble, the Board is amending 
Regulation Y, 12 CFR part 225, as set forth below:

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

0
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), 1851, 1972(1), 3106, 3108, 3310, 3331-3351, 
3907, and 3909; 15 U.S.C. 6801 and 6805.


0
2. Section 225.1(c)(11) is revised to read as follows:


Sec.  225.1  Authority, purpose, and scope.

* * * * *
    (c) * * *
    (11) Subpart K governs the period of time that firms subject to 
section 13 of the Bank Holding Company Act (12 U.S.C. 1851) have to 
bring their activities, investments and relationships into compliance 
with the requirements of such section.
* * * * *

0
3. Subpart K is added to read as follows:
Subpart K--Proprietary Trading and Relationships With Hedge Fund and 
Private Equity Funds
Sec.
225.180 Definitions.
225.181 Conformance Period for Banking Entities Engaged in 
Proprietary Trading or Private Fund Activities.
225.182 Conformance Period for Nonbank Financial Companies 
Supervised by the Board Engaged in Proprietary Trading or Private 
Fund Activities.

Subpart K--Proprietary Trading and Relationships With Hedge Funds 
and Private Equity Funds


Sec.  225.180  Definitions.

    For purposes of this subpart:
    (a) Banking entity means--
    (1) Any insured depository institution;
    (2) Any company that controls an insured depository institution;
    (3) Any company that is treated as a bank holding company for 
purposes of section 8 of the International Banking Act of 1978; and
    (4) Any affiliate or subsidiary of any of the foregoing entities.
    (b) Hedge fund and private equity fund mean an issuer that would be 
an investment company, as defined in the Investment Company Act of 1940 
(15

[[Page 8276]]

U.S.C. 80a-1 et seq.), but for section 3(c)(1) or 3(c)(7) of that Act, 
or such similar funds as the appropriate Federal banking agencies, the 
Securities and Exchange Commission, and the Commodity Futures Trading 
Commission may, by rule, as provided in section 13(b)(2) of the Bank 
Holding Company Act (12 U.S.C. 1851(b)(2)), determine.
    (c) Insured depository institution has the same meaning as given 
that term in section 3 of the Federal Deposit Insurance Act (12 U.S.C. 
1813), except that for purposes of this subpart the term shall not 
include an institution that functions solely in a trust or fiduciary 
capacity if--
    (1) All or substantially all of the deposits of such institution 
are in trust funds and are received in a bona fide fiduciary capacity;
    (2) No deposits of such institution which are insured by the 
Federal Deposit Insurance Corporation are offered or marketed by or 
through an affiliate of such institution;
    (3) Such institution does not accept demand deposits or deposits 
that the depositor may withdraw by check or similar means for payment 
to third parties or others or make commercial loans; and
    (4) Such institution does not--
    (i) Obtain payment or payment related services from any Federal 
Reserve bank, including any service referred to in section 11A of the 
Federal Reserve Act (12 U.S.C. 248a); or
    (ii) Exercise discount or borrowing privileges pursuant to section 
19(b)(7) of the Federal Reserve Act (12 U.S.C. 416(b)(7)).
    (d) Nonbank financial company supervised by the Board means a 
nonbank financial company supervised by the Board of Governors, as 
defined in section 102 of the Dodd-Frank Wall Street Reform and 
Consumer Protection Act of 2010 (12 U.S.C. 5311).
    (e) Board means the Board of Governors of the Federal Reserve 
System.
    (f) Illiquid fund means a hedge fund or private equity fund that:
    (1) As of May 1, 2010--
    (i) Was principally invested in illiquid assets; or
    (ii) Was invested in, and contractually committed to principally 
invest in, illiquid assets; and
    (2) Makes all investments pursuant to, and consistent with, an 
investment strategy to principally invest in illiquid assets.
    (g) Illiquid assets means any real property, security, obligation, 
or other asset that--
    (1) Is not a liquid asset;
    (2) Because of statutory or regulatory restrictions applicable to 
the hedge fund, private equity fund or asset, cannot be offered, sold, 
or otherwise transferred by the hedge fund or private equity fund to a 
person that is unaffiliated with the relevant banking entity; or
    (3) Because of contractual restrictions applicable to the hedge 
fund, private equity fund or asset, cannot be offered, sold, or 
otherwise transferred by the hedge fund or private equity fund for a 
period of 3 years or more to a person that is unaffiliated with the 
relevant banking entity.
    (h) Liquid asset means:
    (1) Cash or cash equivalents;
    (2) An asset that is traded on a recognized, established exchange, 
trading facility or other market on which there exist independent, bona 
fide offers to buy and sell so that a price reasonably related to the 
last sales price or current bona fide competitive bid and offer 
quotations can be determined for the particular asset almost 
instantaneously;
    (3) An asset for which there are bona fide, competitive bid and 
offer quotations in a recognized inter-dealer quotation system or 
similar system or for which multiple dealers furnish bona fide, 
competitive bid and offer quotations to other brokers and dealers on 
request;
    (4) An asset the price of which is quoted routinely in a widely 
disseminated publication that is readily available to the general 
public or through an electronic service that provides indicative data 
from real-time financial networks;
    (5) An asset with an initial term of one year or less and the 
payments on which at maturity may be settled, closed-out, or paid in 
cash or one or more other liquid assets described in paragraphs (h)(1), 
(2), (3), or (4); and
    (6) Any other asset that the Board determines, based on all the 
facts and circumstances, is a liquid asset.
    (i) Principally invested and related definitions. A hedge fund or 
private equity fund:
    (1) Is principally invested in illiquid assets if at least 75 
percent of the fund's consolidated total assets are--
    (i) Illiquid assets; or
    (ii) Risk-mitigating hedges entered into in connection with and 
related to individual or aggregated positions in, or holdings of, 
illiquid assets;
    (2) Is contractually committed to principally invest in illiquid 
assets if the fund's organizational documents, other documents that 
constitute a contractual obligation of the fund, or written 
representations contained in the fund's offering materials distributed 
to potential investors provide for the fund to be principally invested 
in assets described in paragraph (i)(1) at all times other than during 
temporary periods, such as the period prior to the initial receipt of 
capital contributions from investors or the period during which the 
fund's investments are being liquidated and capital and profits are 
being returned to investors; and
    (3) Has an investment strategy to principally invest in illiquid 
assets if the fund--
    (i) Markets or holds itself out to investors as intending to 
principally invest in assets described in paragraph (i)(1) of this 
section; or
    (ii) Has a documented investment policy of principally investing in 
assets described in paragraph (i)(1) of this section.


