[Federal Register Volume 79, Number 171 (Thursday, September 4, 2014)]
[Proposed Rules]
[Pages 52814-52908]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2014-19179]



[[Page 52813]]

Vol. 79

Thursday,

No. 171

September 4, 2014

Part II





 Farm Credit Administration





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12 CFR Parts 607, 614, 615, et al.





Regulatory Capital Rules: Regulatory Capital, Implementation of Tier 1/
Tier 2 Framework; Proposed Rule

  Federal Register / Vol. 79 , No. 171 / Thursday, September 4, 2014 / 
Proposed Rules  

[[Page 52814]]


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FARM CREDIT ADMINISTRATION

12 CFR Parts 607, 614, 615, 620 and 628

RIN 3052-AC81


Regulatory Capital Rules: Regulatory Capital, Implementation of 
Tier 1/Tier 2 Framework

AGENCY: Farm Credit Administration.

ACTION: Proposed rule.

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SUMMARY: The Farm Credit Administration (FCA or we) is seeking comments 
on this proposed rule that would revise our regulatory capital 
requirements for Farm Credit System (System) institutions to include 
tier 1 and tier 2 risk-based capital ratio requirements (replacing core 
surplus and total surplus requirements), a tier 1 leverage requirement 
(replacing a net collateral requirement for System banks), a capital 
conservation buffer, revised risk weightings, and additional public 
disclosure requirements. The revisions to the risk weightings would 
include alternatives to the use of credit ratings, as required by 
section 939A of the Dodd-Frank Wall Street Reform and Consumer 
Protection Act.

DATES: You may send us comments by January 2, 2015.

ADDRESSES: For accuracy and efficiency reasons, please submit comments 
by email or through the FCA's Web site. We do not accept comments 
submitted by facsimile (fax), as faxes are difficult for us to process 
in compliance with section 508 of the Rehabilitation Act. Please do not 
submit your comment multiple times via different methods. You may 
submit comments by any of the following methods:
     Email: Send us an email at [email protected].
     FCA Web site: http://www.fca.gov. Select ``Public 
Commenters,'' then ``Public Comments,'' and follow the directions for 
``Submitting a Comment.''
     Federal eRulemaking Portal: http://www.regulations.gov. 
Follow the instructions for submitting comments.
     Mail: Barry F. Mardock, Deputy Director, Office of 
Regulatory Policy, Farm Credit Administration, 1501 Farm Credit Drive, 
McLean, VA 22102-5090.
    You may review copies of all comments we receive at our office in 
McLean, Virginia, or from our Web site at http://www.fca.gov. Once you 
are in the Web site, select ``Public Commenters,'' then ``Public 
Comments,'' and follow the directions for ``Reading Submitted Public 
Comments.'' We will show your comments as submitted, but for technical 
reasons we may omit items such as logos and special characters. 
Identifying information you provide, such as phone numbers and 
addresses, will be publicly available. However, we will attempt to 
remove email addresses to help reduce Internet spam.

FOR FURTHER INFORMATION CONTACT: J.C. Floyd, Senior Capital Markets 
Specialist and FCA Examiner, Office of Examination, Farm Credit 
Administration, McLean, VA 22102-5090, (720) 213-0924, TTY (703) 883-
4056; or Rebecca S. Orlich, Senior Counsel, or Jennifer A. Cohn, Senior 
Counsel, Office of General Counsel, Farm Credit Administration, McLean, 
VA 22102-5090, (703) 883-4020, TTY (703) 883-4056.

SUPPLEMENTARY INFORMATION: 

Table of Contents

I. Introduction
    A. Objectives of Proposed Rule
    B. Overview of Proposed Rule
    C. List of Questions Asked and Comments Requested in This 
Preamble
    D. Key Provisions of the Proposed Rule
    E. The History and Cooperative Structure of the Farm Credit 
System
    1. Capital Structure of System Institutions
    2. Member Stock--Association Level
    3. Member Stock--System Bank Level
    4. Allocated Equities
    5. Unallocated Retained Earnings (URE) and URE Equivalents
    F. The FCA's Current Capital Regulations
    G. Prior FCA Advance Notices of Proposed Rulemaking (ANPRMs) on 
the Basel Capital Standards
II. Minimum Regulatory Capital Ratios, Additional Capital 
Requirements, and Overall Capital Adequacy
    A. Minimum Risk-Based Capital Ratios and Other Regulatory 
Capital Provisions
    B. Leverage Ratio
    C. Capital Conservation Buffer
    D. Supervisory Assessment of Overall Capital Adequacy
III. Definition of Capital
    A. Capital Components and Eligibility Criteria for Regulatory 
Capital Instruments
    1. Common Equity Tier 1 (CET1) Capital
    a. Criteria
    b. Accumulated Other Comprehensive Income (AOCI) and Minority 
Interests
    2. Additional Tier 1 (AT1) Capital
    a. Criteria
    b. FCA's Current Capital Regulations
    3. Tier 2 Capital
    4. FCA Approval of Capital Elements
    5. FCA Prior Approval Requirements for Cash Patronage, 
Dividends, and Redemptions; Safe Harbor
    B. Regulatory Adjustments and Deductions
    1. Regulatory Deductions From CET1 Capital
    a. Goodwill and Other Intangibles (Other than Mortgage Servicing 
Assets)
    b. Gain-on-Sale Associated With a Securitization Exposure
    c. Defined Benefit Pension Fund Net Assets
    d. A System Institution's Allocated Equity Investment in Another 
System Institution
    e. ``Haircut'' Deduction for Redemption of Equities Included in 
CET1 Capital Less Than 10 Years After Issuance or Allocation
    2. The Corresponding Deduction Approach for Purchased Equities
    3. Netting of Deferred Tax Liabilities Against Deferred Tax 
Assets and Other Deductible Assets
    C. Limits on Inclusion of Third-Party Capital
IV. Standardized Approach for Risk-Weighted Assets
    A. Calculation of Standardized Total Risk-Weighted Assets
    B. Risk-Weighted Assets for General Credit Risk
    1. Exposures to Sovereigns
    2. Exposures to Certain Supranational Entities and Multilateral 
Development Banks
    3. Exposures to Government-Sponsored Enterprises
    4. Exposures to Depository Institutions, Foreign Banks, and 
Credit Unions
    5. Exposures to Public Sector Entities
    6. Corporate Exposures
    7. Residential Mortgage Exposures
    8. High Volatility Commercial Real Estate Exposures
    9. Past Due Exposures
    10. Other Assets
    11. Exposures to Other System Institutions
    12. Risk-Weighting for Specialized Exposures
    C. Off-Balance Sheet Items
    1. Credit Conversion Factors
    2. Credit-Enhancing Representations and Warranties
    D. Over-the-Counter Derivative Contracts
    E. Cleared Transactions
    1. Definition of Cleared Transaction
    2. Risk Weighting for Cleared Transactions
    F. Credit Risk Mitigation
    1. Guarantees and Credit Derivatives
    a. Eligibility Requirements
    b. Substitution Approach
    c. Maturity Mismatch Haircut
    d. Adjustment for Credit Derivatives Without Restructuring as a 
Credit Event
    e. Currency Mismatch Adjustment
    f. Multiple Credit Risk Mitigants
    2. Collateralized Transactions
    a. Eligible Collateral
    b. Risk Management Guidance for Recognizing Collateral
    c. Simple Approach
    d. Collateral Haircut Approach
    e. Standard Supervisory Haircuts
    f. Own Estimates of Haircuts
    G. Unsettled Transactions
    H. Risk-Weighted Assets for Securitization Exposures
    1. Overview of the Securitization Framework and Definitions
    2. Operational Requirements
    a. Due Diligence Requirements
    b. Operational Requirements for Traditional Securitizations
    c. Operational Requirements for Synthetic Securitizations
    d. Clean-Up Calls
    3. Risk-Weighted Asset Amounts for Securitization Exposures

[[Page 52815]]

    a. Exposure Amount of a Securitization Exposure
    b. Gains-On-Sale and Credit-Enhancing Interest-Only Strips
    c. Exceptions Under the Securitization Framework
    d. Overlapping Exposures
    e. Servicer Cash Advances
    f. Implicit Support
    4. Simplified Supervisory Formula Approach
    5. Gross-Up Approach
    6. Alternative Treatments for Certain Types of Securitization 
Exposures
    7. Credit Risk Mitigation for Securitization Exposures
    8. N\th\-to-Default Credit Derivatives
    I. Equity Exposures
    1. Definition of Equity Exposure and Exposure Measurement
    2. Equity Exposure Risk Weights
    3. 100-Percent Risk Weight
    4. Hedged Transactions
    5. Measures of Hedge Effectiveness
    6. Equity Exposures to Investment Funds
    a. Full Look-Through Approach
    b. Simple Modified Look-Through Approach
    c. Alternative Modified Look-Through Approach
V. Market Discipline and Disclosure Requirements
    A. Proposed Disclosure Requirements
    B. Location and Frequency of Disclosures
    C. Proprietary and Confidential Information
    D. Specific Public Disclosure Requirements
VI. Conforming Changes
VII. Proposed Timeframe for Implementation
VIII. Abbreviations
IX. Regulatory Flexibility Act
Addendum: Discussion of This Proposed Rule

I. Introduction

A. Objectives of Proposed Rule

    The FCA's objectives in proposing this rule are:
     To modernize capital requirements while ensuring that 
institutions continue to hold enough regulatory capital to fulfill 
their mission as a Government-sponsored enterprise (GSE);
     To ensure that the System's capital requirements are 
comparable to the Basel III framework and the standardized approach 
that the Federal banking regulatory agencies have adopted, but also to 
ensure that the rules take into account the cooperative structure and 
the organization of the System;
     To make System regulatory capital requirements more 
transparent; and
     To meet the requirements of section 939A of the Dodd-Frank 
Wall Street Reform and Consumer Protection Act.

B. Overview of Proposed Rule

    The FCA is seeking public comment on a proposed rule that would 
revise our capital requirements governing System banks,\1\ System 
associations, Farm Credit Leasing Services Corporation, and any other 
FCA-chartered institution the FCA determines should be subject to this 
rule (collectively, System institutions). The proposed rule, where 
appropriate, is comparable to the capital rules adopted in October 2013 
and April 2014 by the Federal banking regulatory agencies \2\ for the 
banking organizations they regulate.\3\ Those rules follow the Basel 
Committee on Banking Supervision's (BCBS or Basel Committee) document 
entitled ``Basel III: A Global Regulatory Framework for More Resilient 
Banks and Banking Systems'' (Basel III), including subsequent changes 
to the BCBS's capital standards and BCBS consultative papers, and our 
proposed rule follows Basel III as appropriate for cooperatives.\4\
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    \1\ For purposes of this preamble and proposed part 628, as well 
as some of the regulations in which we are proposing conforming 
changes and other existing regulations, the term ``System bank'' 
includes Farm Credit Banks, agricultural credit banks, and banks for 
cooperatives. It has the same meaning as Farm Credit bank, which is 
defined in Sec.  619.9140 and which would continue to be used in 
some of the regulations in which we are proposing conforming changes 
as well as in other existing regulations. The Farm Credit Act of 
1971, as amended (Farm Credit Act), uses the term ``System bank'' in 
a number of its provisions.
    \2\ The Federal regulatory banking agencies are the Office of 
the Comptroller of the Currency (OCC), the Board of Governors of the 
Federal Reserve System (FRB), and the Federal Deposit Insurance 
Corporation (FDIC).
    \3\ 78 FR 62018 (October 11, 2013) (final rule of the OCC and 
the FRB); 79 FR 20754 (April 14, 2014) (final rule of the FDIC).
    \4\ Basel III was published in December 2010 and revised in June 
2011. The text is available at http://www.bis.org/publ/bcbs189.htm. 
The BCBS was established in 1974 by central banks with bank 
supervisory authorities in major industrial countries. The BCBS 
develops banking guidelines and recommends them for adoption by 
member countries and others. BCBS documents are available at http://www.bis.org. The FCA does not have representation on the Basel 
Committee, as do the Federal banking regulatory agencies, and is not 
required by law to follow the Basel standards.
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    The FCA believes this proposed rule would improve the quality and 
quantity of System institutions' capital and enhance risk sensitivity 
in calculating risk-weighted assets. It would also provide a more 
transparent picture of System institutions' capital to the investment-
banking sector, which could facilitate System institutions' securities 
offerings to third-party investors. In addition, to comply with section 
939A of the Dodd-Frank Wall Street Reform and Consumer Protection Act 
of 2010 (Dodd-Frank Act),\5\ we propose alternatives to credit ratings 
for calculating risk-weighted assets for certain exposures that are 
currently based on the ratings of nationally recognized statistical 
rating organizations (NRSROs).
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    \5\ Pub. L. 111-203, 124 Stat. 1376 (2010).
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    After the worldwide financial crisis that began in the past decade, 
the BCBS issued Basel III and has continued to issue additional 
standards, with the goal of strengthening the capital of financial 
organizations. The capital rules recently adopted by the Federal 
banking regulatory agencies reflect Basel III as well as aspects of 
Basel II and other BCBS standards. The provisions of the banking 
agencies' rules that are not specifically included in the Basel III 
framework are generally consistent with the goals of the framework.
    The FCA's proposed rule is comparable to the standardized approach 
rules of the Federal banking regulatory agencies to the extent 
appropriate for the System's cooperative structure and status as a GSE 
with a mission to provide a dependable source of credit and related 
services for agriculture and rural America. Like the banking agencies' 
rules, the FCA's proposed rule incorporates key aspects of the Basel 
III tier 1 and tier 2 framework and includes a leverage ratio as well 
as a capital conservation buffer to enhance the resilience of System 
institutions. The capital conservation buffer would be phased in over 3 
years, but we are not proposing to incorporate any of the other 
transition periods in Basel III and the Federal regulatory banking 
agencies' rules.
    The proposed rule would impose some new patronage and redemption 
restrictions, including FCA prior approvals, on System institutions in 
order to ensure the stability and permanence of the capital includable 
in the tier 1 and tier 2 capital ratios, especially regarding the 
equities held by the cooperative members of the institutions (common 
cooperative equities). The proposed rule would also require additional 
recordkeeping and disclosures by System institutions. We believe that 
the benefits to the System of these proposed rules would more than 
outweigh the restrictions and additional responsibilities we would 
require.
    The FCA also proposes changes to its risk-based capital rules for 
determining risk-weighted assets--that is, the calculation of the 
denominator of a System institution's risk-based capital ratios. This 
proposed rule would eliminate the credit ratings of NRSROs from risk-
weights for certain exposures, consistent with section 939A of the 
Dodd-Frank Act. As an alternative, FCA proposes to include 
methodologies for determining risk-weighted assets for exposures to 
sovereigns, foreign banks, and public sector entities, securitization

[[Page 52816]]

exposures, and counterparty credit risk. The rule includes new risk 
weights for cleared transactions, guarantees including credit 
derivatives, collateralized financial transactions, unsettled 
transactions, and securitization exposures. In addition, there are 
proposed new disclosure requirements for all System banks related to 
regulatory capital instruments.
    We generally do not propose risk weightings for exposures that 
System institutions have no authority to acquire.\6\ In some but not 
all cases, we discuss in this preamble this variance from the rules of 
the Federal banking regulatory agencies. In addition, we do not propose 
risk weightings for certain exposures that are both complex and 
unlikely; in the unlikely event that a System institution did acquire 
such an exposure, we would address it on a case-by-case basis using the 
reservation of authority that we propose. We generally discuss these 
exposures in this preamble.
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    \6\ However, we do propose risk weighting for exposures that 
System institutions are not permitted to acquire under their 
investment authorities, because such exposures could be acquired 
through foreclosure on collateral or similar transactions.
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    We remind System institutions that the presence of a particular 
risk weighting does not itself provide authority for a System 
institution to have an exposure to that asset or item. System 
authorities to acquire exposures are contained in other provisions of 
our regulations and in the Farm Credit Act.
    We are not proposing to adopt the ``advanced approaches'' 
regulatory capital rules because no System institution has the volume 
of assets or foreign exposures that would subject it to those 
approaches if it were regulated by a Federal banking regulatory 
agency.\7\ We also do not propose the market risk requirements, because 
no System institution has significant exposure to market risk, and we 
propose to require all System institutions to exclude Accumulated Other 
Comprehensive Income (AOCI) from regulatory capital.
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    \7\ In general, the advanced approaches rule applies to banks 
with consolidated total assets of at least $250 billion or with 
foreign exposures of $10 billion or more. Only two System 
institutions have total assets in excess of $50 billion, and foreign 
exposures are negligible.
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    We propose to place the tier 1 and tier 2 risk-weighted and 
leverage capital requirements in a new part 628 of FCA regulations in 
Title 12 of the Code of Federal Regulations. We would rescind the risk-
weighting provisions in subpart H of part 615 and the core surplus, 
total surplus, and net collateral requirements in subpart K of part 
615. We would retain in part 615 the requirements for the numerator of 
the permanent capital ratio, a measure that is mandated by the Farm 
Credit Act, but the risk weightings for the denominator of the 
permanent capital ratio would be the risk weightings in new part 628. 
We also propose conforming changes in several other FCA regulations.
    In this proposed rule, we have used the general format and the 
section and paragraph numbering system of the Federal banking 
regulatory agencies' rules to the extent possible. In many cases, we 
have retained the numbering system by reserving sections and paragraphs 
where we are not proposing parallel provisions. We have done so in 
order to facilitate the comparison of the proposal with the banking 
agencies' rules.

C. List of Questions Asked and Comments Requested in This Preamble

    We welcome comments on every aspect of this proposed regulation, 
but there are certain areas where we are specifically seeking comment. 
We ask specific questions in these areas throughout this preamble, but 
for the convenience of commenters we provide below a list all of our 
specific questions and requests for comment. We also ask generally for 
comments that suggest how we could simplify the rule while retaining 
the improved capital framework that is our goal.
(1) Alternatives to Including Common Cooperative Equities in CET1 or 
Tier 2 Capital
    We seek comment on using alternative terms or conditions that FCA 
could apply to common cooperative equities. Is a 10-year revolvement 
cycle long enough to reduce the expectation of redemption and increase 
the permanence of such equity instruments so that they may be included 
in CET1 capital?
(2) Capital Treatment of MSAs
    We seek comment on whether FCA should risk weight MSAs at 100 
percent or require deduction of MSAs from CET1, as we propose to do for 
non-mortgage servicing rights. At the present time, FCA does not 
consider any type of servicing asset material to a System institution's 
or the System's consolidated balance sheet.
(3) Accounting for Defined Benefit Pension Fund Assets
    Given System institutions' differing methods of reporting defined 
benefit pension fund assets, what is the best way to require 
adjustments for defined benefit pension fund assets in the CET1 capital 
computation?
(4) Third-Party Capital Limits
    We seek comment on alternative third-party limits to ensure that 
System institutions remain capitalized primarily by their member 
borrowers.
(5) Risk-Weighting--Exposures to OFIs
    We seek comment on our proposed capital treatment of exposures to 
OFIs. Specifically, what factors or other information would be relevant 
if we consider assigning an intermediate risk-weight to a System 
institution's exposure to an OFI, recognizing that the same exposure to 
the same OFI would receive a 100-percent risk weight from a banking 
organization regulated by a Federal banking regulatory agency?
(6) Risk-Weighting--Exposures to Certain Electrical Cooperative Assets
    We seek comment as to whether we should retain this risk weighting 
[for exposures to certain electrical cooperative assets], being mindful 
of the Dodd-Frank Act section 939A requirement that we must eliminate 
the credit rating criteria.
(7) Credit Conversion Factors for Off-Balance Sheet Items--Exposure 
Amount of a System Bank's Commitment to an Association
    We invite comment on this determination [regarding our 
determination of the exposure amount of a System bank's commitment to 
an association].
(8) System Institution Acting as Clearing Member
    We invite comment as to whether we should adopt such provisions 
[contemplating that System institutions would act as clearing members].
(9) Collateralized Transactions--Own Estimate of Haircuts
    We seek comment on whether we should adopt a regulation that would 
permit the use of an institution's own estimates.
(10) Exposures to Asset-Backed Commercial Paper (ABCP) Programs
    We seek comment as to whether we should include provisions in our 
risk-based capital rules regarding ABCP programs that are comparable to 
those adopted by the Federal banking regulatory agencies.
(11) Disclosures
    We invite comment on the appropriate application of these proposed 
disclosure requirements to System banks.

[[Page 52817]]

D. Key Provisions of the Proposed Rule

  Table 1--Summary of Key Provisions of the Tier 1/Tier 2 Capital Items
                 and Standardized Approach Risk Weights
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         Minimum capital ratios                 Proposed treatment
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                      Tier 1/Tier 2--Capital Items
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Common equity tier 1 (CET1) capital      A minimum requirement of 4.5
 ratio (Sec.   628.10).                   percent.
Tier 1 capital ratio (Sec.   628.10)...  A minimum requirement of 6.0
                                          percent.
Total capital ratio (Sec.   628.10)....  A minimum requirement of 8.0
                                          percent.
Tier 1 Leverage ratio (Sec.   628.10)..  A minimum tier 1 leverage ratio
                                          requirement of 5.0 percent of
                                          which at least 1.5 percent
                                          must consist of unallocated
                                          retained earnings and
                                          unallocated retained earnings
                                          equivalents. Applies to all
                                          System institutions.
Components of Capital and Eligibility    Describes the eligibility
 Criteria for Regulatory Capital          criteria for regulatory
 Instruments (Sec.  Sec.   628.20,        capital instruments and adds
 628.21, and 628.22).                     certain adjustments to and
                                          deductions from regulatory
                                          capital, including increased
                                          deductions for mortgage
                                          servicing assets (MSAs) and
                                          deferred tax assets (DTAs).
Capital Conservation Buffer (Sec.        A 2.5-percent capital
 628.11).                                 conservation buffer of CET1
                                          capital above the minimum risk-
                                          based capital requirements,
                                          which must be maintained to
                                          avoid restrictions on capital
                                          distributions and certain
                                          discretionary bonus payments.
------------------------------------------------------------------------
               Risk-Weighted Assets--Standardized Approach
------------------------------------------------------------------------
Credit exposures to:...................  Remains unchanged from existing
                                          regulations:
    U.S. government and its agencies...     0 percent.
    U.S. depository institutions and        20 percent.
     credit unions (including those
     that are OFIs).
    U.S. public sector entities, such       20 percent--general
     as states and municipalities.           obligations.
                                         50 percent--revenue
                                          obligations.
    Cash...............................     0 percent.
    Cash items in the process of            20 percent.
     collection.
    Exposures to other System               100 percent.
     institutions that are not deducted
     from capital.
    Assets not specifically assigned to     100 percent.
     a risk weight category and not
     deducted from capital (Sec.
     628.32).
Exposures to certain supranational       Risk weight reduced from 20
 entities and multilateral development    percent to 0 percent.
 banks (Sec.   628.32).
Exposures to Government-sponsored        Risk weight for preferred stock
 enterprises (Sec.   628.32).             increased from 20 percent to
                                          100 percent. Risk weight for
                                          all other exposures (except
                                          equity exposures, which are
                                          discussed below) remains at 20
                                          percent.
Credit exposures to:...................  Introduces a risk-sensitive
Foreign sovereigns.....................   treatment using the Country
Foreign banks..........................   Risk Classification measure
Foreign public sector entities (Sec.      produced by the Organization
 628.32).                                 for Economic Cooperation and
                                          Development instead of
                                          determining risk weight based
                                          on OECD membership status.
Corporate exposures (Sec.   628.32)....  Assigns a 100-percent risk
                                          weight to corporate exposures,
                                          including exposures to OFIs
                                          that do not satisfy the
                                          criteria for a 20-percent risk
                                          weight and agricultural
                                          borrowers.
Residential mortgage exposures (Sec.     50 percent for first lien
 628.32).                                 residential mortgage exposures
                                          that satisfy specified
                                          underwriting criteria. 100
                                          percent otherwise.
High volatility commercial real estate   Introduces a 150-percent risk
 exposures (Sec.   628.32).               weight for certain credit
                                          facilities that finance the
                                          acquisition, development, or
                                          construction of real property.
Past due exposures (Sec.   628.32).....  Introduces a 150-percent risk
                                          weight for exposures that are
                                          past due, unless they are
                                          residential mortgage exposures
                                          or they are guaranteed or
                                          secured by financial
                                          collateral.
Off-balance Sheet Items (Sec.   628.33)  Certain credit conversion
                                          factors (CCF) revised,
                                          including the CCF for short-
                                          term commitments that are not
                                          unconditionally cancellable,
                                          which is increased from 0
                                          percent to 20 percent.
OTC Derivative Contracts (does not       Modifies derivative matrix
 include cleared transactions) (Sec.      table slightly. Recognizes
 628.34).                                 credit risk mitigation of
                                          collateralized OTC derivative
                                          contracts.
Cleared Transactions (Sec.   628.35)...  Provides preferential capital
                                          requirements for cleared
                                          derivative and repo-style
                                          transactions (as compared to
                                          requirements for non-cleared
                                          transactions) with central
                                          counterparties that meet
                                          specified standards.
Guarantees and Credit Derivatives (Sec.  Provides a more comprehensive
   628.36).                               recognition of guarantees.
Collateralized Transactions (Sec.        Recognizes financial
 628.37).                                 collateral.
Unsettled Transactions (Sec.   628.38).  Risk weight depends on number
                                          of business days past
                                          settlement date.
Securitization Exposures (Sec.  Sec.     Replaces the ratings-based
 628.41, 628.42, 628.43, 628.44, and      approach with either the
 628.45).                                 standardized supervisory
                                          formula approach (SSFA) or the
                                          gross-up approach for
                                          determining a securitization
                                          exposure's risk weight based
                                          on the underlying assets and
                                          exposure's relative position
                                          in the securitization's
                                          structure.

[[Page 52818]]

 
Equity exposures (Sec.  Sec.   628.51,   Establishes a more risk-
 628.52, and 628.53).                     sensitive treatment for equity
                                          exposures.
Disclosure Requirements (Sec.  Sec.      Establishes qualitative and
 628.61, 628.62, and 628.63).             quantitative disclosure
                                          requirements, including
                                          regarding regulatory capital
                                          instruments, for all System
                                          banks.
------------------------------------------------------------------------
                     Existing FCA Regulatory Capital
------------------------------------------------------------------------
Minimum Capital Ratios:
Permanent capital ratio (Sec.  Sec.      Numerator calculation remains
 615.5201 and 615.5205).                  unchanged, but risk weights
                                          (denominator) are revised as
                                          described in this proposal.
Total surplus ratio (Sec.  Sec.          Eliminated.
 615.5301(i) and 615.5330(a)).
Core surplus ratio (Sec.  Sec.           Eliminated.
 615.5301(b) and 615.5330(b)).
Net collateral Ratio (banks only) (Sec.  Eliminated.
  Sec.   615.5301(d) and 615.5335).
------------------------------------------------------------------------

E. The History and Cooperative Structure of the Farm Credit System

    The System is a federally chartered network of four banks and 78 
associations that are borrower-owned lending cooperatives, as well as 
their related service organizations.\8\ Cooperatives are organizations 
that are owned and controlled by their members who use the 
cooperatives' products or services. The mission of the System is to 
provide sound and dependable credit to its member borrowers, who are 
American farmers, ranchers, producers or harvesters of aquatic 
products, their cooperatives, and certain farm-related businesses and 
rural utility cooperatives. The System was created by Congress in 1916 
as a farm real estate lender and was the first GSE; in subsequent 
years, Congress expanded the System to include production credit, 
cooperative, rural housing, and other types of lending. The System's 
enabling statute is the Farm Credit Act.\9\
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    \8\ This is the System's structure as of December 31, 2013. The 
Federal Agricultural Mortgage Corporation (Farmer Mac), which is a 
federally chartered instrumentality, is also an institution in the 
System. The FCA has a separate set of capital regulations that apply 
to Farmer Mac, and this proposed rule does not pertain to Farmer 
Mac's regulations.
    \9\ 12 U.S.C. 2001-2279cc. The Act is available at www.fca.gov 
under ``FCA Handbook.''
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    System associations are direct retail lenders; Farm Credit Banks 
(FCBs) are primarily wholesale lenders to the associations, and the 
agricultural credit bank (CoBank or ACB) makes retail loans to 
cooperatives as well as wholesale loans to affiliated associations. 
Each System bank has a district, or lending territory, which includes 
the territories of the affiliated associations that it funds; CoBank, 
in addition, lends to cooperatives nationwide. There are generally two 
types of associations: Agricultural credit associations (ACAs) and 
Federal land credit associations (FLCAs). In general, ACAs make short, 
intermediate, and long-term operating loans, real estate mortgage 
loans, and rural housing loans.\10\ FLCAs make only long-term real 
estate mortgage and rural housing loans.
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    \10\ ACAs may have a production credit association subsidiary 
that makes short and intermediate-term loans and a FLCA subsidiary 
that makes long-term loans.
---------------------------------------------------------------------------

    The System banks own the Federal Farm Credit Banks Funding 
Corporation (Funding Corporation), which is the fiscal agent for the 
banks and is responsible for issuing and marketing System-wide debt 
securities in domestic and global capital markets. The banks use the 
proceeds from the securities to fund their lending and other 
operations, and the banks are jointly and severally liable on the debt.
    The FCA is the System's independent Federal regulator that examines 
and regulates System institutions for safety and soundness and mission 
compliance. The Farm Credit System Insurance Corporation (FCSIC) is an 
independent, U.S. Government-controlled corporation whose purpose is to 
ensure the timely payment of principal and interest on insured System-
wide debt obligations issued on behalf of the System banks. The members 
of the FCA Board also serve as the members of the FCSIC Board. The 
FCSIC administers a $3.5 billion Insurance Fund and collects insurance 
premiums from System banks.
1. Capital Structure of System Institutions
    A System institution's cooperative capital consists of member-
borrower stock, allocated equities, and unallocated retained earnings. 
System institutions, like all businesses, need capital to absorb losses 
in times of financial adversity and provide a source of funds to 
stabilize earnings and finance growth. Capital also carries ownership 
rights of members, which reflect the System's cooperative nature. 
Members, both past and current, helped build almost all the capital of 
System institutions.\11\
---------------------------------------------------------------------------

    \11\ A small amount of regulatory capital comes from the 
purchase by third-party investors of preferred stock and qualifying 
subordinated debt.
---------------------------------------------------------------------------

    Member stock and allocated equities are the common equity classes 
of System institutions. As discussed above, this proposed rule refers 
to member stock and allocated equity collectively as ``common 
cooperative equity.'' After the URE of an institution is depleted, all 
categories of common cooperative equities are subject to impairment 
before preferred stock and other non-cooperative equities of the 
institution are impaired. This impairment of common cooperative 
equities by category differs somewhat from the common stock of a joint-
stock bank, whose common equities are all impaired on a pro rata basis. 
However, the FCA considers the impairment by category to be 
substantially the same, as the common cooperative equities protect 
other equities and obligations of the institution to the same extent 
common equities of a joint-stock bank protect non-common equities and 
obligations.
    Table 2 compares the capital of System institutions, as 
cooperatives, and joint-stock companies.

[[Page 52819]]



                 Table 2--Capital Instrument Comparison
------------------------------------------------------------------------
                                                          Joint-stock
                                  System institution        company
------------------------------------------------------------------------
Capital Stock...................  Preferred Stock     Preferred Stock
                                   (outside            (member
                                   investors).         investors)
                                  Preferred Stock
                                   (member
                                   investors)..
                                  Member-Borrower     Common Stock.
                                   Stock and
                                   Participation
                                   Certificates.
                                  Allocated Stock
                                   \1\.
Earned Net Worth................  Allocated Surplus   Retained Earnings.
                                   \1\.
                                  Unallocated
                                   Retained Equity
                                   and URE
                                   equivalents.
------------------------------------------------------------------------
\1\ Allocated equities include both stock and surplus. System banks
  generally allocate equity as stock, and System associations generally
  allocate equity as surplus. Allocated equities in this context may be
  redeemed at the discretion of the institution.

2. Member Stock--Association Level
    A retail borrower of a System association or of the ACB is required 
to purchase voting stock or non-voting participation certificates 
(depending on the status of the borrower \12\) as a condition of 
obtaining a loan \13\ and becoming a member of the institution. For 
purposes of this discussion, the FCA uses the term ``member stock'' to 
refer to both voting stock and participation certificates.
---------------------------------------------------------------------------

    \12\ Only members engaged in agriculture and aquaculture may 
hold voting stock in associations. Except for the ACB, only System 
associations may hold voting stock in their affiliated bank. The 
ACB's voting members are its affiliated associations as well as its 
agricultural and rural utility cooperative borrowers. Other 
borrowers, such as rural homeowners who are not farmers and other 
financing institutions, buy participation certificates as a 
condition of getting a loan or service.
    \13\ A member may also purchase preferred stock as an investment 
in the association if the association offers such stock. Such 
preferred stock is not a common cooperative equity.
---------------------------------------------------------------------------

    Member stock is redeemable at book value, not to exceed par, only 
at the discretion of the association's board of directors and subject 
to the association's compliance with capital adequacy requirements. 
When these requirements are met, associations routinely retire member 
stock within some timeframe after the member has repaid the loan. 
System associations are authorized to pay dividends on member stock but 
do not currently do so.
    Currently, all associations set their member stock purchase 
requirements at the Farm Credit Act's minimum of the lesser of $1,000 
or 2 percent of the loan amount,\14\ regardless of the member's loan 
volume. Thus, while association stock purchased by borrowers embodies a 
key cooperative principle, it is not a significant source of 
association capital.
---------------------------------------------------------------------------

    \14\ Section 4.3A(c)(1)(E)(i) of the Act.
---------------------------------------------------------------------------

3. Member Stock--System Bank Level
    By contrast, member stock purchased by associations in their 
affiliated System bank plays an important role in capitalizing System 
banks. Each System bank sets a ``required investment'' for its 
affiliated associations based on a percentage of each association's 
loan volume funded by the bank. System bank advances fund the stock 
purchases, and the associations' repayments of these advances reduce 
their retained earnings.\15\ As an association's loan volume grows, the 
bank requires the association periodically to acquire additional stock 
to maintain the required stock investment. When an association's loan 
volume decreases, the bank either pays a return on what the bank deems 
``excess'' stock through an interest credit or an increased patronage 
refund distribution, or the bank retires such stock. Tying the amount 
of the required investment to the amount of the loan results in each 
association's bearing the cost and risks of bank capital relative to 
the association's share of bank debt, but this practice also makes the 
stock less permanent because the bank routinely issues or redeems the 
stock.
---------------------------------------------------------------------------

    \15\ System banks and associations' accounting systems and wire 
transfer systems are highly coordinated if not the same within 
districts; therefore, a reduction in retained earnings would be 
equivalent to cash repayment of an advance.
---------------------------------------------------------------------------

    The ACB's capitalization program sets a ``targeted investment'' for 
its members based on loan volume and allows its members to accumulate 
the targeted investment through the bank's payment of stock patronage 
refunds, or to purchase stock to fulfill the entire investment 
requirement. The ACB's affiliated associations have all chosen to meet 
the target through stock purchases rather than through accumulations of 
allocated equities.
4. Allocated Equities
    As discussed above, some System institutions provide cooperative 
benefits to their borrowers by paying patronage refunds to their member 
borrowers based on net income. Patronage refunds may be paid in cash or 
allocated equities \16\ (stock or surplus) or a combination of both. 
When institutions pay patronage refunds as allocated equity, they 
actually retain the allocated equity thus effectively increasing a 
borrower's equity investment in the institution. For tax purposes, a 
System institution that declares a patronage refund must provide the 
borrower with a written notice of allocation evidencing the amount paid 
in cash and the amount of allocated equity.\17\ In this context, FCA is 
describing allocated equities that the institution determines are 
subject to redemption. Those allocated equities that an institution 
determines are not subject to redemption will be discussed later.
---------------------------------------------------------------------------

    \16\ The FCA uses the term ``allocated equity'' to mean 
patronage refunds retained as both allocated stock and allocated 
surplus.
    \17\ Under Subchapter T of the Internal Revenue Code, there are 
two types of allocated equities: Qualified and nonqualified. Their 
Federal income Tax treatment differs. See 26 U.S.C. 1381-1388.
---------------------------------------------------------------------------

    Allocated equities have certain rights and features in common with 
member stock. Allocated equities are redeemable at book value, not to 
exceed face value, only at a board's discretion and subject to 
compliance with regulatory and supervisory capital requirements.
5. Unallocated Retained Earnings (URE) and URE Equivalents
    URE consists of current and retained earnings not allocated to a 
member or distributed through patronage refunds or dividends.\18\ It is 
free from any specific ownership claim or expectation of allocation, 
and it absorbs losses before other forms of surplus and stock. For the 
past two decades, System associations have retained their earnings 
primarily in the form of URE. One distinction between URE and allocated 
equity is whether the institution provides a written notice of 
allocation to the borrower. If the System institution does not provide 
a written notice of allocation to the borrower, the equity is URE. 
However, many System institutions keep ``memo'' records so that URE may 
be attributed to a borrower if liquidation occurs.\19\
---------------------------------------------------------------------------

    \18\ Under GAAP, a System institution may include allocated 
equity not subject to retirement in its URE.
    \19\ A limited amount of System URE stems from non-patronage 
sources and, under the bylaws of most System institutions, would be 
distributed at liquidation among past and present patrons.
---------------------------------------------------------------------------

    In a liquidation, current and past members may have a fixed and 
limited

[[Page 52820]]

claim on URE (except allocated equity not subject to retirement that is 
treated as URE under generally accepted accounting principles (GAAP)).
    The FCA has considered certain nonqualified allocated equities to 
be the equivalent of URE when a System institution has provided a 
written notice of allocation to members stating the equities are not 
subject to redemption except upon liquidation or dissolution. To treat 
these nonqualified allocated equities as URE in the core surplus ratio, 
the FCA has required System institutions to adopt bylaw provisions that 
the nonqualified allocated equity cannot be:
     Redeemed other than in a liquidation or dissolution of the 
institution;
     Considered by the institution as satisfying any borrower 
requirement to capitalize the entity; and
     Offset against the specified borrower's loan in the event 
of a loan loss on the specified borrower's account.

F. The FCA's Current Capital Regulations

    The FCA currently has three risk-based minimum capital standards: 
(1) A 3.5-percent core surplus ratio (CSR); (2) a 7-percent total 
surplus ratio (TSR); and (3) a 7-percent permanent capital ratio 
(PCR).\20\ Congress added a definition of ``permanent capital'' to the 
Farm Credit Act in 1988 and required the FCA to adopt risk-based 
permanent capital standards for System institutions. The FCA adopted 
permanent capital regulations in 1988 and, in 1997, added core surplus 
and total surplus capital standards for banks and associations, as well 
as a non-risk-based net collateral ratio (NCR) for banks.\21\ Since 
then, we have made only minor changes to these regulations.
---------------------------------------------------------------------------

    \20\ See 12 CFR 615.5201-615.5216 and 615.5301-615.5336.
    \21\ See 53 FR 39229 (October 6, 1988) and 63 FR 39229 (July 22, 
1998).
---------------------------------------------------------------------------

    Permanent capital is defined in the Farm Credit Act to include 
current earnings, unallocated and allocated earnings,\22\ stock (other 
than stock retireable on repayment of the holder's loan or at the 
discretion of the holder, and certain stock issued before October 
1988), surplus less allowance for loan losses (ALL), and other debt or 
equity instruments that the FCA determines appropriate to be considered 
permanent capital. Allocated equities shared by a bank and each 
affiliated association--that is, equities that a bank has allocated to 
an affiliated association--appear on the books of both institutions but 
can be counted in only one institution's permanent capital pursuant to 
a capital allotment agreement between the two institutions.
---------------------------------------------------------------------------

    \22\ In this preamble, ``unallocated and allocated earnings'' 
would be equivalent to ``unallocated retained earnings and allocated 
equities''. Additionally ``surplus'' would be ``unallocated retained 
earnings''.
---------------------------------------------------------------------------

    Core surplus is high-quality capital similar (but not identical) to 
Basel I's tier 1 capital and generally consists of URE, certain 
allocated surplus, and noncumulative perpetual preferred stock. In 
calculating core surplus, an association must deduct its net investment 
in its affiliated bank; the bank may not include in its core surplus 
the equities it has issued or distributed to its affiliated 
associations. At least 1.5 percent of the minimum 3.5-percent core 
surplus requirement must consist of URE and noncumulative perpetual 
preferred stock. We did not include equities held by one System 
institution in another institution because we wanted institutions to 
have sufficient high-quality capital on a standalone basis in the event 
the other System institution became severely weakened.
    Total surplus generally contains most of the components of 
permanent capital but excludes stock held by members as a condition of 
obtaining a loan and certain other instruments that are routinely and 
frequently retired by institutions.