Sec.  225.181  Conformance Period for Banking Entities Engaged in 
Prohibited Proprietary Trading or Private Fund Activities.

    (a) Conformance Period--(1) In general. Except as provided in 
paragraph (b)(2) or (3) of this section, a banking entity shall bring 
its activities and investments into compliance with the requirements of 
section 13 of the Bank Holding Company Act (12 U.S.C. 1851) and this 
subpart no later than 2 years after the earlier of:
    (i) July 21, 2012; or
    (ii) Twelve months after the date on which final rules adopted 
under section 13(b)(2) of the Bank Holding Company Act (12 U.S.C. 
1851(b)(2)) are published in the Federal Register.
    (2) New banking entities.--A company that was not a banking entity, 
or a subsidiary or affiliate of a banking entity, as of July 21, 2010, 
and becomes a banking entity, or a subsidiary or affiliate of a banking 
entity, after that date shall bring its activities and investments into 
compliance with the requirements of section 13 of the Bank Holding 
Company Act (12 U.S.C. 1851) and this subpart before the later of--
    (i) The conformance date determined in accordance with paragraph 
(a)(1) of this section; or
    (ii) Two years after the date on which the company becomes a 
banking entity or a subsidiary or affiliate of a banking entity.
    (3) Extended conformance period. The Board may extend the two-year 
period under paragraph (a)(1) or (2) of this section by not more than 
three separate one-year periods, if, in the judgment of the Board, each 
such one-year extension is consistent with the purposes of section 13 
of the Bank Holding Company Act (12 U.S.C. 1851)

[[Page 8277]]