G. Prior FCA Advance Notices of Proposed Rulemaking (ANPRMs) on the 
Basel Capital Standards

    In October 2007, the FCA published an advance notice of proposed 
rulemaking (ANPRM) on the risk weighting of assets--the denominator in 
our risk-based core surplus, total surplus, and permanent capital 
ratios--a possible leverage ratio, and a possible early intervention 
framework.\23\ A comment letter we received in December 2008 from the 
Funding Corporation on behalf of the System focused primarily on the 
numerators of those regulatory capital ratios.\24\ The System urged us 
to replace the core surplus and total surplus capital standards with a 
``Tier 1/Tier 2'' capital framework consistent with the Basel Accord 
(Basel I and Basel II) and the other Federal banking regulatory 
agencies' guidelines. The comment letter stated that, ``because the 
System's growth has required the use of external equity capital, the 
System is in regular contact with the financial community, including 
rating agencies and investors. Obtaining capital at competitive terms, 
conditions, and rates requires these parties [to] understand the 
System's and individual institution's financial position, making 
consistency with approaches used by other regulators, rating agencies, 
and investment firms a requirement to enhance the capacity of the 
System to achieve its mission. For the System to achieve its mission, 
the System must be able to compete with other lenders. Therefore, FCA's 
capital regulations must result in a regulatory framework that provides 
for a level playing field, in addition to safe and sound operations.'' 
Furthermore, the System recommended that we replace our NCR, which is 
applicable only to banks, with a non-risk-based leverage ratio 
applicable to all System institutions.
---------------------------------------------------------------------------

    \23\ 72 FR 61568 (October 31, 2007).
    \24\ Comment letter dated December 19, 2008, from Jamie Stewart, 
President and CEO, Funding Corporation, on behalf of the System.
---------------------------------------------------------------------------

    In December 2009, the Basel Committee published a consultative 
document that proposed fundamental reforms to the current tier 1/tier 2 
capital framework.\25\ The Basel Committee's primary aims were to 
improve the banking sector's ability to absorb shocks arising from 
financial and economic stress, to mitigate spillover risk from the 
financial sector to the broader economy, and to increase bank 
transparency and disclosures. The FCA issued another ANPRM in July 2010 
seeking comments on a tier 1/tier 2 regulatory capital structure that 
would be similar to the capital tiers delineated in the Basel 
consultative document and the then-existing guidelines of the Federal 
regulatory banking agencies. We received two comment letters, one from 
a System institution and one from a trade association on behalf of the 
System. Both commenters strongly supported the FCA's adoption of a 
capital framework that was as similar as possible to the capital 
guidelines of the Federal regulatory banking agencies as revised to 
implement the Basel III standards. In particular, they asserted that 
consistency of FCA capital requirements with those of the Federal 
regulatory banking agencies and transparency would allow investors, 
shareholders, and others to better understand the financial strength 
and risk-bearing capacity of the System. The FCA decided to delay 
issuing a proposed rule until the Basel Committee had issued its new 
framework and the Federal regulatory banking agencies had

[[Page 52821]]

proposed rules to implement that framework.
---------------------------------------------------------------------------

    \25\ ``Basel Consultative Proposals to Strengthen the Resilience 
of the Banking Sector,'' December 17, 2009. The document is 
available at http://www.bis.org/publ/bcbs164.htm.
---------------------------------------------------------------------------

    After soliciting comments on its December 2009 consultative 
document, the Basel Committee issued the new Basel III capital 
standards in December 2010 (revised June 2011). In 2012, the Federal 
regulatory banking agencies issued proposed rules to implement those 
standards and adopted final rules in October 2013 and April 2014.
    The FCA agrees generally with the System's position that a tier 1 
and tier 2 regulatory capital framework comparable to Basel III and the 
Federal regulatory banking agencies' new rules would be beneficial to 
System institutions, their members, the investment community, and other 
interested parties. It would also facilitate the issuance of equities 
and subordinated debt to third-party investors. In addition, we believe 
it necessary and appropriate to update the denominator risk weightings 
that have been revised based on the lessons learned in the 2008 global 
financial crisis.
    When we adopted the core surplus, total surplus and the net 
collateral ratios in 1997, transparency to the investment community was 
not a significant consideration because the capital in the System 
institutions was held by or generated by their members. The goal of 
those regulations was to ensure that each System institution built 
sufficient high-quality capital, especially URE and URE equivalents, to 
serve the needs of all qualifying eligible borrowers and to withstand 
downturns in the agricultural sector as well as adversities at other 
System institutions. The FCA continues to believe a significant amount 
of URE and URE equivalents is necessary to achieve and maintain that 
goal but also believes common cooperative equities may be included in 
the higher quality capital measures to a larger extent than they are 
included in our current regulations. This position is based on a number 
of factors, including the reduction of the member stock requirement at 
most institutions to the statutory minimum and the institutions' 
evolving allocated equity redemption practices.
    Through the 1990s and to the present day, a strong agricultural 
economy together with sound business practices has enabled System 
institutions to build higher quality capital while at the same time 
growing the System's total assets from $64.8 billion in 1993 to $260.8 
billion at the end of 2013.

II. Minimum Regulatory Capital Ratios, Additional Capital Requirements, 
and Overall Capital Adequacy

A. Minimum Risk-Based Capital Ratios and Other Regulatory Capital 
Provisions

    The FCA is proposing the following minimum capital ratios: (1) A 
common cooperative equity tier 1 (CET1) capital ratio of 4.5 percent; 
(2) a tier 1 capital ratio of 6 percent; (3) a total capital ratio of 8 
percent; and (4) a tier 1 capital leverage ratio of 5 percent, of which 
at least 1.5 percent must be composed of URE and URE equivalents. Tier 
1 capital would equal the sum of CET1 and AT1 capital. Total capital 
would consist of CET1, AT1, and tier 2 capital. As noted above, the 
FCA's existing core surplus, total surplus, and net collateral 
requirements would be rescinded, but the minimum permanent capital 
requirements would be retained.
    In addition, each System institution would be subject to a capital 
conservation buffer in excess of the risk-based capital requirements 
that would impose limitations on its capital distributions and certain 
discretionary bonuses, as described in section C below. The capital 
conservation buffer would not be considered a minimum capital 
requirement.
    The FCA will continue to hold each System institution accountable 
to maintain sufficient capital commensurate with the level and nature 
of the risks to which it is exposed. This may require capital 
significantly above the minimum requirements, depending on the 
institution's activities and risk profile. Section D below describes 
the requirement for overall capital adequacy of System institutions and 
the supervisory assessment of an institution's capital adequacy.
    Consistent with the FCA's authority under the Farm Credit Act and 
current capital regulations, proposed Sec.  628.10(d) confirms FCA's 
authority to require an institution to hold a different amount of 
regulatory capital from what would otherwise be required under the 
proposal, if we determine that the institution's regulatory capital is 
not commensurate with its credit, operational, or other risks.

B. Leverage Ratio

    The FCA is proposing a tier 1 leverage ratio for all System 
institutions of 5 percent, of which at least 1.5 percent of non-risk-
weighted total assets must be URE and URE equivalents. This would 
replace the net collateral ratio requirement for System banks. System 
associations do not currently have a leverage ratio requirement. The 
proposed ratio differs from the Federal regulatory banking agencies' 
leverage ratio in two respects: There is no minimum URE and URE 
equivalents requirement in their leverage ratio, and their minimum 
requirement is 4 percent.
    A leverage ratio constrains the build-up of leverage in the System, 
which the risk-based regime is not designed to do. It reinforces the 
risk-based requirements with a non-risk-based backstop--that is, if the 
computation of the risk-weighted assets does not accurately reflect the 
true underlying risk inherent in a System institution, the leverage 
ratio serves as a floor that prevents the institution from decreasing 
its capital below a certain percentage of total assets. Furthermore, it 
represents a standardized measure that can be used to make comparison 
among System institutions over time.
    The 5-percent leverage ratio takes into consideration the fact that 
System institutions are financially and operationally interconnected, 
member-owned cooperatives, and monoline lenders that currently provide 
credit to approximately 41 percent of the United States agriculture 
sector. They have a business model and risk profile that are 
substantially different from traditional banking organizations.
    The higher 5-percent leverage ratio also helps to ensure that 
System institutions continue to have sufficient systemic loss-absorbing 
capital to withstand a severely adverse economic event while continuing 
to provide a steady flow of credit to U.S. agriculture in view of the 
System's unique GSE mission.
    For associations, the proposed 5-percent minimum leverage ratio 
would differ little from their proposed tier 1 risk-based capital 
requirement. Most associations' on-balance sheet assets are risk 
weighted at 100 percent, and the associations do not have significant 
off-balance sheet items. This is not the case for System banks, 
however. While System banks do have off-balance sheet items that would 
have to be risk weighted--especially unfunded commitments in this 
proposal--the banks also have a large portion of instruments in the 20-
percent risk-weighting category, primarily the direct loans to their 
affiliated associations, and the 0-percent risk-weighting category. We 
believe it is important for System banks to hold enough capital to 
protect against risks other than credit risk (e.g. interest rate risk, 
liquidity risk, premium risk, operational risk, etc.).
    The 1.5-percent minimum URE and URE equivalents requirement is 
similar in some respects to our current requirement that at least 1.5 
percent of

[[Page 52822]]

an institution's core surplus must consist of URE and URE equivalents 
and noncumulative perpetual preferred stock. For associations, the 
great majority of which have not issued noncumulative perpetual 
preferred stock, compliance with the proposed 1.5-percent URE and URE 
equivalents requirement would differ little from the compliance with 
their existing 1.5 percent of core surplus requirement. By contrast, 
all banks have noncumulative perpetual preferred stock outstanding that 
is included in their 1.5-percent core surplus requirement but would not 
be included in the proposed 1.5-percent URE and URE equivalents minimum 
standard. The FCA believes that it is especially important for System 
banks to hold sufficient URE and URE equivalents to cushion the third-
party and common cooperative equities that make up the rest of tier 1 
capital. URE and URE equivalents, when depleted, do not result in 
losses to a System's institution's members. URE protects against the 
interconnected risk that exists between System banks and associations; 
it protects association members against association losses, 
associations against bank losses, and the System against financial 
contagion. We are proposing to make the URE and URE equivalents a part 
of the leverage ratio because a URE minimum tied to risk-adjusted 
assets may not be sufficient for the banks, which have a greater 
disparity between risk-adjusted assets and total assets.

C. Capital Conservation Buffer

    Consistent with Basel III and the Federal regulatory banking 
agencies' rules, we are proposing a capital conservation buffer to 
enhance the resilience of System institutions throughout financial 
cycles. To avoid restrictions on cash payments for patronage, 
redemptions, and dividends (collectively, capital distributions) or 
discretionary executive bonuses, an institution's risk-weighted 
regulatory capital ratios would have to be at least 2.5 percent above 
the minimums when the buffer is fully phased in. The buffer would 
provide an incentive for institutions to hold capital well above the 
minimum required levels to ensure that they would meet the regulatory 
minimums even during stressful conditions.
    The capital conservation buffer would consist of tier 1 capital and 
would be the lowest of the following risk-weighted measures:
     The institution's CET1 ratio minus its minimum CET1 ratio;
     The institution's tier 1 ratio minus its minimum tier 1 
ratio; and
     The institution's total capital ratio minus its minimum 
total capital ratio.

If any of the institution's risk-weighted ratios were at or below the 
minimum required ratios, the institution's capital conservation buffer 
would be zero.
    The maximum payout ratio would be the percentage of eligible 
retained income that a System institution would be allowed to pay out 
in capital distributions and discretionary bonuses during the current 
calendar quarter and would be determined by the amount of the capital 
conservation buffer held by the institution during the previous 
calendar quarter. Eligible retained income would be defined as the 
institution's net income as reported in its quarterly call reports to 
the FCA for the four calendar quarters preceding the current calendar 
quarter, net of any capital distributions, certain discretionary bonus 
payments, and associated tax effects not already reflected in net 
income.
    A System institution's maximum payout amount for the current 
calendar quarter would be equal to its eligible retained income 
multiplied by the applicable maximum payout ratio in accordance with 
table 1 in Sec.  628.11. An institution with a capital conservation 
buffer that is greater than 2.5 percent would not be subject to a 
maximum payout amount under this provision (although distributions 
without FCA prior approval may be restricted by other provisions in 
this proposed rule). If an institution's CET1, tier 1, or total capital 
ratio is 2.5 percent or less above the minimum ratio, the maximum 
payout ratio would also decline. The institution would remain subject 
to payout restrictions until it raises its capital conservation buffer 
above 2.5 percent. In addition, a System institution would not 
generally be able to make capital distributions or pay discretionary 
bonuses during the current calendar quarter if its eligible retained 
income is negative and its capital conservation buffer is less than 2.5 
percent as of the end of the previous quarter.
    The capital conservation buffer is divided into quartiles, with 
greater restrictions on capital distributions and discretionary bonus 
payments as the capital conservation buffer falls closer to 0 percent. 
When the buffer is fully phased in, payouts would be restricted to 60 
percent of eligible retained income if the buffer is above 1.875 
percent but at or below 2.5 percent. When the buffer is above 1.25 
percent but less than or equal to 1.875 percent, the payout would be 
restricted to 40 percent of eligible retained income. When the buffer 
is above 0.625 percent but equal to or below 1.25 percent, the payout 
would be restricted to 20 percent of eligible retained income. A 
capital conservation buffer of 0.625 percent or below would result in a 
0-percent payout.
    The FCA proposes to define a capital distribution as:
     A reduction of tier 1 capital through the repurchase or 
redemption of a tier 1 capital instrument or by other means, unless the 
redeemed capital is replaced in the same quarter by tier 1 qualifying 
capital;
     A reduction of tier 2 capital through the repurchase, or 
redemption prior to maturity, of a tier 2 capital instrument or by 
other means, unless the redeemed capital is replaced in the same 
quarter by qualifying tier 1 or tier 2 capital;
     A dividend declaration or payment on any tier 1 capital 
instrument;
     A dividend declaration or interest payment on any tier 2 
capital instrument if the institution has full discretion to suspend 
such payments permanently or temporarily without triggering an event of 
default;
     A cash patronage refund declaration or payment;
     A patronage refund declaration in the form of allocated 
equities that do not qualify as tier 1 or tier 2 capital; \26\ or
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    \26\ A patronage refund declaration or payment in the form of 
allocated equities that qualify as tier 1 capital is not a reduction 
in tier 1 capital. It is merely a reclassification from one tier 1 
capital element into a different tier 1 capital element.
---------------------------------------------------------------------------

     Any similar transaction that the FCA determines to be in 
substance a distribution of capital.\27\
---------------------------------------------------------------------------

    \27\ We note that the Federal regulatory banking agencies 
replaced the term ``capital distribution'' with ``distribution'' in 
their final rule. We have decided to use the term ``capital 
distribution'' to avoid potential confusion with other types of 
distributions that do not meet the definition for purposes of 
applying the capital conservation buffer.
---------------------------------------------------------------------------

    The FCA proposes to define a discretionary bonus payment as a 
payment made to a senior officer of a System institution, where:
     The System institution retains discretion whether to pay 
the bonus and how much to pay until it awards the payment to the senior 
officer;
     The System institution determines the amount of the bonus 
without prior promise to, or agreement with, the senior officer; and
     The senior officer has no express or implied contractual 
right to the bonus payment.
    The term ``senior officer'' is already defined in Sec.  619.9310 as 
``[t]he Chief Executive Officer, the Chief Operations Officer, the 
Chief Financial Officer, and the General Counsel, or persons in

[[Page 52823]]

similar positions; and any other person responsible for a major policy-
making function.'' \28\
---------------------------------------------------------------------------

    \28\ The FCA considers this definition substantively identical 
to the definition of ``executive officer'' used in the Federal 
regulatory banking agencies' rules on the capital conservation 
buffer.
---------------------------------------------------------------------------

    The purpose of limiting restrictions on discretionary bonus 
payments to senior officers is to focus these measures on the 
individuals within an institution who could expose the institution to 
the greatest risk. We note that the institution may otherwise be 
subject to limitations on capital distributions under other provisions 
in this rule. In addition, we retain authority to approve a capital 
distribution or bonus payment if we determine that the payment would 
not be contrary to the purposes of the capital conservation buffer or 
the safety and soundness of the institution.

D. Supervisory Assessment of Overall Capital Adequacy

    System institutions should have internal processes to assess 
capital adequacy that reflect a full understanding of risks and to 
ensure sufficient capital is held. Our supervisory assessment of 
capital adequacy must take account of the internal processes for 
capital adequacy, as well as risks and other factors that can affect an 
institution's financial condition, including the level and severity of 
problem assets and total surplus exposure to operational and interest 
rate risk. For this reason, a supervisory assessment of capital 
adequacy may differ significantly from conclusions that might be drawn 
solely from the level of the institution's risk-based capital ratios.
    The FCA expects System institutions generally to operate with 
capital levels well above the minimum risk-based ratios and to hold 
capital commensurate with the level and nature of the exposed risk. For 
example, System institutions that are growing or that anticipate growth 
in the near future should maintain strong capital levels substantially 
above the minimums and should not allow significant diminution of 
financial strength below such levels to fund their growth. System 
institutions with high levels of risk are also expected to operate with 
capital well above the minimum levels. The supervisory assessment also 
evaluates the quality and trends in an institution's capital 
composition, including the share of common cooperative equities and URE 
and equivalents.
    Section 628.10(d) of the proposal would maintain and reinforce 
these supervisory expectations by requiring that a System institution 
maintain capital commensurate with the level and nature of all risks to 
which it is exposed and that the institution have a process for 
assessing its overall capital adequacy in relation to its risk profile, 
as well as a comprehensive strategy for maintaining an appropriate 
level of capital.
    The supervisory assessment may include such factors as whether the 
institution has merged recently, entered new activities, or introduced 
new products. It would also consider whether an institution is 
receiving special supervisory attention from FCA, has or is expected to 
have losses resulting in capital inadequacy, has significant exposure 
due to risks from concentrations in credit or nontraditional 
activities, or has significant exposure to interest rate risk, 
operational risk, or could be adversely affected by the activities or 
condition of an affiliated System institution.
    The supervisory assessment would also evaluate the 
comprehensiveness and effectiveness of a System institution's capital 
as required by Sec. Sec.  615.5200 and 618.8440 of existing FCA 
regulations. We are proposing to revise Sec.  615.5200 to require the 
planning to include the new ratios in this proposed rule. An effective 
capital planning process would require a System institution to assess 
its risk exposures, develop strategies for mitigating those risks, and 
set capital adequacy goals relative to its risks, and prospective 
economic conditions. Evaluation of an institution's capital adequacy 
process would be commensurate with the institution's size, 
sophistication, and risk profile.

III. Definition of Capital

A. Capital Components and Eligibility Criteria for Regulatory Capital 
Instruments

1. Common Cooperative Equity Tier 1 (CET1) Capital
    Under the proposed rule, a System institution's CET1 would be the 
sum of URE and common cooperative equities, minus the regulatory 
adjustments and deductions described in Sec.  628.22. We have adapted 
the criteria for the common cooperative equities in accordance with 
footnote 12 of Basel III, which states that the criteria for non-joint 
stock companies, including mutuals and cooperatives, should take into 
account their legal structure and constitution.\29\ The footnote 
provides that the CET1 criteria ``should preserve the quality of the 
instruments by requiring that they are deemed fully equivalent to 
common shares . . . as regards loss absorption and do not possess 
features which could cause the condition of the [non-joint stock] bank 
to be weakened as a going concern during periods of market stress.'' 
The Federal regulatory banking agencies' rules have decided to apply 
the same criteria to the mutual financial institutions they regulate 
and to their joint-stock banking organizations.
---------------------------------------------------------------------------

    \29\ Basel III framework footnote 12 to ``Criteria for 
classification as common shares for regulatory capital purposes''.
---------------------------------------------------------------------------

    Basel III established 14 criteria a banking organization must meet 
to include an instrument in CET1 capital; the Federal regulatory 
banking agencies' rules have 13 criteria. These criteria are intended 
to ensure that the instrument will be available to absorb losses at the 
banking organization on a going-concern basis. Several of the criteria 
provide that the instrument must represent the most subordinated claim 
in liquidation, is entitled to a claim on residual assets proportional 
to its share of issued capital, and must take the first and 
proportionately greatest share of any losses as they occur.
    Unlike joint-stock banks, System institutions have priorities of 
impairment among the various classes of member stock and allocated 
equities, and typically all current and former members are entitled to 
the residual assets, based on historic patronage, in a liquidation of 
the institution. However, all common cooperative equities are impaired 
and depleted before all other instruments. Therefore, we are replacing 
these criteria with criteria providing that the instrument must 
represent a claim subordinated to all other equities of an institution 
in a liquidation, and the holder receives payment only after all 
general creditors and debt holders are paid.
    Another CET1 criterion of Basel III and the Federal regulatory 
banking agencies is that the banking organization does nothing to 
create an expectation at issuance that the instrument will be redeemed, 
nor do the statutory or contractual terms provide any feature that 
might give rise to such an expectation. In the System, institutions 
issue or distribute some common cooperative equities that are never 
retired and that do not give rise to redemption expectations by 
members. Other common cooperative equities, by contrast, are routinely 
and frequently redeemed. Through this practice, System institutions can 
create expectations on the part of their members that these purchased 
and allocated equities will be redeemed. Consequently, we believe that 
the

[[Page 52824]]

``expectation'' requirement of Basel III and the Federal regulatory 
banking agencies' rules could reasonably be interpreted to disallow 
common cooperative equities redeemed by System institutions from CET1. 
However, it is important for the current members of a cooperative to 
provide capital to the cooperative and for current and former members 
of the cooperative eventually to receive a return of their capital. 
Therefore, we have decided to recognize this key cooperative principle 
by including in CET1 purchased and allocated equities that meet the 
requirements described below.
    The FCA is proposing to include in CET1 an amount of member stock 
equal to the minimum stock purchase requirement set forth in the Farm 
Credit Act. That minimum amount is the lesser of $1,000 or 2 percent of 
the member's loan or loans. The FCA has reviewed the 2013 regulatory 
technical standards of the European Banking Authority (EBA) regarding 
the standards for CET1 for cooperatives, mutuals, the other non-joint 
stock banks.\30\ European cooperative banks do not issue allocated 
equities; therefore, the technical regulations have little application 
to the treatment of System institutions' allocated equities. However, 
we have adapted the EBA document's treatment of minimum required 
amounts of purchased cooperative equities to allow System institutions 
to include purchased member stock in their CET1.
---------------------------------------------------------------------------

    \30\ European Banking Authority, EBA Final Draft Regulatory 
Technical Standards on Own Funds [Part 1] Under Regulation (EU) No. 
575/2013 Capital Requirements Regulation--CRR), Title II, ch. 1, 
art. 7.
---------------------------------------------------------------------------

    Purchased member capital is routinely funded directly or indirectly 
by European cooperative banks, and the same is true for System 
institutions. The CET1 criteria for Basel III and the Federal 
regulatory banking agencies' rules do not permit joint-stock banks to 
include in CET1 any equities whose purchase is directly or indirectly 
funded by the bank. However, the EBA document permits cooperatives to 
include directly or indirectly funded member stock (called a 
subscription) if the amount of the subscription is not material, the 
purpose of the cooperative's loan to the member is not the purchase of 
an institution's capital instrument, and the member stock purchase is 
necessary in order for the beneficiary of the loan to become a member 
of the cooperative. The required minimum stock purchase requirements in 
System institutions mirror these characteristics.
    Some countries in the European Union require the redemption of the 
member's subscription when the member pays off the loan. That is not 
the case with respect to System institutions. They may, but are not 
required to, redeem the member's required stock when a loan is paid. As 
a general matter, the FCA has not given favorable treatment to member 
stock in its capital regulations because of the widespread and routine 
redemptions of member stock when the member's loan is paid off. 
Notwithstanding these concerns, because the repayment of the member's 
loan reduces the level of assets that the System institution must 
capitalize and because of the similar characteristics with EBA 
provisions, we have determined that including an amount equal to the 
minimum stock purchase requirement appropriately recognizes the 
cooperative structure of the System and is acceptable from a safety and 
soundness standpoint. For this minimum amount of stock, the institution 
would not have to obtain the prior approval of the FCA before redeeming 
it and would not be required to keep it outstanding for a minimum 
period. In other words, the institution could redeem the member's 
minimum required stock according to its current redemption practices.
    The FCA is also proposing to include other member-purchased common 
cooperative equities and allocated equities of System institutions that 
adopt a capitalization bylaw providing that the institution will not 
redeem the equities for at least 10 years (for CET1 capital) and for at 
least 5 years (for tier 2 capital) after issuance or distribution, will 
not offset such equities against a member's loan in default, and will 
not redeem the equities without the FCA's prior approval unless the 
redemption falls within the ``safe harbor'' provision described below.
    System institutions typically have allocated equity revolvement 
periods ranging from 4 to 10 years, and perhaps longer, for their 
allocated equities. We believe allocated equities with shorter 
revolvement periods have higher member expectations of redemption than 
allocated equities that are held longer. Such expectations may put 
stress on System institutions to continue to redeem equities even when 
the institution's financial health is deteriorating. Institutions' 
boards of directors generally prefer to revolve allocated equities on a 
regular basis. This aids in the capital planning process and can help 
manage the revolvement expectations of the members. While the 
regularity of redemptions results in a rise in member expectations, we 
believe a longer revolvement period has the effect of moderating these 
expectations--that is, if a member is not expecting equities allocated 
in 2015 to be redeemed before 2025, the member is less likely to count 
on the cash redemption of those equities in the member's own capital 
planning. Therefore, we are retaining an ``expectation'' criterion 
similar to that in Basel III and the Federal regulatory banking 
agencies' rules, but we are providing that equities held by an 
institution for at least 10 years will not be considered to create an 
expectation. Cash payment of patronage refunds, dividends, and 
redemption of allocated equities normally are paid from current year 
net income, and an institution must ensure it generates sufficient net 
income to cover these expected cash outlays from capital. A shorter 
revolvement or redemption cycle places more strain than a longer 
revolvement or redemption cycle on an institution's ability to generate 
a return to stockholders and capitalize growth.
    Under this proposal, all System institutions would be able to 
include an amount equal to the minimum stock purchase requirements of 
their members in CET1 capital, as well as purchased stock or allocated 
equities that the institution never retires. System institutions that 
have a member stock purchase requirement that is higher than the 
statutory minimum and that revolve allocated equities would be able to 
include all such equities in CET1 capital if they ensure that the 
purchased stock and allocated equities are not redeemed for at least 10 
years. Member stock in excess of the statutory minimum and allocated 
equities that are retained for at least 5 years are includable in tier 
2 capital; if retained for less than 5 years, such equities are not 
includable in tier 1 or tier 2.
a. Criteria
    The FCA proposes to require that the common cooperative equities 
included in CET1 satisfy all the following criteria:
    (1) The instrument is issued directly by the System institution and 
represents a claim subordinated to all preferred stock, all 
subordinated debt, and all liabilities in a receivership, insolvency, 
liquidation, or similar proceeding of the System institution;
    (2) If the holder of the instrument is entitled to a claim on the 
residual assets of the System institution, the claim will be paid only 
after all general creditors, subordinated debt holders, and preferred 
stock claims have been satisfied in a receivership, insolvency, 
liquidation, or similar proceeding;

[[Page 52825]]

    (3) The instrument has no maturity date, can be redeemed only at 
the discretion of the System institution and with the prior approval of 
FCA, and does not contain any term or feature that creates an incentive 
to redeem;
    (4) The System institution did not create, through any action or 
communication, an expectation that it will buy back, cancel, revolve, 
or redeem the instrument, and the instrument does not include any term 
or feature that might give rise to such an expectation, except that the 
establishment of a revolvement period of 10 years or more, or the 
practice of revolving or redeeming the instrument no less than 10 years 
after issuance or allocation, will not be considered to create such an 
expectation;
    (5) Any cash dividend payments on the instrument are paid out of 
the System institution's net income or unallocated retained earnings, 
and are not subject to a limit imposed by the contractual terms 
governing the instrument;
    (6) The System institution has full discretion at all times to 
refrain from paying any dividends without triggering an event of 
default, a requirement to make a payment-in-kind, or an imposition of 
any other restrictions on the System institution;
    (7) Dividend payments and other distributions related to the 
instrument may be paid only after all legal and contractual obligations 
of the System institution have been satisfied, including payments due 
on more senior claims;
    (8) The holders of the instrument bear losses as they occur before 
any losses are borne by holders of preferred stock claims on the System 
institution and holders of any other claims with priority over common 
cooperative equity instruments in a receivership, insolvency, 
liquidation, or similar proceeding;
    (9) The instrument is classified as equity under GAAP;
    (10) The System institution, or an entity that the System 
institution controls, did not purchase or directly or indirectly fund 
the purchase of the instrument, except that where there is an 
obligation for a member of the institution to hold an instrument in 
order to receive a loan or service from the System institution, an 
amount of that loan equal to the minimum borrower stock requirement 
under section 4.3A of the Farm Credit Act will not be considered as a 
direct or indirect funding where:
    (a) The purpose of the loan is not the purchase of capital 
instruments of the System institution providing the loan; and
    (b) The purchase or acquisition of one or more member equities of 
the institution is necessary in order for the beneficiary of the loan 
to become a member of the System institution;
    (11) The instrument is not secured, not covered by a guarantee of 
the System institution, and is not subject to any other arrangement 
that legally or economically enhances the seniority of the instrument;
    (12) The instrument is issued in accordance with applicable laws 
and regulations and with the institution's capitalization bylaws;
    (13) The instrument is reported on the System institution's 
regulatory financial statements separately from other capital 
instruments; and
    (14) The System institution's capitalization bylaws provide that it 
will not redeem the instrument for a period of at least 10 years after 
issuance, or if allocated equities at least 10 years after allocation 
to a member, or reduce the original revolvement period to less than 10 
years without the prior approval of the FCA, except that the minimum 
statutory borrower stock described under paragraph (b)(1)(x) of this 
section may be redeemed without a minimum period outstanding after 
issuance and without the prior approval of the FCA.
b. Accumulated Other Comprehensive Income (AOCI) and Minority Interests
    The FCA is not proposing to include minority interests in CET1 or 
in any other component of regulatory capital because System 
institutions have few or no minority equity interests in unconsolidated 
subsidiaries.
    The FCA is not proposing to include AOCI in CET1 capital, which is 
different from Basel III and the Federal banking regulatory agencies' 
final rules. As a result, we are proposing no adjustments to CET1 for 
AOCI.
    Under the FCA's current risk-based capital rules, most of the 
components of AOCI included in GAAP equity are not included in a System 
institution's regulatory capital. Under GAAP, AOCI includes unrealized 
gains and losses on certain assets and liabilities that are not 
included in net income. AOCI includes unrealized gains and losses on 
available-for-sale (AFS) securities; ``other than temporary impairment 
on securities'' reported as held to maturity (HTM) that are not credit 
related; cumulative gains and losses on cash-flow hedges; foreign 
currency translation adjustments; and amounts attributed to defined 
benefit post retirement plans resulting from the initial and subsequent 
application of the relevant GAAP standards that pertain to such plans.
    The Federal banking regulatory agencies include in CET1 capital any 
net unrealized losses on AFS equity securities and any foreign currency 
translation adjustments. System institutions carry all equity 
investments in other System institutions at par or book value. Current 
investment regulations restrict equity investment outside the System. 
Therefore, it would be rare for a System institution to have any net 
unrealized losses or gains because of AFS equity securities. Only one 
System institution, CoBank, would have a need to hold foreign currency, 
and only in an amount to facilitate its lending activities. As a 
result, the FCA is not proposing to include any AOCI item in CET1 
capital, as it does not believe AFS equity securities or foreign 
currency translation adjustments would ever be material to CET1 
capital.
    We note that, while the Federal regulatory banking agencies' 
proposed rule would have required all banking organizations to include 
most elements of AOCI in CET1 capital, the agencies' final rule permits 
banking organizations using the standardized approach to make a one-
time election not to include most elements of AOCI in their regulatory 
capital. The preamble to the final rule states that the agencies 
received a significant number of comments expressing concern about the 
potential volatility of AOCI inclusion on a banking organization's 
capital and made other assertions about the negative effect the 
proposed treatment would have on an organization's ability to manage 
liquidity and interest rate risk. Under the FCA's proposed AOCI 
treatment, the exclusion of AOCI from CET1 capital would be comparable 
to the AOCI exclusions of the banking organizations that make an 
election not to include AOCI in their CET1 capital.
    We seek comment on using alternative terms or conditions that FCA 
could apply to common cooperative equities. Is a 10-year revolvement 
cycle long enough to reduce the expectation of redemption and increase 
the permanence of such equity instruments so that they may be included 
in CET1 capital?
2. Additional Tier 1 (AT1) Capital
    The proposed criteria for AT1 are comparable to Basel III and the 
Federal regulatory banking agencies' rules. AT1 would include primarily 
noncumulative perpetual preferred stock issued by System institutions 
and would be subject to certain adjustments and deductions. Qualifying 
instruments would primarily be stock issued by

[[Page 52826]]

System banks to third-party investors, though all System institutions 
have authority to issue such stock. AT1 would not include common 
cooperative equities.
a. Criteria
    The criteria for inclusion in AT1 capital are:
    (1) The instrument is issued and paid-in;
    (2) The instrument is subordinated to general creditors and 
subordinated debt holders of the System institution in a receivership, 
insolvency, liquidation, or similar proceeding;
    (3) The instrument is not secured, not covered by a guarantee of 
the System institution and not subject to any other arrangement that 
legally or economically enhances the seniority of the instrument;
    (4) The instrument has no maturity date and does not contain a 
dividend step-up or any other term or feature that creates an incentive 
to redeem;
    (5) If callable by its terms, the instrument may be called by the 
System institution only after a minimum of 5 years following issuance, 
except that the terms of the instrument may allow it to be called 
earlier than 5 years upon the occurrence of a regulatory event that 
precludes the instrument from being included in AT1 capital, or a tax 
event. In addition:
    (a) The System institution must receive prior approval from FCA to 
exercise a call option on the instrument.
    (b) The System institution does not create at issuance of the 
instrument, through any action or communication, an expectation that 
the call option will be exercised.
    (c) Prior to exercising the call option, or immediately thereafter, 
the System institution must either: Replace the instrument to be called 
with an equal amount of instruments that meet the criteria for a CET1 
or AT1 capital instrument; \31\ or demonstrate to the satisfaction of 
FCA that following redemption, the System institution will continue to 
hold capital commensurate with its risk;
---------------------------------------------------------------------------

    \31\ Replacement can be concurrent with redemption of existing 
AT1 capital instruments.
---------------------------------------------------------------------------

    (6) Redemption or repurchase of the instrument requires prior 
approval from FCA;
    (7) The System institution has full discretion at all times to 
cancel dividends or other distributions on the instrument without 
triggering an event of default, a requirement to make a payment-in-
kind, or an imposition of other restrictions on the System institution 
except in relation to any distributions to holders of common 
cooperative equity instruments or other instruments that are pari passu 
with the instrument.
    (8) Any distributions on the instrument are paid out of the System 
institution's net income, unallocated retained earnings, or surplus 
related to other AT1 capital instruments and are not subject to a limit 
imposed by the contractual terms governing the instrument;
    (9) The instrument does not have a credit-sensitive feature, such 
as a dividend rate that is reset periodically based in whole or in part 
on the System institution's credit quality, but may have a dividend 
rate that is adjusted periodically independent of the System 
institution's credit quality, in relation to general market interest 
rates or similar adjustments;
    (10) The paid-in amount is classified as equity under GAAP;
    (11) The System institution did not purchase or directly or 
indirectly fund the purchase of the instrument;
    (12) The instrument does not have any features that would limit or 
discourage additional issuance of capital by the System institution, 
such as provisions that require the System institution to compensate 
holders of the instrument if a new instrument is issued at a lower 
price during a specified timeframe; and
    (13) The System institution's capitalization bylaws provide that it 
will not redeem the instrument without the prior approval of the FCA.
    Notwithstanding the criteria for AT1 capital instruments referenced 
above, an instrument with terms that provide that the instrument may be 
called earlier than 5 years upon the occurrence of a rating agency 
event does not violate the minimum 5-year issuance requirement provided 
that the instrument was issued and included in a System institution's 
core surplus capital prior to the effective date of the final rule, and 
that such instrument satisfies all other criteria under this Sec.  
628.20(c).
b. FCA's Current Capital Regulations
    Under the FCA's current regulatory capital regulations, the 
outstanding noncumulative perpetual preferred stock issued by System 
institutions to third parties is included in core surplus and is 
included in the minimum required 1.5 percent of core surplus that is 
other than allocated equities routinely redeemed. Such preferred stock 
would continue to receive favorable regulatory capital treatment in 
tier 1 capital. However, consistent with the objective of Basel III and 
the Federal regulatory banking agencies' rules that banking 
organizations' common equities comprise at least 4.5 percent of risk-
based capital, the preferred stock would not be included in CET1.
3. Tier 2 Capital
    The FCA proposes to include in tier 2 capital the sum of tier 2 
capital instruments that satisfy the applicable criteria, plus ALL up 
to 1.25 percent of risk-weighted assets, less any applicable 
adjustments and deductions. The criteria are similar to those in Basel 
III and the Federal regulatory banking agencies' rules, except that 
common cooperative equities that are not includable in CET1 may be 
included in tier 2 if they meet the applicable criteria.
    The criteria for instruments (plus related surplus) included in 
tier 2 capital are:
    (1) The instrument is issued and paid-in, is a common cooperative 
equity, or is member equity purchased in accordance with Sec.  
628.20(d)(1)(viii) of the proposed rule;
    (2) The instrument is subordinated to general creditors of the 
System institution;
    (3) The instrument is not secured, not covered by a guarantee of 
the System institution and not subject to any other arrangement that 
legally or economically enhances the seniority of the instrument in 
relation to more senior claims;
    (4) The instrument has a minimum original maturity of at least 5 
years. At the beginning of each of the last 5 years of the life of the 
instrument, the amount that is eligible to be included in tier 2 
capital is reduced by 20 percent of the original amount of the 
instrument (net of redemptions) and is excluded from regulatory capital 
when the remaining maturity is less than 1 year. In addition, the 
instrument must not have any terms or features that require, or create 
significant incentives for, the System institution to redeem the 
instrument prior to maturity; \32\
---------------------------------------------------------------------------

    \32\ An instrument that by its terms automatically converts into 
a tier 1 capital instrument prior to 5 years after issuance complies 
with the 5-year maturity requirement of this criterion.
---------------------------------------------------------------------------

    (5) The instrument, by its terms, may be called by the System 
institution only after a minimum of 5 years following issuance, except 
that the terms of the instrument may allow it to be called sooner upon 
the occurrence of an event that would preclude the instrument from 
being included in tier 2 capital, or a tax event. In addition:
    (a) The System institution must receive the prior approval of FCA 
to exercise a call option on the instrument.

[[Page 52827]]

    (b) The System institution does not create at issuance, through 
action or communication, an expectation the call option will be 
exercised.
    (c) Prior to exercising the call option, or immediately thereafter, 
the System institution must either: Replace any amount called with an 
instrument that is of equal or higher quality regulatory capital under 
this section; \33\ or demonstrate to the satisfaction of FCA that 
following redemption, the System institution would continue to hold an 
amount of capital that is commensurate with its risk;
---------------------------------------------------------------------------

    \33\ A System institution may replace tier 2 or tier 1 capital 
instruments concurrent with the redemption of existing tier 2 
capital instruments.
---------------------------------------------------------------------------

    (6) The holder of the instrument must have no contractual right to 
accelerate payment of principal, dividends, or interest on the 
instrument, except in the event of a receivership, insolvency, 
liquidation, or similar proceeding of the System institution;
    (7) The instrument has no credit-sensitive feature, such as a 
dividend or interest rate that is reset periodically based in whole or 
in part on the System institution's credit standing, but may have a 
dividend rate that is adjusted periodically independent of the System 
institution's credit standing, in relation to general market interest 
rates or similar adjustments;
    (8) The System institution has not purchased and has not directly 
or indirectly funded the purchase of the instrument, except that where 
common cooperative equity instruments are held by a member of the 
institution in connection with a loan, and the institution funds the 
acquisition of such instruments, that loan shall not be considered as a 
direct or indirect funding where:
    (a) The purpose of the loan is not the purchase of capital 
instruments of the System institution providing the loan;
    (b) The purchase or acquisition of one or more capital instruments 
of the institution is necessary in order for the beneficiary of the 
loan to become a member of the System institution; and
    (c) The capital instruments are in excess of the statutory minimum 
stock purchase amount;
    (9) Redemption of the instrument prior to maturity or repurchase is 
at the discretion of the System institution and requires the prior 
approval of the FCA; and
    (10) If the instrument is a common cooperative equity, the System 
institution's capitalization bylaws provide that it will not, except 
with the prior approval of the FCA, redeem such equity included in tier 
2 capital for a period of at least 5 years after allocating it to a 
member.
4. FCA Approval of Capital Elements
    Proposed Sec.  628.20(e) would require a System institution to 
obtain prior approval to include a new capital element in its CET1 
capital, AT1 capital, or tier 2 capital unless the element is 
equivalent, in terms of capital quality and ability to absorb losses 
with respect to all material terms, to a regulatory element the FCA has 
already determined may be included in regulatory capital. After the FCA 
determines that an institution may include an element in regulatory 
capital, it will make its decision publicly available.
5. FCA Prior Approval Requirements for Cash Patronage, Dividends, and 
Redemptions; Safe Harbor
    As described above, the proposed rule would require FCA prior 
approval for the redemption of equities included in tier 1 and tier 2, 
consistent with Basel III and the Federal regulatory banking agencies' 
rules. The proposed rule would also require FCA prior approval of cash 
dividends and cash patronage, which is not a requirement of the Basel 
III framework but is a requirement imposed by statute or regulation on 
the federally chartered banking organizations regulated by the Federal 
regulatory banking agencies. In Sec.  628.20(f), we are also proposing 
a ``safe harbor'' to permit institutions to pay cash dividends and 
patronage and to redeem equities with ``deemed'' FCA prior approval if 
the payments are within the specified parameters.
    Before a Federal savings association declares a dividend, it must 
send a notice, or application for approval, of the action to the Office 
of the Comptroller of the Currency (OCC). Whether OCC approval is 
required or a mere notice will suffice depends on a number of factors. 
For example, an application for approval is required if the proposed 
declaration (together with all other capital distributions) for the 
applicable calendar year exceeds the savings association's net income 
for the current year plus the retained net income for the 2 preceding 
years.\34\ A national bank must obtain OCC approval to declare a 
dividend if the total amount of all common and preferred dividends, 
including the proposed dividend, declared in any current year exceeds 
the total of the national bank's net income of the current year to 
date, combined with the retained net income of the previous 2 
years.\35\
---------------------------------------------------------------------------

    \34\ 12 CFR 163.140-163.46.
    \35\ 12 U.S.C. 60(b).
---------------------------------------------------------------------------

    The FCA's proposed rule would not require System institutions to 
obtain prior approval to retire member stock up to an amount equal to 
the Farm Credit Act's minimum member stock requirement of $1,000 or 2 
percent of the loan, whichever is less. In addition, subject to any 
restrictions on cash payouts under the capital conservation buffer 
provision in Sec.  628.11, the proposed safe harbor would provide that 
FCA prior approval is deemed to be granted for cash distributions to 
pay dividends, patronage, or revolvements and redemptions of common 
cooperative equities provided that:
     For revolvements or redemptions of common cooperative 
equities included in CET1 capital, such equities were issued or 
distributed at least 10 years ago;
     For revolvements or redemptions of common cooperative 
equities included in tier 2 capital, such equities were issued or 
distributed at least 5 years ago;
     After such cash distributions, the dollar amount of the 
System institution's CET1 capital equals or exceeds the dollar amount 
of CET1 capital on the same date in the previous calendar year; and
     After such cash distributions, the System institution 
continues to comply with all regulatory capital requirements and 
supervisory or enforcement actions.
    System institutions do not generally have to obtain FCA prior 
approval before paying patronage or dividends or redeeming equities 
under current regulations, nor does the Farm Credit Act require prior 
approval. However, it is a fundamental principle of the regulatory 
capital requirements for U.S. banking organizations regulated by the 
Federal regulatory banking agencies. In order for the regulatory 
capital framework that applies to System institutions to be comparable 
to the regulatory capital framework that applies to U.S. banking 
organizations, we believe it is necessary to include these prior 
approval requirements in our proposed rule. We believe that, most of 
the time, most System institutions will be able to pay cash patronage 
and dividends and redeem equities to the same extent that they do 
currently.