and this subpart and would not be detrimental to the public interest.
    (b) Illiquid funds--(1) Extended transition period. The Board may 
further extend the period provided by paragraph (a) of this section 
during which a banking entity may acquire or retain an equity, 
partnership, or other ownership interest in, or otherwise provide 
additional capital to, a private equity fund or hedge fund if--
    (i) The fund is an illiquid fund; and
    (ii) The acquisition or retention of such interest, or provision of 
additional capital, is necessary to fulfill a contractual obligation of 
the banking entity that was in effect on May 1, 2010.
    (2) Duration limited. The Board may grant a banking entity only one 
extension under paragraph (b)(1) of this section and such extension--
    (i) May not exceed 5 years beyond any conformance period granted 
under paragraph (a)(3) of this section; and
    (ii) Shall terminate automatically on the date during any such 
extension on which the banking entity is no longer under a contractual 
obligation described in paragraph (b)(1)(ii).
    (3) Contractual obligation. For purposes of this paragraph (b)--
    (i) A banking entity has a contractual obligation to take or retain 
an equity, partnership, or other ownership interest in an illiquid fund 
if the banking entity is prohibited from redeeming all of its equity, 
partnership, or other ownership interests in the fund, and from selling 
or otherwise transferring all such ownership interests to a person that 
is not an affiliate of the banking entity--
    (A) Under the terms of the banking entity's equity, partnership, or 
other ownership interest in the fund or the banking entity's other 
contractual arrangements with the fund or unaffiliated investors in the 
fund; or
    (B) If the banking entity is the sponsor of the fund, under the 
terms of a written representation made by the banking entity in the 
fund's offering materials distributed to potential investors;
    (ii) A banking entity has a contractual obligation to provide 
additional capital to an illiquid fund if the banking entity is 
required to provide additional capital to such fund--
    (A) Under the terms of its equity, partnership or other ownership 
interest in the fund or the banking entity's other contractual 
arrangements with the fund or unaffiliated investors in the fund; or
    (B) If the banking entity is the sponsor of the fund, under the 
terms of a written representation made by the banking entity in the 
fund's offering materials distributed to potential investors; and
    (iii) A banking entity shall be considered to have a contractual 
obligation for purposes of paragraph (b)(3)(i) or (ii) of this section 
only if--
    (A) The obligation may not be terminated by the banking entity or 
any of its subsidiaries or affiliates under the terms of its agreement 
with the fund; and
    (B) In the case of an obligation that may be terminated with the 
consent of other persons, the banking entity and its subsidiaries and 
affiliates have used their reasonable best efforts to obtain such 
consent and such consent has been denied.
    (c) Approval Required to Hold Interests in Excess of Time Limit. 
The conformance period in paragraph (a) of this section may be extended 
in accordance with paragraph (a)(3) or (b) of this section only with 
the approval of the Board. A banking entity that seeks the Board's 
approval for an extension of the conformance period under paragraph 
(a)(3) or for an extended transition period under paragraph (b)(1) 
must--
    (1) Submit a request in writing to the Board at least 180 days 
prior to the expiration of the applicable time period;
    (2) Provide the reasons why the banking entity believes the 
extension should be granted, including information that addresses the 
factors in paragraph (d)(1) of this section; and
    (3) Provide a detailed explanation of the banking entity's plan for 
divesting or conforming the activity or investment(s).
    (d) Factors governing Board determinations--(1) Extension requests 
generally. In reviewing any application by a specific company for an 
extension under paragraph (a)(3) or (b)(1) of this section, the Board 
may consider all the facts and circumstances related to the activity, 
investment, or fund, including, to the extent relevant--
    (i) Whether the activity or investment--
    (A) Involves or results in material conflicts of interest between 
the banking entity and its clients, customers or counterparties;
    (B) Would result, directly or indirectly, in a material exposure by 
the banking entity to high-risk assets or high-risk trading strategies;
    (C) Would pose a threat to the safety and soundness of the banking 
entity; or
    (D) Would pose a threat to the financial stability of the United 
States;
    (ii) Market conditions;
    (iii) The nature of the activity or investment;
    (iv) The date that the banking entity's contractual obligation to 
make or retain an investment in the fund was incurred and when it 
expires;
    (v) The contractual terms governing the banking entity's interest 
in the fund;
    (vi) The degree of control held by the banking entity over 
investment decisions of the fund;
    (vii) The types of assets held by the fund, including whether any 
assets that were illiquid when first acquired by the fund have become 
liquid assets, such as, for example, because any statutory, regulatory, 
or contractual restrictions on the offer, sale, or transfer of such 
assets have expired;
    (viii) The date on which the fund is expected to wind up its 
activities and liquidate, or its investments may be redeemed or sold;
    (ix) The total exposure of the banking entity to the activity or 
investment and the risks that disposing of, or maintaining, the 
investment or activity may pose to the banking entity or the financial 
stability of the United States;
    (x) The cost to the banking entity of divesting or disposing of the 
activity or investment within the applicable period;
    (xi) Whether the divestiture or conformance of the activity or 
investment would involve or result in a material conflict of interest 
between the banking entity and unaffiliated clients, customers or 
counterparties to which it owes a duty;
    (xii) The banking entity's prior efforts to divest or conform the 
activity or investment(s), including, with respect to an illiquid fund, 
the extent to which the banking entity has made efforts to terminate or 
obtain a waiver of its contractual obligation to take or retain an 
equity, partnership, or other ownership interest in, or provide 
additional capital to, the illiquid fund; and
    (xiii) Any other factor that the Board believes appropriate.
    (2) Timing of Board review. The Board will seek to act on any 
request for an extension under paragraph (a)(3) or (b)(1) of this 
section no later than 90 calendar days after the receipt of a complete 
record with respect to such request.
    (3) Consultation. In the case of a banking entity that is primarily 
supervised by another Federal banking agency, the Securities and 
Exchange Commission, or the Commodity Futures Trading Commission, the 
Board will consult with such agency prior to the approval of a request 
by the banking entity for an extension under paragraph (a)(3) or (b)(1) 
of this section.
    (e) Authority to impose restrictions on activities or investments 
during any extension period--(1) In general. The Board may impose such 
conditions on any extension approved under paragraph (a)(3) or (b)(1) 
of this section as the Board determines are necessary or

[[Page 8278]]

appropriate to protect the safety and soundness of the banking entity 
or the financial stability of the United States, address material 
conflicts of interest or other unsound banking practices, or otherwise 
further the purposes of section 13 of the Bank Holding Company Act (12 
U.S.C. 1851) and this subpart.
    (2) Consultation. In the case of a banking entity that is primarily 
supervised by another Federal banking agency, the Securities and 
Exchange Commission, or the Commodity Futures Trading Commission, the 
Board will consult with such agency prior to imposing conditions on the 
approval of a request by the banking entity for an extension under 
paragraph (a)(3) or (b)(1) of this section.


Sec.  225.182  Conformance Period for Nonbank Financial Companies 
Supervised by the Board Engaged in Proprietary Trading or Private Fund 
Activities.

    (a) Divestiture Requirement. A nonbank financial company supervised 
by the Board shall come into compliance with all applicable 
requirements of section 13 of the Bank Holding Company Act (12 U.S.C. 
1851) and this subpart, including any capital requirements or 
quantitative limitations adopted thereunder and applicable to the 
company, not later than 2 years after the date the company becomes a 
nonbank financial company supervised by the Board.
    (b) Extensions. The Board may, by rule or order, extend the two-
year period under paragraph (a) by not more than three separate one-
year periods, if, in the judgment of the Board, each such one-year 
extension is consistent with the purposes of section 13 of the Bank 
Holding Company Act (12 U.S.C. 1851) and this subpart and would not be 
detrimental to the public interest.
    (c) Approval Required to Hold Interests in Excess of Time Limit. A 
nonbank financial company supervised by the Board that seeks the 
Board's approval for an extension of the conformance period under 
paragraph (b) of this section must--
    (1) Submit a request in writing to the Board at least 180 days 
prior to the expiration of the applicable time period;
    (2) Provide the reasons why the nonbank financial company 
supervised by the Board believes the extension should be granted; and
    (3) Provide a detailed explanation of the company's plan for 
conforming the activity or investment(s) to any applicable requirements 
established under section 13(a)(2) or (f)(4) of the Bank Holding 
Company Act (12 U.S.C. 1851(a)(2) and (f)(4)).
    (d) Factors governing Board determinations--(1) In general. In 
reviewing any application for an extension under paragraph (b) of this 
section, the Board may consider all the facts and circumstances related 
to the nonbank financial company and the request including, to the 
extent determined relevant by the Board, the factors described in Sec.  
225.181(d)(1).
    (2) Timing. The Board will seek to act on any request for an 
extension under paragraph (b) of this section no later than 90 calendar 
days after the receipt of a complete record with respect to such 
request.
    (f) Authority to impose restrictions on activities or investments 
during any extension period. The Board may impose conditions on any 
extension approved under paragraph (b) of this section as the Board 
determines are necessary or appropriate to protect the safety and 
soundness of the nonbank financial company or the financial stability 
of the United States, address material conflicts of interest or other 
unsound practices, or otherwise further the purposes of section 13 of 
the Bank Holding Company Act (12 U.S.C. 1851) and this subpart.

Subpart L--Conditions to Orders

0
4. Add subpart L with a heading as set forth above, and consisting of 
existing Sec.  225.200.

    By order of the Board of Governors of the Federal Reserve 
System, February 8, 2011.
Jennifer J. Johnson,
Secretary of the Board.
[FR Doc. 2011-3199 Filed 2-11-11; 8:45 am]
BILLING CODE 6210-01-P