B. Regulatory Adjustments and Deductions

1. Regulatory Deductions From CET1 Capital
    Under the proposal, a System institution must deduct from CET1

[[Page 52828]]

capital the items described in Sec.  628.22 of the proposed rule. A 
System institution would exclude these deductions from its total risk-
weighted assets and leverage exposure. These deductions are:
a. Goodwill and Other Intangibles (Other Than Mortgage Servicing 
Assets)
    Consistent with Basel III and the Federal regulatory banking 
agencies' rules, the FCA proposes to exclude goodwill and other 
intangible assets from regulatory capital because of the uncertainty 
that a System institution may realize value from these assets under 
adverse financial conditions. An institution would deduct goodwill and 
``non-mortgage'' servicing assets, net of associated deferred tax 
liabilities (DTLs), from CET1 capital. (The FCA's current capital 
regulations require goodwill to be deducted from regulatory capital.) 
While intangible assets include mortgage servicing assets (MSAs), the 
MSAs are subject to a different treatment from other intangible assets 
under Basel III and the Federal banking regulatory agencies' rules. In 
Basel III and the agencies' rules, the MSAs, along with two other 
items--significant investments in the common shares of unconsolidated 
financial institutions and deferred tax assets (DTAs) that arise from 
temporary differences--are given limited recognition in a banking 
organization's CET1, with recognition capped at 10 percent of CET1 for 
each item (i.e., a ``threshold deduction'' of 10 percent). There is 
also a threshold deduction of 15 percent on the aggregate of the three 
items, and any included MSAs are risk weighted at 250 percent.
    The FCA is not proposing to implement the threshold deductions for 
these three items. We believe that no System institution's MSAs would 
meet the 10- and 15-percent thresholds. The proposed rule would require 
System institutions to assign a risk weight to MSAs of 100 percent, as 
they do in current FCA regulations. Traditionally, System institutions 
follow the make-and-hold philosophy when it comes to its loan assets. 
As a result, only a few System institutions have sold loans to Farmer 
Mac or other parties for securitization. Should the levels of MSAs held 
by System institutions increase significantly in the future, the FCA 
may reconsider the appropriateness of this proposed treatment.
    The FCA is not proposing the threshold deduction in Basel III and 
the Federal regulatory banking agencies' rules for investments in other 
financial institutions because it is proposing that System institutions 
deduct their investments in other System institutions from their 
regulatory capital, as described below. Other equity investments will 
be risk weighted according to Sec.  628.51.
    We do not believe DTAs that are risk weighted in this section would 
represent material items on a System institution's balance sheet 
because of System institutions' tax status. The FCBs and FLCAs are 
exempt from Federal, state, municipal, and local taxation.\36\ Most 
other System institutions' net income arises from both non-taxable and 
taxable sources. The production and cooperative lending business lines 
are taxable, but the ACB and taxable System associations may reduce 
taxes by following Subchapter T provisions of the Internal Revenue 
Code. Therefore, we do not expect large amounts of DTAs and deferred 
tax liabilities (DTLs) on a System institution's balance sheet. Should 
the levels of DTAs held by System institutions increase significantly 
in the future, the FCA may reconsider the appropriateness of this 
proposed treatment.
---------------------------------------------------------------------------

    \36\ They are subject to taxes on real estate held to the same 
extent, according to its value, as other similar property held by 
other persons is taxed. See 12 U.S.C. 2023 and 2098.
---------------------------------------------------------------------------

    We seek comment on whether FCA should risk weight MSAs at 100 
percent or require deduction of MSAs from CET1, as we propose to do for 
non-mortgage servicing rights. At the present time, FCA does not 
consider any type of servicing asset material to a System institution's 
or the System's consolidated balance sheet.
b. Gain-on-Sale Associated With a Securitization Exposure
    A System institution would deduct from CET1 capital any after-tax 
gain-on-sale associated with a securitization exposure. Under GAAP, any 
gain-on-sale from a traditional securitization would increase a System 
institution's CET1 capital. However, if a System institution received 
cash from the sale of the securitization exposure and the MSA, it would 
not deduct such amount from its CET1 capital. Any sale of loans to a 
securitization structure that creates a gain may include an MSA that 
also meets the proposed definition of ``gain-on-sale.'' A System 
institution must exclude any portion of a gain-on-sale reported as an 
MSA on FCA's Call Report.
c. Defined Benefit Pension Fund Net Assets
    A System institution must deduct from CET1 capital a defined 
benefit pension fund asset (an overfunded pension), net of any 
associated DTLs, because of the uncertainty of realizing any of the 
value from such assets. This proposed rule recognizes under GAAP the 
amount of a defined benefit pension fund liabilities (an underfunded 
pension) on the balance sheet of the institution, would be the same 
amount included as CET1 capital. Therefore, a System institution must 
not increase its CET1 capital by the derecognition of these defined 
pension fund liabilities.
    Currently, FCA regulations do not require the deduction of the 
defined benefit pension fund net assets in the regulatory capital 
calculations. Additionally, our call report does not collect defined 
benefit pension fund assets. To implement this regulation, FCA will 
develop a call report schedule and require each System institution to 
report its individual yearend transactions for defined benefit pension 
assets on their individual call report schedule. At this time, some 
System institutions report their yearend transactions for defined 
benefit pension assets on their institution-only shareholder reports. 
Others, however, collectively report their yearend transactions for 
defined benefit pension assets in the district-wide shareholder report.
    Comparable to Basel III, a System institution would not be required 
to deduct defined benefit pension fund assets to which the System 
institution has unrestricted and unfettered access. In this case, the 
System institution would assign risk weights to such assets as if the 
institution directly owned them. Under this proposal, unrestricted and 
unfettered access would mean that an institution is not required to 
request and receive specific approval from pension beneficiaries each 
time it would access funds in the plan.
    Any portion of the defined benefit pension fund net assets not 
deducted by an institution must be risk-weighted as if the System 
institution directly held a proportional ownership share of each 
exposure in the defined benefit pension fund. For example, assume that: 
(1) The institution has a defined benefit pension fund net asset of 
$10; and (2) the institution has unfettered and unrestricted access to 
the assets of the defined benefit pension fund. Also, assume that 20 
percent of the defined benefit pension fund is risk-weighted at 100 
percent and 80 percent is risk-weighted at 300 percent. The institution 
would risk weight $2 at 100 percent and $8 at 300 percent. This 
treatment would be consistent with the full look-through approach 
described in Sec.  628.53(b) of the proposed rule.

[[Page 52829]]

    Given System institutions' differing methods of reporting defined 
benefit pension fund assets, what is the best way to require 
adjustments for defined benefit pension fund assets in the CET1 capital 
computation?
d. A System Institution's Allocated Equity Investment in Another System 
Institution
    The proposed rule would require a System institution to deduct any 
allocated equity investment in another System institution \37\ from its 
CET1 capital pursuant to Sec.  628.22(a). Later in this preamble, we 
will discuss deducting a System institution's purchased investment in 
another System institution using the corresponding deduction approach 
in Sec.  628.22(c). Other equity exposures are covered in Sec.  628.52.
---------------------------------------------------------------------------

    \37\ An example would be an association's equity investment in 
its System bank.
---------------------------------------------------------------------------

    The FCA is proposing a different equity elimination method from the 
Federal banking regulatory agencies' rules. We believe the method 
proposed is more conservative than the banking agencies' rules but is 
more appropriate for System institutions and is consistent with the 
principles of Basel III. It is also simpler to calculate. System 
associations, as members of a cooperative network, have equity 
investments in their affiliated banks. System institutions also have 
equity investments in other System institutions but few outside the 
System. As we have discussed earlier in the preamble, the investments 
that System institutions have in other System institutions are counted 
in their GAAP financial statements as equity of the issuing or 
allocating institution and as assets of the recipient institution. The 
FCA continues to believe, as we have stated numerous times previously, 
that equities should be counted in the regulatory capital of the 
institution that has control of the equities. The allocating 
institutions alone have discretion whether to allocate equities and 
when, if ever, to distribute those equities. Therefore, under this 
proposal, the allocating institutions would include in their CET1 
capital the equities they have allocated to their members, provided 
those equities meet the criteria for inclusion in CET1 capital. The 
institutions that have received allocated equities from other 
institutions must deduct those equities from their CET1 capital.
    Under the proposed rule, System institutions will be able to 
include allocated equities in CET1 capital that are excluded from core 
surplus under current regulations. The proposed deductions apply only 
to investments in other System institutions because, for the most part, 
our investment regulations restrict equity investments outside the 
System.
e. ``Haircut'' Deduction for Redemption of Equities Included in CET1 
Capital Less Than 10 Years After Issuance or Allocation
    Section 628.22(f) of the proposed rule would provide that, if a 
System institution redeems equities included in CET1 capital that the 
institution issued or allocated less than 10 years before, and the 
institution did not receive prior FCA approval, the institution must 
exclude 30 percent of the remaining purchased and allocated equities 
otherwise includable in CET1 capital. That amount must be excluded from 
CET1 for the next 3 years; during those 3 years the amount excluded 
from CET1 may be included in tier 2 capital if it otherwise qualifies 
for tier 2 capital. This haircut would not be imposed on allocated 
equities that are URE equivalents unless such equities redeemed without 
FCA approval were URE equivalents, nor would it be imposed for 
redemptions of a member's minimum borrower stock requirement.
    The FCA is proposing this deduction to ensure proper management by 
System institutions of their members' expectations of redemption and 
also to ensure that institutions are vigilant in their recordkeeping of 
the issuance and allocation dates of CET1 capital. For most System 
institutions that redeem equities on a regular basis, the 10-year 
minimum retention requirement will result in a longer revolvement 
period, especially for allocated equities, and will likely require some 
member education about the longer period. It is important that members 
know they cannot reasonably expect redemption of the equities that 
their institution includes in CET1 capital in a shorter timeframe than 
10 years.
2. The Corresponding Deduction Approach for Purchased Equities
    Section 628.22(c) of this proposal incorporates the Basel III 
corresponding deduction approach for a System institution's purchased 
equity investment in another System institution. The corresponding 
deduction approach does not apply to allocated equity investments in 
another System institution. Under the proposal, a System institution 
would be required to deduct an amount from the same component of 
capital for which the underlying instrument would qualify as if the 
System institution had issued the instrument itself. If a System 
institution did not have a sufficient amount of the specific component 
of regulatory capital for the entire deduction, then it would deduct 
the remaining portion from the next higher (more subordinated) capital 
component. Should a System institution not have enough AT1 capital to 
satisfy the required deduction, the shortfall would be deducted from 
CET1 capital elements.
3. Netting of Deferred Tax Liabilities Against Deferred Tax Assets and 
Other Deductible Assets
    In this proposed rule, FCA would simplify the netting of DTLs 
against DTAs and other deductible assets for deductions of DTAs. This 
proposal differs from the Federal banking regulatory agencies' final 
rules for deductions of DTAs. For System institutions, this proposal 
also represents a change from our existing DTAs deduction regulation. 
Under the proposal, System institutions would adjust CET1 capital under 
Sec.  628.22(b) of the proposed rule net of any associated deferred tax 
effects. In addition, System institutions would deduct from CET1 
capital elements under Sec.  628.22(a) and (c) of the proposed rule net 
of associated DTLs, pursuant to Sec.  628.22(e).
    Currently System institution deduct DTAs according to Sec.  
615.5209 of FCA regulations. A System institution must deduct an amount 
of DTAs from its assets and its total capital that is equal to the 
greater of the two following conditions: (1) An amount of DTAs that is 
dependent on future income; or (2) an amount of DTAs that is dependent 
on future income in excess of 10 percent of the amount of core 
surplus.\38\
---------------------------------------------------------------------------

    \38\ That exists before the deduction of any deferred-tax 
assets.
---------------------------------------------------------------------------

    For this proposed regulation, FCA categorized DTAs into three 
types. First, there are DTAs that arise from temporary differences that 
a System institution could realize through a net loss carryback.\39\ 
Since System institutions have recognized or projected to realize these 
temporary differences in current income, a System institution would 
assign these DTAs a risk weight of 100 percent. Second, there are DTAs 
that arise from temporary differences that a System institution could 
not realize through net loss carryback.\40\ And third, there are DTAs 
that arise from operating loss and tax credit carryforwards.\41\ A 
System

[[Page 52830]]

institution would deduct the latter two DTAs subject to Sec.  
628.22(c).
---------------------------------------------------------------------------

    \39\ Net of any valuation allowances.
    \40\ Net of any valuation allowances.
    \41\ Net of any valuation allowances.
---------------------------------------------------------------------------

    Under the proposal, System institutions making regulatory capital 
deductions under Sec.  628.22 would net DTLs against assets to which 
they are associated (other than DTAs). Should the asset to which the 
DTL is associated become impaired or derecognized under GAAP, the 
System institution would extinguish the DTL. Likewise, System 
institutions may only use the same DTL once for netting purposes. This 
practice is consistent with the netting DTLs against goodwill.
    System institutions would net DTLs against DTAs that arise from 
temporary differences that a System institution could not realize 
through net loss carrybacks,\42\ and DTAs that arise from operating 
loss and tax credit carryforwards \43\ provided certain conditions 
exist: (1) A System institution would net only DTLs and DTAs related to 
taxes levied by the same taxation authority and eligible for offsetting 
by that authority; and (2) the amount of DTLs that a System institution 
would be able to net against DTAs that arise from loss 
carryforwards,\44\ and against DTAs arising from temporary differences 
that could not be realized through loss carrybacks,\45\ would be 
allocated in proportion to the amount of DTAs that arise from loss 
carryforwards \46\ and of DTAs arising from temporary differences that 
could not be realized through net operating loss carrybacks.\47\
---------------------------------------------------------------------------

    \42\ Net of any valuation allowances.
    \43\ Net of any valuation allowances.
    \44\ Net of any valuation allowances.
    \45\ Net of any valuation allowances.
    \46\ Net of any valuation allowances, but before any offsetting 
of DTLs.
    \47\ Net of any valuation allowances, but before any offsetting 
of DTLs.
---------------------------------------------------------------------------

    GAAP requires quarterly adjustment for some DTA and DTL items, such 
as DTAs and DTLs associated with certain gains and losses included in 
AOCI. Therefore, the FCA expects System institutions to use for 
regulatory capital calculations the DTA and DTL amounts reported in the 
regulatory reports. The proposed rule does not require System 
institutions to perform these calculations more often than would be 
required to meet quarterly regulatory reporting requirements.
    The FCA would allow System institutions to treat future taxes 
payable included in valuing a leveraged lease portfolio as a reversing 
taxable temporary difference available to support recognizing DTAs.\48\ 
The proposed rule allows a System institution to use the DTLs embedded 
in the carrying value of a leveraged lease to reduce the amount of DTAs 
consistent with Sec.  628.22(e).
---------------------------------------------------------------------------

    \48\ Temporary differences arise when financial events or 
transactions are recognized in one period for financial reporting 
purposes and in another period, or periods, for tax purposes. A 
reversing taxable temporary difference is a temporary difference 
that produces additional taxable income in future periods.
---------------------------------------------------------------------------

    The FCA recognizes that, if the tax laws of the relevant state and 
local jurisdictions do not differ significantly from Federal income tax 
laws, then under GAAP the calculation of deferred tax expense can be 
made in the aggregate considering the combination of Federal, state, 
and local income tax rates. The rate used should consider whether 
amounts paid in one jurisdiction are deductible in another 
jurisdiction. For example, since state and local taxes are deductible 
for Federal income tax purposes, the aggregate combined rate would 
generally be (1) The Federal income tax rate plus (2) the state and 
local tax rates, minus (3) the Federal tax effect of the deductibility 
of the state and local taxes at the Federal tax rate. In addition, for 
financial reporting purposes, consistent with GAAP, the FCA allows 
System institutions to offset DTAs (net of valuation allowance) and 
DTLs related to a particular tax jurisdiction. Moreover, for regulatory 
reporting purposes, consistent with GAAP, the FCA requires separate 
calculations of income taxes, both current and deferred amounts, for 
each tax jurisdiction. Accordingly, System institutions must calculate 
DTAs and DTLs on a state-by-state basis for financial reporting 
purposes under GAAP and for regulatory reporting purposes.
    Under the proposed rule, a System institution must assign a risk 
weight of 100 percent under Sec.  628.30 for DTAs that arise from 
temporary differences that a System institution may realize through net 
operating loss carrybacks. By this proposal, the FCA would allow System 
institutions to include in regulatory capital some or all of their DTAs 
resulting from timing differences that are realizable through net 
operating loss carrybacks. In this regard, we believe the proposed rule 
strikes an appropriate balance between prudential concerns and 
practical considerations about the ability of System institutions to 
realize DTAs.

C. Limits on Inclusion of Third-Party Capital

    The proposed rule would impose limits on System institution 
issuances of third-party capital--that is, capital issued to entities 
that are not System institutions or members of System institutions--in 
regulatory capital.\49\ The FCA currently imposes limits on the 
inclusion of third-party capital in core surplus, total surplus, and 
net collateral on a case-by-case basis in connection with our clearance 
of disclosure documents and regulatory capital determinations. The FCA 
has imposed this restriction to ensure that cooperative ownership 
continues to predominate in all System institutions, in order to 
maintain the status of the System as a member-controlled GSE that is 
owned by and primarily benefits its members.
---------------------------------------------------------------------------

    \49\ The FCA notes that System institution members could hold 
third-party equities that are issued to groups of persons such as 
individual accredited investors, if they are qualified to purchase 
the stock and are not prohibited to do so under conditions imposed 
by FCA. We use the term ``third-party'' to refer to a class of stock 
other than the classes of stock that only a System institution's 
members are eligible to purchase.
---------------------------------------------------------------------------

    The proposed rule would provide that third-party capital when 
issued, together with any already outstanding third-party capital in 
tier 1 capital, may be included in tier 1 capital in an amount up to 33 
percent of all other tier 1 capital (i.e., 25 percent of all tier 1 
capital including third-party capital). It may be included in total 
capital in an amount equal to the lesser of 40 percent of total capital 
or 100 percent of tier 1 capital.
    The two formulas are:
    1. ALTPC = min (40 percent TC, 100 percent T1),

where,

ALTPC = Aggregate limit on third-party capital
TC = Total capital (tier 1 Capital + tier 2 Capital)
T1 = Tier 1 capital
[GRAPHIC] [TIFF OMITTED] TP04SE14.000



[[Page 52831]]


where

CLNPPS = current limit on noncumulative perpetual preferred stock in 
tier 1 capital, calculated this quarter
ELNPPS = existing limit on noncumulative perpetual preferred stock 
in tier 1 capital, calculated the previous quarter,
NPPS = noncumulative perpetual preferred stock included in tier 1 
capital,
T1 = tier 1 capital, and
n = 4 previous quarters, 1-4

    We seek comment on alternative third-party limits to ensure that 
System institutions remain capitalized primarily by their member 
borrowers.

IV. Standardized Approach for Risk-Weighted Assets

A. Calculation of Standardized Total Risk-Weighted Assets

    Similar to the FCA's current risk-based capital rules, under this 
proposal a System institution would calculate its total risk-weighted 
assets by adding together its on- and off-balance sheet risk-weighted 
asset amounts and making any relevant adjustments to incorporate 
required capital deductions.\50\ Risk-weighted asset amounts generally 
would be determined by assigning on-balance sheet assets to broad risk-
weight categories according to the counterparty or, if relevant, the 
guarantor or collateral. Similarly, risk-weighted asset amounts for 
off-balance sheet items would be calculated using a two-step process: 
(1) Multiplying the amount of the off-balance sheet exposure \51\ by a 
credit conversion factor (CCF) to determine a credit equivalent amount; 
and (2) assigning the credit equivalent amount to a relevant risk-
weight category.
---------------------------------------------------------------------------

    \50\ See generally the FCA's regulations at part 615, subpart H.
    \51\ The term ``exposure,'' which would be defined as an amount 
at risk, is used throughout the proposed rule and preamble.
---------------------------------------------------------------------------

    A System institution would determine its standardized total risk-
weighted assets by calculating the sum of its risk-weighted assets for 
general credit risk, cleared transactions, unsettled transactions, 
securitization exposures, and equity exposures, each as defined below, 
less the System institution's allowance for loan losses (ALL) that is 
not included in tier 2 capital (as described in Sec.  628.20 of the 
proposal). The sections below describe in more detail how a System 
institution would determine the risk-weighted asset amounts for its 
exposures.

B. Risk-Weighted Assets for General Credit Risk

    Under this proposed rule, total risk-weighted assets for general 
credit risk is the sum of the risk-weighted asset amounts as calculated 
under Sec.  628.31(a) of the proposal. As proposed, general credit risk 
exposures would include a System institution's on-balance sheet 
exposures (other than cleared transactions, securitization exposures, 
and equity exposures, each as defined in Sec.  628.2 of the proposed 
rule), exposures to over-the-counter (OTC) derivative contracts, off-
balance sheet commitments, trade and transaction-related contingencies, 
guarantees, repo-style transactions, financial standby letters of 
credit, forward agreements, or other similar transactions. Proposed 
Sec.  628.32 describes the risk weights that would apply to sovereign 
exposures; exposures to certain supranational entities and multilateral 
development banks (MDBs); exposures to Government-sponsored enterprises 
(GSEs); exposures to depository institutions, foreign banks, and credit 
unions (including certain exposures to other financing institutions 
(OFIs) owned or controlled by these entities); exposures to public 
sector entities (PSEs); corporate exposures (including certain 
exposures to OFIs); residential mortgage exposures; high volatility 
commercial real estate (HVCRE) exposures; past due exposures; other 
assets (including cash, gold bullion, certain MSAs and DTAs); and loans 
from System banks to associations.
    Generally, the exposure amount for the on-balance sheet component 
of an exposure would be the System institution's carrying value for the 
exposure as determined under generally accepted accounting principles 
(GAAP). Because all System institutions use GAAP to prepare their 
financial statements and regulatory reports, we believe that using GAAP 
to determine the amount and nature of an exposure provides a consistent 
framework that System institutions can easily apply. Using GAAP for 
this purpose would reduce the potential burden that could otherwise 
result from requiring System institutions to comply with a separate set 
of accounting and measurement standards for risk-based capital 
calculation purposes under non-GAAP standards, such as regulatory 
accounting practices or legal classification standards.
    For purposes of the definition of exposure amount for available-
for-sale (AFS) or held-to-maturity (HTM) debt securities and AFS 
preferred stock not classified as equity under GAAP, the exposure 
amount is the System institution's carrying value (including net 
accrued but unpaid interest and fees) for the exposure, less any net 
unrealized gains, and plus any net unrealized losses. For purposes of 
the definition of exposure amount for AFS preferred stock classified as 
an equity security under GAAP, the exposure amount is the System 
institution's carrying value (including net accrued but unpaid interest 
and fees) for the exposure, less any net unrealized gains that are 
reflected in such carrying value but excluded from the System 
institution's regulatory capital.\52\
---------------------------------------------------------------------------

    \52\ Although System banks often classify their securities as 
AFS, associations almost always classify their securities, to the 
extent they hold any, as HTM.
---------------------------------------------------------------------------

    In most cases, the exposure amount for an off-balance sheet 
component of an exposure would typically be determined by multiplying 
the notional amount of the off-balance sheet component by the 
appropriate CCF as determined under Sec.  628.33 of the proposed rule. 
The exposure amount for an OTC derivative contract or cleared 
transaction that is a derivative would be determined under Sec.  628.34 
of the proposed rule, whereas exposure amounts for collateralized OTC 
derivative contracts, collateralized cleared transactions that are 
derivatives, repo-style transactions, and eligible margin loans would 
be determined under Sec.  628.37 of the proposal.
1. Exposures to Sovereigns
    Under the proposal, a sovereign would be defined as a central 
government (including the U.S. Government) or an agency, department, 
ministry, or central bank of a central government (for the U.S. 
Government, the central bank is the Federal Reserve). The FCA proposes 
to retain the current rules' risk weights for exposures to and claims 
directly and unconditionally guaranteed by the U.S. Government or its 
agencies.\53\ Accordingly, exposures to the U.S. Government, the 
Federal Reserve, or a U.S. Government agency, and the portion of an 
exposure that is directly and unconditionally guaranteed by the U.S. 
Government, the Federal Reserve, or a U.S. Government agency would 
receive a 0-percent risk weight.\54\ Consistent with the current risk-
based capital rules, the portion of a deposit insured by the Federal 
Deposit Insurance Corporation (FDIC) or the National Credit Union 
Administration (NCUA) would also be assigned a 0- percent risk weight.
---------------------------------------------------------------------------

    \53\ A U.S. Government agency would be defined in the proposal 
as an instrumentality of the U.S. Government whose obligations are 
fully guaranteed as to the timely payment of principal and interest 
by the full faith and credit of the U.S. Government.
    \54\ Similar to the FCA's current risk-based capital rules, a 
claim would not be considered unconditionally guaranteed by a 
central government if the validity of the guarantee is dependent 
upon some affirmative action by the holder or a third party.

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

[[Page 52832]]

    An exposure conditionally guaranteed by the U.S. Government, the 
Federal Reserve, or a U.S. Government agency would receive a 20-percent 
risk weight.\55\ This would include an exposure that is conditionally 
guaranteed by the FDIC or the NCUA.
---------------------------------------------------------------------------

    \55\ Because of the issues such an exposure would raise, the FCA 
would determine the risk-weight of any System institution exposures 
that has a Farm Credit System Insurance Corporation (FCSIC) 
guarantee, whether conditional or unconditional, on a case-by-case 
basis.
---------------------------------------------------------------------------

    The FCA's existing risk-based capital rules generally assign risk 
weights to direct exposures to sovereigns and exposures directly 
guaranteed by sovereigns based on whether the sovereign is a member of 
the Organization for Economic Cooperation and Development (OECD) and, 
as applicable, whether the exposure is unconditionally or conditionally 
guaranteed by the sovereign.\56\
---------------------------------------------------------------------------

    \56\ Section 615.5211.
---------------------------------------------------------------------------

    The OECD assigns Country Risk Classifications (CRCs) to many 
countries as an assessment of their credit risk. CRCs are used to set 
interest rate charges for transactions covered by the OECD arrangement 
on export credits. The OECD uses a scale of 0 to 7 with 0 being the 
lowest possible risk and 7 being the highest possible risk. The OECD no 
longer assigns CRCs to certain high-income countries that are members 
of the OECD and that have previously received a CRC of 0. These 
countries exhibit a similar degree of country risk as that of a 
jurisdiction with a CRC of 0.\57\
---------------------------------------------------------------------------

    \57\ For more information on the OECD country risk 
classification methodology, see generally OECD, ``Country Risk 
Classification,'' available at http://www.oecd.org/tad/xcred/crc.htm.
---------------------------------------------------------------------------

    Under the proposed rule, the risk weight for exposures to countries 
with CRCs would be determined based on the CRCs. Exposures to OECD 
member countries that do not have CRCs would be risk-weighted at 0-
percent. Exposures to non-OECD members with no CRC would be risk-
weighted at 100-percent.\58\ The OECD regularly updates CRCs and makes 
the assessments publicly available on its Web site. Accordingly, the 
FCA believes that the CRC approach should not represent undue burden to 
System institutions.
---------------------------------------------------------------------------

    \58\ This proposed rule, like the capital rules of the Federal 
banking regulatory agencies, permits a lower risk weighting for 
sovereign exposures if certain conditions are met, including that 
the exposure is denominated in the sovereign's currency. Although 
the investment eligibility regulation applicable to System 
institutions require that all investments must be denominated in 
U.S. dollars (see Sec.  615.5140(a) of our regulations), this lower 
risk weight could be used if a System institution were to foreclose 
on collateral in the form of such a sovereign exposure.
---------------------------------------------------------------------------

    The FCA believes that use of CRCs in the proposal is permissible 
under section 939A of the Dodd-Frank Act and that section 939A was not 
intended to apply to assessments of creditworthiness by organizations 
such as the OECD. Section 939A is part of Subtitle C of Title IX of the 
Dodd-Frank Act, which, among other things, enhances regulation by the 
U.S. Securities and Exchange Commission (SEC) of credit rating 
agencies, including Nationally Recognized Statistical Rating 
Organizations (NRSROs) registered with the SEC. Section 939A requires 
agencies to remove references to credit ratings and NRSROs from Federal 
regulations. In the introductory ``findings'' section to Subtitle C, 
which is entitled ``Improvements to the Regulation of Credit Ratings 
Agencies,'' Congress characterized credit rating agencies as 
organizations that play a critical ``gatekeeper'' role in the debt 
markets and perform evaluative and analytical services on behalf of 
clients, and whose activities are fundamentally commercial in 
character.\59\ Furthermore, the legislative history of section 939A 
focuses on the conflicts of interest of credit rating agencies in 
providing credit ratings to their clients, and the problem of 
government ``sanctioning'' of the credit rating agencies' credit 
ratings by having them incorporated into Federal regulations. The OECD 
is not a commercial entity that produces credit assessments for fee-
paying clients, nor does it provide the sort of evaluative and 
analytical services as credit rating agencies. Additionally, the FCA 
notes that the use of the CRCs is limited in the proposal. The FCA 
considers CRCs to be a reasonable alternative to credit ratings for 
sovereign exposures and the proposed CRC methodology to be more 
granular and risk sensitive than the current risk-weighting methodology 
based solely on OECD membership.
---------------------------------------------------------------------------

    \59\ See Dodd-Frank Act, section 931 (15 U.S.C. 78o-7 note).
---------------------------------------------------------------------------

    The FCA also proposes to require a System institution to apply a 
150-percent risk weight to sovereign exposures immediately upon 
determining that an event of sovereign default has occurred or if an 
event of sovereign default has occurred during the previous 5 years. 
Sovereign default would be defined as a noncompliance by a sovereign 
with its external debt service obligations or the inability or 
unwillingness of a sovereign government to service an existing loan 
according to its original terms, as evidenced by failure to pay 
principal or interest fully and on a timely basis, arrearages, or 
restructuring. A default would include a voluntary or involuntary 
restructuring that results in a sovereign not servicing an existing 
obligation in accordance with the obligation's original terms.

              Table 3--Risk Weights for Sovereign Exposures
------------------------------------------------------------------------
                                                             Risk weight
                                                                 (in
                                                               percent)
------------------------------------------------------------------------
CRC:
    0-1....................................................            0
    2......................................................           20
    3......................................................           50
    4-6....................................................          100
    7......................................................          150
OECD Member with No CRC....................................            0
Non-OECD Member with No CRC................................          100
Sovereign Default..........................................          150
------------------------------------------------------------------------

2. Exposures to Certain Supranational Entities and Multilateral 
Development Banks
    Under the FCA's existing risk-based capital rules, exposures to 
certain supranational entities and multilateral development banks 
(MDBs) receive a 20-percent risk weight. Consistent with the Basel 
framework's treatment of exposures to supranational entities, the FCA 
proposes to apply a 0-percent risk weight to exposures to the Bank for 
International Settlements, the European Central Bank, the European 
Commission, and the International Monetary Fund.
    Similarly, the FCA proposes to apply a 0-percent risk weight to 
exposures to an MDB. The proposal would define an MDB to include the 
International Bank for Reconstruction and Development, the Multilateral 
Investment Guarantee Agency, the International Finance Corporation, the 
Inter-American Development Bank, the Asian Development Bank, the 
African Development Bank, the European Bank for Reconstruction and 
Development, the European Investment Bank, the European Investment 
Fund, the Nordic Investment Bank, the Caribbean Development Bank, the 
Islamic Development Bank, the Council of Europe Development Bank, and 
any other multilateral lending institution or regional development bank 
in which the U.S. Government is a shareholder or contributing member or 
which the FCA determines poses comparable credit risk.
    The FCA believes this treatment is appropriate in light of the 
generally high-credit quality of MDBs, their strong shareholder 
support, and a shareholder structure comprised of a significant 
proportion of sovereign entities with

[[Page 52833]]

strong creditworthiness. Exposures to regional development banks and 
multilateral lending institutions that are not covered under the 
definition of MDB generally would be treated as corporate exposures and 
would receive a 100-percent risk weight.
3. Exposures to Government-Sponsored Enterprises
    The System is a GSE, and the definition of GSE adopted by the 
Federal banking regulatory agencies includes the System in their 
definition of GSE.\60\ Those agencies view the System, and the other 
GSEs, as potential counterparties to the entities that they regulate. 
In contrast, we regulate System institutions rather than viewing them 
as potential counterparties. It is too confusing for the System to be 
included in a definition that is intended to refer to counterparties. 
Accordingly, we propose for the purpose of these capital regulations at 
part 628 to exclude institutions of the System (other than the Federal 
Agricultural Mortgage Corporation (Farmer Mac)) from the definition of 
GSE.\61\ Throughout these capital regulations, we will refer to System 
institutions specifically as necessary.
---------------------------------------------------------------------------

    \60\ The definition of GSE adopted by the Federal banking 
regulatory agencies includes the Federal National Mortgage 
Association (Fannie Mae), the Federal Home Loan Mortgage Corporation 
(Freddie Mac), the System, and the Federal Home Loan Bank System.
    \61\ Farmer Mac would remain included in the FCA's definition of 
GSE, because this regulation would view Farmer Mac as a counterparty 
rather than as a regulated entity.
---------------------------------------------------------------------------

    The FCA is proposing to assign a 20-percent risk weight to 
exposures to GSEs that are not equity exposures and a 100-percent risk 
weight to preferred stock issued by a GSE.\62\ This risk weighting 
would represent a change to the FCA's existing risk-based capital 
rules, which currently allow a System institution to apply a 20-percent 
risk weight to GSE preferred stock.\63\
---------------------------------------------------------------------------

    \62\ As discussed below, System institutions would be required 
to deduct from capital preferred stock (and all other equities) 
issued by other System institutions, and therefore we do not propose 
a risk weight for these exposures.
    \63\ Section 615.5211(b)(6).
---------------------------------------------------------------------------

4. Exposures to Depository Institutions, Foreign Banks, and Credit 
Unions
    The FCA's existing risk-based capital rules assign a 20-percent 
risk weight to all exposures to U.S. depository institutions and 
foreign banks incorporated in an OECD country. Short-term exposures to 
foreign banks incorporated in a non-OECD country receive a 20-percent 
risk weight and long-term exposures to such entities receive a 100-
percent risk weight.
    Under the proposal, exposures to U.S. depository institutions and 
credit unions would be assigned a 20-percent risk weight.\64\ This risk 
weight would apply to a System bank exposure to an OFI that is owned 
and controlled by a U.S. or state depository institution or credit 
union that guarantees the exposure. If the OFI exposure did not satisfy 
these requirements, it would be assigned a 100-percent risk weight as a 
corporate exposure pursuant to Sec.  628.32(f)(2).
---------------------------------------------------------------------------

    \64\ A depository institution is defined in section 3 of the 
Federal Deposit Insurance Act (12 U.S.C. 1813(c)(1)). Under this 
proposal, a credit union refers to an insured credit union as 
defined under the Federal Credit Union Act (12 U.S.C. 1752(7)).
---------------------------------------------------------------------------

    Our existing OFI rules assign a 20-percent risk weight to a claim 
on an OFI that is an OECD bank or is owned and controlled by an OECD 
bank that guarantees the claim or if the OFI or its parent has a 
sufficiently high credit rating.\65\ Our proposal would impose the same 
risk weight for OFI exposures of the same nature, except that we 
propose to eliminate the credit rating alternative in accordance with 
section 939A of the Dodd-Frank Act.
---------------------------------------------------------------------------

    \65\ Sec.  615.5211(b)(16).
---------------------------------------------------------------------------

    Under this proposal, an exposure to a foreign bank would receive a 
risk weight one category higher than the risk weight assigned to a 
direct exposure to the foreign bank's home country, based on the 
assignment of risk weights by CRC, as discussed above.\66\ Exposures to 
a foreign bank in a country that does not have a CRC but that is a 
member of the OECD would receive a 20-percent risk weight. A System 
institution would assign a 100-percent risk weight to an exposure to a 
foreign bank in a non-OECD member country that does not have a CRC, 
except that the institution could assign a 20-percent risk weight to 
self-liquidating, trade-related contingent items that arise from the 
movement of goods and that have a maturity of 3 months or less.
---------------------------------------------------------------------------

    \66\ Foreign bank means a foreign bank as defined in section 
211.2 of the Federal Reserve Board's Regulation K (12 CFR 211.2), 
that is not a depository institution. For purposes of the proposal, 
home country meant the country where an entity is incorporated, 
chartered, or similarly established.
---------------------------------------------------------------------------

    A System institution would be required to assign a 150-percent risk 
weight to an exposure to a foreign bank immediately upon determining 
that an event of sovereign default has occurred in the bank's home 
country, or if an event of sovereign default has occurred in the 
foreign bank's home country during the previous 5 years.
    Both the Basel capital framework and our existing regulation treat 
exposures to securities firms that meet certain requirements like 
exposures to depository institutions.\67\ However, like the Federal 
banking regulatory agencies, the FCA no longer believes that the risk 
profile of these firms is sufficiently similar to depository 
institutions to justify that treatment. Accordingly, the FCA proposes 
to require System institutions to treat exposures to securities firms 
as corporate exposures, with a 100-percent risk weight.
---------------------------------------------------------------------------

    \67\ See Sec.  615.5211(b)(14) and (b)(15).

          Table 4--Risk Weights for Exposures to Foreign Banks
------------------------------------------------------------------------
                                                             Risk weight
                                                                 (in
                                                               percent)
------------------------------------------------------------------------
Sovereign CRC
    0-1....................................................           20
    2......................................................           50
    3......................................................          100
    4-7....................................................          150
OECD Member with no CRC....................................           20
Non-OECD Member with no CRC................................          100
Sovereign Default..........................................          150
------------------------------------------------------------------------

5. Exposures to Public Sector Entities
    The FCA's existing risk-based capital rules assign a 20-percent 
risk weight to general obligations of states and other political 
subdivisions of OECD countries.\68\ Exposures that rely on repayment 
from specific projects (for example, revenue bonds) are assigned a risk 
weight of 50 percent. Other exposures to state and political 
subdivisions of OECD countries (including industrial revenue bonds) and 
exposures to political subdivisions of non-OECD countries receive a 
risk weight of 100 percent. The risk weights assigned to revenue 
obligations are higher than the risk weight assigned to general 
obligations because repayment of revenue obligations depends on 
specific projects, which present more risk relative to a general 
repayment obligation of a state or political subdivision of a 
sovereign.
---------------------------------------------------------------------------

    \68\ Political subdivisions of the United States would include a 
state, county, city, town or other municipal corporation, a public 
authority, and generally any publicly owned entity that is an 
instrument of a state or municipal corporation.
---------------------------------------------------------------------------

    The FCA is proposing to apply the same risk weights to exposures to 
U.S. states and municipalities as the existing risk-based capital rules 
apply. Under the proposal, these political subdivisions would be 
included in the definition of ``public sector entity'' (PSE). 
Consistent with both the current rules and the Basel capital framework, 
the FCA proposes to define a PSE as a state, local authority, or other 
governmental subdivision below the level of a sovereign. This 
definition would

[[Page 52834]]

include U.S. states and municipalities and would not include 
government-owned commercial companies that engage in activities 
involving trade, commerce, or profit that are generally conducted or 
performed in the private sector.
    Under the proposal, a System institution would assign a 20-percent 
risk weight to a general obligation exposure to a PSE that is organized 
under the laws of the United States or any state or political 
subdivision thereof and a 50-percent risk weight to a revenue 
obligation exposure to such a PSE. A general obligation would be 
defined as a bond or similar obligation that is backed by the full 
faith and credit of a PSE. A revenue obligation would be defined as a 
bond or similar obligation that is an obligation of a PSE, but which 
the PSE is committed to repay with revenues from a specific project 
financed rather than general tax funds.
    Similar to the Basel framework's use of home country risk weights 
to assign a risk weight to a PSE exposure, the FCA proposes to require 
a System institution to apply a risk weight to an exposure to a non-
U.S. PSE based on (1) The CRC applicable to the PSE's home country or, 
if the home country has no CRC, whether it is a member of the OECD, and 
(2) whether the exposure is a general obligation or a revenue 
obligation, in accordance with Table 5.
    The risk weights assigned to revenue obligations would be higher 
than the risk weights assigned to a general obligation issued by the 
same PSE, as set forth, for non-U.S. PSEs, in Table 5. Similar to 
exposures to a foreign bank, exposures to a non-U.S. PSE in a country 
that does not have a CRC rating would receive a 100-percent risk 
weight. Exposures to a non-U.S. PSE in a country that has defaulted on 
any outstanding sovereign exposure or that has defaulted on any 
sovereign exposure during the previous 5 years would receive a 150-
percent risk weight. Table 5 illustrates the proposed risk weights for 
exposures to non-U.S. PSEs.

  Table 5--Proposed Risk Weights for Exposures to Non-U.S. PSE General
                   Obligations and Revenue Obligations
                              [in percent]
------------------------------------------------------------------------
                                                Risk weight  Risk weight
                                                    for          for
                                                 exposures    exposures
                                                to non-U.S.  to non-U.S.
                                                PSE general  PSE revenue
                                                obligations  obligations
------------------------------------------------------------------------
Sovereign CRC:
    0-1.......................................           20           50
    2.........................................           50          100
    3.........................................          100          100
    4-7.......................................          150          150
OECD Member with No CRC.......................           20           50
Non-OECD Member with No CRC...................          100          100
Sovereign Default.............................          150          150
------------------------------------------------------------------------

    The FCA proposes to allow a System institution to apply a risk 
weight to an exposure to a non-U.S. PSE according to the risk weight 
that the foreign banking organization supervisor allows to be assigned 
to it. In no event, however, may the risk weight for an exposure to a 
non-U.S. PSE be lower than the risk weight assigned to direct exposures 
to that PSE's home country.
6. Corporate Exposures
    Under the FCA's existing risk-based capital rules, credit exposures 
to companies that are not depository institutions or securitization 
vehicles generally are assigned to the 100-percent risk weight 
category. A 20-percent risk weight is assigned to claims on, or 
guaranteed by, a securities firm incorporated in an OECD country that 
satisfies certain conditions.
    The proposed requirements would be generally consistent with the 
existing risk-based capital rules and require System institutions to 
assign a 100-percent risk weight to all corporate exposures. The 
proposal would define a corporate exposure as an exposure to a company 
that is not an exposure to a sovereign, the Bank for International 
Settlements, the European Central Bank, the European Commission, the 
International Monetary Fund, an MDB, a depository institution, a 
foreign bank, or a credit union, a PSE, a GSE, a residential mortgage 
exposure, an HVCRE exposure, a cleared transaction, a securitization 
exposure, an equity exposure, or an unsettled transaction. This 
definition captures all exposures that are not otherwise included in 
another specific exposure category and is not limited to exposures to 
corporations.
    Accordingly, this category would include borrower loans such as 
agricultural loans and consumer loans, regardless of the corporate form 
of the borrower, unless those loans qualify for different risk weights 
(such as a 50-percent risk weight for residential mortgage exposures) 
under other provisions. This category would also include premises, 
fixed assets, and other real estate owned.
    Because they are corporate exposures, this category includes all 
OFI exposures that do not qualify for the 20-percent depository 
institution risk weight provided in Sec.  628.32(d) and discussed 
above. Our existing rules also contain a default 100-percent risk 
weight category.\69\ But our existing regulations also contain an 
intermediate, 50-percent risk weight category for claims on OFIs that 
do not satisfy the requirements for a 20-percent risk weight but that 
otherwise meet similar capital, risk identification and control, and 
operational standards or that carry an investment grade credit 
rating.\70\ Only if an OFI does not satisfy these standards does a 
claim on it receive a 100-percent risk weighting.
---------------------------------------------------------------------------

    \69\ Sec.  615.5211(d)(11).
    \70\ Sec.  615.5211(c)(5).
---------------------------------------------------------------------------

    This 50-percent risk weighting for what would otherwise be a 
corporate exposure is inconsistent with our treatment of other 
corporate exposures. In addition, the Federal banking regulatory 
agencies would assign a 100-percent risk weight to these exposures. 
Accordingly, we propose to eliminate the 50-percent risk weight for 
OFIs and to assign a 100-percent risk weight to exposures to OFIs that 
do not satisfy the requirements for a 20-percent risk weight because 
they are not depository institutions.
    We seek comment on our proposed capital treatment of exposures to 
OFIs. Specifically, what factors or other information would be relevant 
if we consider assigning an intermediate risk weight to a System 
institution's exposure to an OFI, recognizing that the same exposure to 
the same OFI would receive a 100-percent risk weight from a banking 
organization regulated by a Federal banking regulatory agency?
    In contrast to the FCA's existing risk-based capital rules, all 
securities firms would be subject to the same treatment as corporate 
exposures.
7. Residential Mortgage Exposures
    The FCA's existing risk-based capital rules assign ``qualified 
residential loans'' to the 50-percent risk-weight category.\71\ 
Qualified residential loans

[[Page 52835]]

include both rural home loans authorized under Sec.  613.3030 and 
single-family residential loans to bona fide farmers, ranchers, and 
producers and harvesters of aquatic products. Qualified residential 
loans must have been approved in accordance with prudent underwriting 
standards suitable for residential property and must not be past due 90 
days or more or carried in nonaccrual status.\72\ If the loan does not 
satisfy these safety and soundness standards, or the property is not 
characteristic of residential property, the loan receives a 100-percent 
risk weight.
---------------------------------------------------------------------------

    \71\ Sec.  615.5211(c)(2).
    \72\ See definition of qualified residential loan in Sec.  
615.5201. In addition to these credit risk standards, qualified 
residential loans must also satisfy a number of criteria designed to 
ensure that the property is residential in nature. The conditions 
for a loan to be considered nonaccrual are set forth in Sec.  
621.6(a) of the FCA's regulations. This rule proposes no changes to 
that provision.
---------------------------------------------------------------------------

    In general, although our rule is structured differently, our 
existing safety and soundness standards are very similar to the risk-
weighting requirements of the Federal banking regulatory agencies for 
residential mortgage exposures.\73\ The major differences between the 
two sets of rules are the FCA's criteria regarding the characteristics 
of residential property, which the Federal banking regulatory agencies 
do not have.
---------------------------------------------------------------------------

    \73\ These agencies retained their existing risk-weighting 
requirements for residential mortgage exposures when they adopted 
their new capital rules.
---------------------------------------------------------------------------

    In the interest of consistency, we now propose to structure our 
rule the same way as the Federal banking regulatory agencies do. 
Moreover, we propose to adopt the safety and soundness standards of the 
Federal banking regulatory agencies. As mentioned above, and as 
discussed below, although these standards are already very similar, 
there would be a few changes to our rule. Finally, while we would 
retain two of our existing requirements regarding the characteristics 
of residential property, we propose to eliminate the rest of these 
requirements as unnecessary and burdensome.\74\
---------------------------------------------------------------------------

    \74\ Although we are proposing to delete the specific 
requirements in this area, FCA examiners will continue to verify 
that residential property securing an exposure risk-weighted as a 
residential mortgage exposure does in fact exhibit characteristics 
of residential rather than agricultural property. If examiners 
determine that the property is agricultural in nature, they will 
require appropriate adjustment of the risk-based capital treatment.
---------------------------------------------------------------------------

    We would define a residential mortgage exposure as an exposure 
(other than a securitization exposure or equity exposure) that is 
primarily secured by a first or subsequent lien on one-to-four family 
residential property, provided that the dwelling (including attached 
components such as garages, porches, and decks) represents at least 50 
percent of the total appraised value of the collateral secured by the 
first or subsequent lien.\75\
---------------------------------------------------------------------------

    \75\ To ensure that the collateral is primarily residential 
rather than agricultural in nature, we propose to revise the 
definition adopted by the Federal banking regulatory agencies to 
include the requirement regarding the appraised value of the 
dwelling relative to the value of the collateral as a whole.
---------------------------------------------------------------------------

    The proposed rule would assign a residential mortgage exposure to 
the 50-percent risk-weight category if the property is either owner-
occupied or rented \76\ and if the exposure was made in accordance with 
prudent underwriting standards suitable for residential property, 
including standards relating to the loan amount as a percentage of the 
appraised value of the property; \77\ is not 90 days or more past due 
or carried in non-accrual status; and is not restructured or 
modified.\78\
---------------------------------------------------------------------------

    \76\ The FCA's risk-weighting provisions would not expand the 
lending authorities of System institutions.
    \77\ The requirement that the underwriting standards be suitable 
for residential property is the other requirement we propose to add 
to ensure that the collateral is primarily residential rather than 
agricultural in nature.
    \78\ The FCA's existing regulation does not prohibit loans that 
have been restructured or modified from receiving a 50-percent risk 
weight. The other proposed requirements carry over from our existing 
regulation.
---------------------------------------------------------------------------

    A System institution must assign a 100-percent risk weight to all 
residential mortgage exposures that do not satisfy the criteria for a 
50-percent risk weight.
    The proposed rule would maintain the current risk-based capital 
treatment for residential mortgage exposures that are guaranteed by the 
U.S. Government or U.S. Government agencies. Accordingly, residential 
mortgage exposures that are unconditionally guaranteed by the U.S. 
Government or a U.S. Government agency would receive a 0-percent risk 
weight, and residential mortgage exposures that are conditionally 
guaranteed by the U.S. Government or a U.S. Government agency would 
receive a 20-percent risk weight.
    Under the proposal, a residential mortgage exposure may be assigned 
to the 50-percent risk-weight category only if it is not restructured 
or modified. We believe this new restriction on System institution risk 
weighting, which the Federal banking regulatory agencies adopted, is 
appropriate based on risk.
    However, a residential mortgage exposure modified or restructured 
on a permanent or trial basis solely pursuant to the U.S. Treasury's 
Home Affordable Mortgage Program (HAMP) would not be considered to be 
restructured or modified and would continue to receive a 50-percent 
risk weighting. Treating mortgage loans modified pursuant to HAMP in 
this manner is appropriate in light of the special and unique incentive 
features of HAMP, and the fact that the program is offered by the U.S. 
Government to achieve the public policy objective of promoting 
sustainable loan modifications for homeowners at risk of foreclosure in 
a way that balances the interests of borrowers, servicers, and 
lenders.\79\
---------------------------------------------------------------------------

    \79\ The rules of the Federal banking regulatory agencies 
establish risk weights for ``pre-sold residential construction 
loans'' and ``statutory multifamily mortgages.'' These are loans 
that are authorized by statutes that do not apply to System 
institutions, and therefore we do not propose risk weights for them.
---------------------------------------------------------------------------

    System institutions should be mindful that the residential mortgage 
market is likely to change in the future, in part because of 
regulations the CFPB is adopting to improve the quality of mortgage 
underwriting and to reduce the associated credit risk and in part for 
market-driven or other reasons. The FCA may propose changes in the 
treatment of residential mortgage exposures in the future. If so, we 
intend to take into consideration structural and product market 
developments, other relevant regulations, and potential issues with 
implementation across various product types.
8. High Volatility Commercial Real Estate Exposures
    Certain acquisition, development, and construction (ADC) loans 
(which are a subset of commercial real estate exposures) present 
particular risks and warrant the holding of additional capital beyond 
the 100-percent risk weight that would otherwise apply. Accordingly, 
the FCA is proposing a 150-percent risk weight for these HVCRE 
exposures.
    The proposed definition of HVCRE would be a credit facility that, 
prior to conversion to permanent financing, finances or has financed 
the acquisition, development, or construction of real property. The 
financing of four kinds of property is excluded from this definition:
     One-to-four family residential properties;
     Real property that the FCA has authorized as an investment 
pursuant to Sec.  615.5140(e) (this provision authorizes System 
institutions to purchase and hold investments as approved by the FCA);
     The purchase or development of agricultural land, which 
includes all land known to be used or usable for

[[Page 52836]]

agricultural purposes (such as crop and livestock production), provided 
that the valuation of the agricultural land is based on its value for 
agricultural purposes and the valuation does not take into 
consideration any potential use of the land for non-agricultural 
commercial development or residential development; or
     Commercial real estate projects that meet certain 
prudential criteria, including with respect to the LTV ratio and 
capital contributions or expense contributions of the borrower.
    A commercial real estate loan that is not an HVCRE exposure, 
including permanent financing after the life of the ADC project 
concludes, would be treated as a corporate exposure.
    There may be overlap between HVCRE exposures and exposures to land 
in transition--agricultural land in the path of development. FCA 
Bookletter BL-058 (BL-058) explains that while System institutions may 
finance land in transition, they may not provide development financing 
that converts agricultural land to non-agricultural land, except in 
very rare instances. BL-058 provides guidance on how a System 
institution making a loan to purchase or refinance land in transition 
should ensure compliance with the FCA's eligibility and scope of 
financing regulations. System institutions contemplating land in 
transition financing must review and understand BL-058 and must ensure 
they are in full compliance with all FCA regulations in that area.
9. Past Due Exposures
    Under the FCA's existing risk-based capital rules, the risk weight 
of a loan does not change if the loan becomes past due, with the 
exception of certain residential mortgage loans. The FCA believes, 
however, that a higher risk weight is appropriate for past due 
exposures (such as past due agricultural or other borrower loans) to 
reflect the increased risk associated with such exposures.
    To reflect the impaired credit quality of such exposures, the FCA 
proposes to require a System institution to assign a risk weight of 150 
percent to an exposure that is not guaranteed or is not secured by 
financial collateral (and that is not a sovereign exposure or a 
residential mortgage exposure) if it is 90 days or more past due or 
recognized as nonaccrual.\80\ We believe this risk weight is 
appropriate and that any increased capital burden, potential rise in 
procyclicality, or impact on lending associated with the increased risk 
weight is justified given the overall objective of capturing the risk 
associated with the impaired credit quality of these exposures.
---------------------------------------------------------------------------

    \80\ A loan is considered nonaccrual if it meets any of the 
conditions specified in Sec.  621.6(a).
---------------------------------------------------------------------------

    Moreover, the increased risk weight would not double-count the risk 
of a past due exposure, even though the ALL would already be reflected 
in the risk-based capital numerator, because the ALL is intended to 
cover estimated, incurred losses as of the balance sheet date, not 
unexpected losses. The higher risk weight on past due exposures would 
ensure sufficient regulatory capital for the increased probability of 
unexpected losses on these exposures.
    A System institution would be permitted to assign a risk weight to 
the portion of a past due exposure that is collateralized by financial 
collateral or that is guaranteed if the financial collateral, 
guarantee, or credit derivative meets the proposed requirements for 
recognition described in Sec.  628.36 and Sec.  628.37.\81\
---------------------------------------------------------------------------

    \81\ As discussed below, proposed Sec.  628.2 would define 
financial collateral as collateral in the form of, in pertinent 
part, cash, investment grade debt instruments that are not 
resecuritization exposures, publicly traded equity securities and 
convertible bonds, and mutual fund (including money market fund) 
shares if a price is publicly quoted daily, in which the System 
institution has a perfected, first-priority security interest 
(except for cash). Financial collateral would not include collateral 
such as real estate (whether agricultural or not) or chattel.
---------------------------------------------------------------------------

10. Other Assets
    Generally consistent with our existing risk-based capital rules, 
the FCA proposes the risk weights described below for the following 
exposures:
    (1) A 0-percent risk weight to cash owned and held in all offices 
of the System institution, in transit, or in accounts at a depository 
institution or a Federal Reserve Bank; to gold bullion held in a 
depository institution's vaults on an allocated basis to the extent 
gold bullion assets are offset by gold bullion liabilities; and to 
exposures that arise from the settlement of cash transactions (such as 
equities, fixed income, spot foreign exchange and spot commodities) 
with a central counterparty where there is no assumption of ongoing 
counterparty credit risk by the central counterparty after settlement 
of the trade;
    (2) A 20-percent risk weight to cash items in the process of 
collection; and
    (3) A 100-percent risk weight to DTAs arising from temporary 
differences that a System institution could realize through net 
operating loss carrybacks;
    (4) A 100-percent risk weight to all MSAs; and
    (5) A 100-percent risk weight to all assets not specifically 
assigned a different risk weight under this proposed rule (other than 
exposures that would be deducted from tier 1 or tier 2 capital pursuant 
to proposed Sec.  628.22).
    As discussed above, the FCA is proposing, unlike the Federal 
banking regulatory agencies, to deduct from capital all DTAs, other 
than those arising from temporary differences that a System institution 
could realize through net operating loss carrybacks. In addition, 
because System institutions have such little exposure to MSAs, we are 
proposing to simplify the capital treatment as adopted by the Federal 
banking regulatory agencies. Accordingly, we are proposing to risk 
weight DTAs and MSAs as stated above and to eliminate the capital 
treatment, including the 250-percent risk weight, adopted by the 
Federal banking regulatory agencies.\82\
---------------------------------------------------------------------------

    \82\ If a System institution were to increase significantly its 
exposures to MSAs, we would consider exercising our authority to 
require a higher risk weight.
---------------------------------------------------------------------------

11. Exposures to Other System Institutions
    We propose to retain the existing 20-percent risk weight for loans 
from System banks to associations (direct loans).
    Under proposed Sec.  628.22(c), all equities (including preferred 
stock) a System institution has invested in another System institution 
would be deducted from the investing institution's regulatory capital, 
and therefore we do not propose a risk weighting for these exposures. 
These exposures would include an association's investment in its System 
bank, a System bank's purchase of nonvoting stock or participation 
certificates of an affiliated association pursuant to Sec.  615.5171, 
and the purchase of a System association's preferred stock by a System 
bank, association, or service corporation pursuant to Sec.  615.5175.
    In the past, System institutions (generally System banks) have 
entered into loss-sharing agreements with other System institutions 
(generally, affiliated associations) under Sec.  614.4340. In the 
future, if System institutions enter into a loss-sharing agreement, the 
FCA would assign a risk weight for any associated exposures at that 
time, using our reservation of authority.
12. Risk-Weighting for Specialized Exposures
    By FCA Bookletter BL-052, dated January 25, 2006, the FCA permitted 
loans recorded before January 1, 2006 that are supported by Tobacco 
Buyout assignments to be risk weighted at 20

[[Page 52837]]

percent.\83\ These loans mature no later than 2015. Although we do not 
propose to include it in this rule, the FCA intends to continue to 
permit a 20-percent risk weight for these loans. If necessary, we will 
issue revised guidance on this capital treatment when we adopt our 
final capital rule.
---------------------------------------------------------------------------

    \83\ Such loans recorded after this date must be risk-weighted 
at 100 percent.
---------------------------------------------------------------------------

    By FCA Bookletter BL-053, dated February 27, 2007, the FCA 
permitted System institutions to assign a lower risk than would 
otherwise apply to certain electrical cooperative assets, based on the 
unique characteristics and lower risk profile of this industry segment. 
Exposures to certain electrical cooperative assets that satisfy 
specified conditions receive a 50-percent rather than a 100-percent 
risk weight. Furthermore, exposures to these assets receive a 20-
percent risk weight if the assets have a AAA or AA credit rating.
    We do not propose this favorable risk weighting for these assets in 
this rule, but we seek comment as to whether we should retain this risk 
weighting, being mindful of the Dodd-Frank Act section 939A requirement 
that we must eliminate the credit rating criteria. If we do retain this 
capital treatment, we will issue revised guidance on the risk weighting 
when we adopt our final capital rule.

C. Off-Balance Sheet Items

1. Credit Conversion Factors
    Under this proposed rule, as under our existing risk-based capital 
rules, a System institution would calculate the exposure amount of an 
off-balance sheet item by multiplying the off-balance sheet component, 
which is usually the contractual amount, by the applicable credit 
conversion factor (CCF). This treatment would apply to off-balance 
sheet items, such as commitments (including a System bank's commitment 
to an association, discussed below), contingent items, guarantees, 
certain repo-style transactions, financial standby letters of credit, 
and forward agreements.
    We propose to determine the exposure amount of a System bank's 
commitment to an association as the difference between the 
association's maximum credit limit with the System bank (as established 
by the general financing agreement or promissory note, as required by 
Sec.  614.4125(d)) and the amount the association has borrowed from the 
System bank. For example, if a System bank has a $100 maximum credit 
limit to an association and the association has $80 outstanding on its 
direct note, the System bank's exposure amount on its commitment would 
be $20.
    Determining a System bank's exposure amount in this manner would 
result in what could be viewed as double counting of commitment 
exposures (although, as discussed below, we disagree). Continuing the 
example above, the association that has borrowed $80 from its System 
bank could have $60 in outstanding loans to its borrowers and $15 in 
commitments to its borrowers.\84\ The System bank would be required to 
hold capital against its $20 commitment exposure amount, and the 
association would be required to hold capital against its $15 
commitment exposure amount, which it would fund by drawing on its 
commitment with the System bank.
---------------------------------------------------------------------------

    \84\ The association could use the $5 difference to fund its 
operations and investments.
---------------------------------------------------------------------------

    We do not believe this treatment results in double counting 
commitment exposures. This treatment is consistent with the way we 
treat loan exposures; we require a System bank to hold capital against 
the outstanding balance of its loan to an association, and we also 
require an association to hold capital against its loans to borrowers 
(even though the association's loaned funds come from its loan with the 
System bank). As with loan exposures, we believe that there are 
separate risks involved in System bank commitment exposures and 
association commitment exposures.\85\ Accordingly, we do not propose to 
net association commitments against System bank commitments. We invite 
comment on this determination.
---------------------------------------------------------------------------

    \85\ To illustrate the difference, we note that an association 
could use money it borrowers from the bank not only to establish and 
expand commitments and loans to borrowers but also to invest, hedge 
risk, replace equipment, or fund new facilities and services.
---------------------------------------------------------------------------

    Similar to the current risk-based capital rules, a System 
institution would apply a 0-percent CCF to the unused portion of 
commitments that are unconditionally cancelable by the institution. For 
purposes of this proposed rule, a commitment would mean any legally 
binding arrangement that obligates a System institution to extend 
credit or to purchase assets. Unconditionally cancelable would mean a 
commitment that a System institution may, at any time, with or without 
cause, refuse to extend credit under the commitment (to the extent 
permitted under applicable law). In the case of an operating line of 
credit, a System institution would be deemed able to unconditionally 
cancel the commitment if it can, at its option, prohibit additional 
extensions of credit, reduce the credit line, and terminate the 
commitment to the full extent permitted by applicable law. If a System 
institution provides a commitment that is structured as a syndication, 
it would only be required to calculate the exposure amount for its pro 
rata share of the commitment.
    The FCA proposes to maintain the current 20-percent CCF for self-
liquidating, trade-related contingencies with an original maturity of 
14 months or less.\86\ In addition, the FCA proposes to increase the 
CCF from 0 percent to 20 percent for commitments with an original 
maturity of 14 months or less that are not unconditionally cancelable 
by a System institution.
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    \86\ As under our existing rules, we propose a 14-month rather 
than a 12-month original maturity because the agricultural 
production cycle and related marketing efforts typically extend 
beyond 12 months. A 14-month maturity would allow a commitment for 
an operating loan to cover an entire cycle. A new commitment would 
be issued for the next cycle. Allowing a more favorable risk weight 
for a 14-month rather than a 12-month commitment does not materially 
raise risk in the portfolios of System institutions.
---------------------------------------------------------------------------

    As under our existing risk-based capital rules, a System 
institution would apply a 50-percent CCF to commitments with an 
original maturity of more than 14 months that are not unconditionally 
cancelable by the institution and to transaction-related contingent 
items, including performance bonds, bid bonds, warranties, and 
performance standby letters of credit.
    Under this proposed rule, a System institution would be required to 
apply a 100-percent CCF to off-balance sheet guarantees, repurchase 
agreements, credit-enhancing representations and warranties that are 
not securitization exposures, securities lending and borrowing 
transactions, financial standby letters of credit, forward agreements, 
and other similar exposures. The off-balance sheet component of a 
repurchase agreement would equal the sum of the current fair values of 
all positions the System institution has sold subject to repurchase. 
The off-balance sheet component of a securities lending transaction 
would be the sum of the current fair values of all positions the System 
institution has lent under the transaction. For securities borrowing 
transactions, the off-balance sheet component would be the sum of the 
current fair values of all non-cash positions the institution has 
posted as collateral under the transaction. In certain circumstances, a 
System institution may instead determine the exposure amount of the 
transaction as described in Sec.  628.37 of the proposed rule.

[[Page 52838]]

    In contrast to our existing risk-based capital rules, which require 
capital for securities lending and borrowing transactions and 
repurchase agreements only if they generate an on-balance sheet 
exposure, the proposed rule would require a System institution to hold 
risk-based capital against all repo-style transactions (that is, 
repurchase agreements, reverse repurchase agreements, securities 
lending transactions, and securities borrowing transactions), 
regardless of whether they generate on-balance sheet exposures, as 
described in Sec.  628.37 of the proposed rule. For example, capital is 
required against the cash receivable that a System institution 
generates when it borrows a security and posts cash collateral to 
obtain the security. We propose this approach because System 
institutions face counterparty credit risk when engaging in repo-style 
transactions, even if those transactions do not generate on-balance 
sheet exposures, and thus these transactions should not be exempt from 
risk-based capital requirements.
2. Credit-Enhancing Representations and Warranties
    Consistent with our existing risk-based capital rules, under the 
proposed rule a System institution would be subject to a risk-based 
capital requirement when it provides credit-enhancing representations 
and warranties on assets sold or otherwise transferred to third 
parties, as such positions are considered recourse arrangements.\87\
---------------------------------------------------------------------------

    \87\ Sec. Sec.  615.5201 and 615.5210.
---------------------------------------------------------------------------

    A System institution would be required to hold capital only for the 
maximum contractual amount of its exposure under the representations 
and warranties, not against the value of the underlying loan. Moreover, 
a System institution would have to hold capital for the life of a 
credit-enhancing representation and warranty, but not after its 
expiration, regardless of the maturity of the underlying loan.

D. Over-the-Counter Derivative Contracts

    Under the proposed rule, a System institution is required to hold 
risk-based capital for counterparty credit risk for an OTC derivative 
contract. As defined in proposed Sec.  628.2, a derivative contract is 
a financial contract whose value is derived from the values of one or 
more underlying assets, reference rates, or indices of asset values or 
reference rates. A derivative contract includes interest rate, exchange 
rate, equity, commodity, credit, and any other derivative contract that 
poses similar counterparty credit risks. Derivative contracts also 
include unsettled securities, commodities, and foreign exchange 
transactions with a contractual settlement or delivery lag that is 
longer than the lesser of the market standard for the particular 
instrument or 5 business days. This applies, for example, to mortgage-
backed securities (MBS) transactions that the GSEs conduct in the To-
Be-Announced market.
    Under the proposed rule, an OTC derivative contract does not 
include a derivative contract that is a cleared transaction, which is 
subject to a specific treatment as described elsewhere in this 
preamble.
    To determine the risk-weighted asset amount for an OTC derivative 
contract under the proposed rule, a System institution would first 
determine its exposure amount for the contract and then apply to that 
amount a risk weight based on the counterparty, eligible guarantor, or 
recognized collateral.
    For a single OTC derivative contract that is not subject to a 
qualifying master netting agreement (as defined further below in this 
section), the proposed rule would require the exposure amount to be the 
sum of: (1) The System institution's current credit exposure, which 
would be the greater of the fair value or 0; and (2) potential future 
exposure (PFE), which would be calculated by multiplying the notional 
principal amount of the OTC derivative contract by the appropriate 
conversion factor, in accordance with Table 6 below.
    Under the proposed rule, the conversion factor matrix would include 
the categories of OTC derivative contracts as illustrated in Table 6. 
For an OTC derivative contract that does not fall within one of the 
specified categories in Table 6, the proposed rule would require PFE to 
be calculated using the ``other'' conversion factor.

[[Page 52839]]

[GRAPHIC] [TIFF OMITTED] TP04SE14.001

    For multiple OTC derivative contracts subject to a qualifying 
master netting agreement, a System institution would calculate the 
exposure amount by adding the net current credit exposure and the 
adjusted sum of the PFE amounts for all OTC derivative contracts 
subject to the qualifying master netting agreement. Under the proposed 
rule, the net current credit exposure would be the greater of 0 and the 
net sum of all positive and negative fair values of the individual OTC 
derivative contracts subject to the qualifying master netting 
agreement. The adjusted sum of the PFE amounts would be calculated as 
described in Sec.  628.34(a)(2)(ii) of the proposed rule.
    Under the proposed rule, to recognize the netting benefit of 
multiple OTC derivative contracts, the contracts would have to be 
subject to a qualifying master netting agreement. The proposed rule 
would define a qualifying master netting agreement as any written, 
legally enforceable netting agreement that creates a single legal 
obligation for all individual transactions covered by the agreement 
upon an event of default (including receivership, insolvency, 
liquidation, or similar proceeding) provided that certain conditions 
set forth in Sec.  628.3 of the proposed rule are met.\88\ These 
conditions include

[[Page 52840]]

requirements with respect to the System institution's right to 
terminate the contract and liquidate collateral and meeting certain 
standards with respect to legal review of the agreement to ensure it 
meets the criteria in the definition.
---------------------------------------------------------------------------

    \88\ Section 628.3 of the proposed rule organizes substantive 
requirements related to cleared transactions, eligible margin loans, 
qualifying master netting agreements, and repo-style transactions in 
a central place to assist System institutions in determining their 
legal responsibilities.
---------------------------------------------------------------------------

    The required legal review must be sufficient so that the System 
institution may conclude with a well-founded basis that, among other 
things, the contract would be found legal, binding, and enforceable 
under the law of the relevant jurisdiction and that the contract meets 
the other requirements of the definition. In some cases, the legal 
review requirement could be met by reasoned reliance on a commissioned 
legal opinion or an in-house counsel analysis.
    In other cases, for example, those involving certain unfamiliar 
derivative transactions or derivative counterparties in jurisdictions 
where a System institution has little experience, the institution would 
be expected to obtain an explicit, written legal opinion from external 
or internal legal counsel addressing the particular situation.
    Under the proposed rule, if an OTC derivative contract is 
collateralized by financial collateral,\89\ a System institution would 
first have to determine the exposure amount of the OTC derivative 
contract as described in this section of the preamble. Next, to 
recognize the credit risk mitigation benefits of the financial 
collateral, a System institution could use the simple approach for 
collateralized transactions as described in Sec.  628.37(b) of the 
proposed rule. Alternatively, if the financial collateral is marked-to-
market on a daily basis and subject to a daily margin maintenance 
requirement, a System institution could adjust the exposure amount of 
the contract using the collateral haircut approach described in Sec.  
628.37(c) of the proposed rule.
---------------------------------------------------------------------------

    \89\ As discussed below, proposed Sec.  628.2 would define 
financial collateral as collateral in the form of, in pertinent 
part, cash, investment grade debt instruments that are not 
resecuritization exposures, publicly traded equity securities and 
convertible bonds, and mutual fund (including money market fund) 
shares if a price is publicly quoted daily, in which the System 
institution has a perfected, first-priority security interest 
(except for cash). Financial collateral would not include collateral 
such as real estate (whether agricultural or not) or chattel.
---------------------------------------------------------------------------

    Similarly, if a System institution purchased a credit derivative 
that would be recognized under Sec.  628.36 of the proposed rule as a 
credit risk mitigant, it would not be required to compute a separate 
counterparty credit risk capital requirement for the credit derivative, 
provided it does so consistently for all such credit derivative 
contracts. Further, where these credit derivative contracts are subject 
to a qualifying master netting agreement, the System institution would 
be required to either include them all or exclude them all from any 
measure used to determine the counterparty credit risk exposure to all 
relevant counterparties for risk-based capital purposes.
    Under the proposed rule, a System institution would have to treat 
an equity derivative contract as an equity exposure and compute its 
risk-weighted asset amount according to the simple risk-weight approach 
(SRWA) described in Sec.  628.52. If the System institution risk 
weighted a contract under the SRWA described in Sec.  628.52, it could 
choose not to hold risk-based capital against the counterparty risk of 
the equity contract, so long as it made this choice for all such 
contracts. Where the OTC equity contracts are subject to a qualified 
master netting agreement, a System institution would either include or 
exclude all of the contracts from any measure used to determine 
counterparty credit risk exposures.\90\
---------------------------------------------------------------------------

    \90\ It would be unusual for a System institution to have such 
an exposure, but it could occur, for example, through foreclosure of 
collateral.
---------------------------------------------------------------------------

    If a System provided protection through a credit derivative, it 
would have to treat the credit derivative as an exposure to the 
underlying reference asset and compute a risk-weighted asset amount for 
the credit derivative under Sec.  628.32 of the proposed rule. The 
System institution would not be required to compute a counterparty 
credit risk capital requirement for the credit derivative, as long as 
it did so consistently for all such OTC credit derivative contracts. 
Further, where these credit derivative contracts are subject to a 
qualifying master netting agreement, the System institution would 
either have to include all or exclude all such credit derivatives from 
any measure used to determine counterparty credit risk exposure to all 
relevant counterparties for risk-based capital purposes.
    Under the proposed rule, the risk weight for OTC derivative 
transactions is not subject to any specific ceiling, consistent with 
the Basel capital framework.

E. Cleared Transactions

    Like the BCBS and the Federal banking regulatory agencies, the FCA 
supports incentives designed to encourage clearing of derivative and 
repo-style transactions \91\ through a central counterparty (CCP) 
wherever possible in order to promote transparency, multilateral 
netting, and robust risk management practices. Although there are some 
risks associated with CCPs, as discussed below, we believe that CCPs 
generally help improve the safety and soundness of the derivatives and 
repo-style transactions markets through the multilateral netting of 
exposures, establishment, and enforcement of collateral requirements, 
and the promotion of market transparency.
---------------------------------------------------------------------------

    \91\ See Sec.  628.2 of the proposed rule for the definition of 
a repo-style transaction.
---------------------------------------------------------------------------

1. Definition of Cleared Transaction
    Under the proposal, a System institution would be required to hold 
risk-based capital for all of its cleared transactions. In any such 
transaction, the System institution would act as a clearing member 
client (defined as a party to a cleared transaction associated with a 
CCP in which a clearing member acts either as a financial intermediary 
with respect to the party or guarantees the performance of the party to 
the CCP).\92\
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    \92\ The Federal banking regulatory agencies adopted regulatory 
provisions contemplating that their regulated banking organizations 
could act as clearing members as well as clearing member clients. 
Because of the complexity, we believe System institutions will not 
want to act as clearing members, and we therefore do not propose 
comparable provisions. We invite comment as to whether we should 
adopt such provisions. In their absence, if a System institution did 
choose to act as a clearing member, we could address risk-weighting 
issues on a case-by-case basis.
---------------------------------------------------------------------------

    The proposed rule would define a cleared transaction as an exposure 
associated with an outstanding derivative contract or repo-style 
transaction that a System institution or clearing member has entered 
into with a CCP (that is, a transaction that a CCP has accepted).\93\ 
Cleared transactions would include the following: (1) A transaction 
between a clearing member client System institution and a clearing 
member where the clearing member acts as a financial intermediary on 
behalf of the client and enters into an offsetting

[[Page 52841]]

transaction with a CCP; and (2) a transaction between a clearing member 
client System institution and a CCP where a clearing member guarantees 
the performance of the client to the CCP. Such transactions would also 
have to satisfy additional criteria provided in Sec.  628.3 of the 
proposed rule, including bankruptcy remoteness of collateral, 
transferability criteria, and portability of the clearing member 
client's position.
---------------------------------------------------------------------------

    \93\ For example, we expect that a transaction with a 
derivatives clearing organization (DCO) would meet the proposed 
criteria for a cleared transaction. A DCO is a clearinghouse, 
clearing association, clearing corporation, or similar entity that 
enables each party to an agreement, contract, or transaction to 
substitute, through novation or otherwise, the credit of the DCO for 
the credit of the parties; arranges or provides, on a multilateral 
basis, for the settlement or netting of obligations; or otherwise 
provides clearing services or arrangements that mutualize or 
transfer credit risk among participants. To qualify as a DCO, an 
entity must be registered with the U.S. Commodity Futures Trading 
Commission and comply with all relevant laws and procedures.
---------------------------------------------------------------------------

    Derivative transactions that are not cleared transactions because 
they do not meet all the criteria would be OTC derivative transactions. 
For example, if a transaction submitted to a CCP is not accepted by a 
CCP because the terms of the transaction submitted by the clearing 
members do not match or because other operational issues were 
identified by the CCP, the transaction would not meet the definition of 
a cleared transaction and would be an OTC derivative transaction. If 
the counterparties to the transaction resolved the issues and 
resubmitted the transaction and it was accepted, the transaction would 
then be a cleared transaction.
2. Risk Weighting for Cleared Transactions
    Under the proposed rule, to determine the risk-weighted asset 
amount for a cleared transaction, a clearing member client System 
institution would multiply the trade exposure amount for the cleared 
transaction by the appropriate risk weight, determined as described 
below. The trade exposure amount would be calculated as follows:
    (1) For a cleared transaction that is either a derivative contract 
or a netting set of derivative contracts, the trade exposure amount 
would equal the exposure amount for the derivative contract or netting 
set of derivative contracts, calculated using the current exposure 
method (CEM) for OTC derivative contracts (described in Sec.  628.34 of 
the proposed rule), plus the fair value of the collateral posted by the 
clearing member client System institution and held by the CCP or 
clearing member in a manner that is not bankruptcy remote; \94\ and
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    \94\ Under this proposal, bankruptcy remote, with respect to an 
entity or asset, would mean that the entity or asset would be 
excluded from an insolvent entity's estate in a receivership, 
insolvency, or similar proceeding.
---------------------------------------------------------------------------

    (2) For a cleared transaction that is a repo-style transaction or a 
netting set of repo-style transactions, the trade exposure amount would 
equal the exposure amount calculated under the collateral haircut 
approach (described in Sec.  628.37(c) of the proposed rule) plus the 
fair value of the collateral posted by the clearing member client 
System institution that is held by the CCP or clearing member in a 
manner that is not bankruptcy remote.
    The trade exposure amount would not include any collateral posted 
by a clearing member client System institution that is held by a 
custodian in a manner that is bankruptcy remote from the CCP, clearing 
member, other counterparties of the clearing member, and the custodian 
itself. In addition to the capital requirement for the cleared 
transaction, the System institution would remain subject to a capital 
requirement for any collateral provided to a CCP, a clearing member, or 
a custodian in connection with a cleared transaction in accordance with 
Sec.  628.32 of the proposal.
    The risk weight for a cleared transaction would depend on whether 
the CCP is a qualifying CCP (QCCP). Central counterparties that are 
designated financial market utilities (FMUs) and foreign entities 
regulated and supervised in a manner equivalent to designated FMUs 
would be QCCPs. In addition, a CCP could be a QCCP if it were in sound 
financial condition and met certain standards that are set forth in the 
proposed QCCP definition.
    A System institution that is a clearing member client would apply a 
2-percent risk weight to its trade exposure amount to a QCCP only if:
    (1) The collateral posted by the clearing member client System 
institution to the QCCP or clearing member is subject to an arrangement 
that prevents any losses to the clearing member client due to the joint 
default or a concurrent insolvency, liquidation, or receivership 
proceeding of the clearing member and any other clearing member clients 
of the clearing member; and
    (2) The clearing member client System institution has conducted 
sufficient legal review to conclude with a well-founded basis (and 
maintains sufficient written documentation of that legal review) that 
in the event of a legal challenge (including one resulting from default 
or a liquidation, insolvency, or receivership proceeding) the relevant 
court and administrative authorities would find the arrangements to be 
legal, valid, binding, and enforceable under the law of the relevant 
jurisdiction.
    If the criteria above are not met, a clearing member client System 
institution would apply a risk weight of 4 percent to the trade 
exposure amount.
    For a cleared transaction with a CCP that is not a QCCP, a clearing 
member client System institution would risk weight the trade exposure 
amount to the CCP according to the treatment for the CCP under Sec.  
628.32 of the proposal (generally 100 percent). Collateral posted by a 
clearing member client System institution that is held by a custodian 
in a manner that is bankruptcy remote from the CCP, clearing member, 
and other clearing member clients of the clearing member would not be 
subject to a capital requirement for counterparty credit risk.
    The diagrams below demonstrate the various potential transactions 
and exposure treatment in the proposed rule. Table 7 sets out how the 
transactions illustrated in the diagrams below are risk-weighted under 
the proposed rule.
    In the diagram, ``T'' refers to a transaction, and the arrow 
indicates the direction of the exposure. The diagram describes the 
appropriate risk weight treatment for exposures from the perspective of 
a System institution entering into cleared transactions as a client of 
a clearing member (T1 and T2). Table 7 shows for 
each trade whom the exposure is to, a description of the type of trade, 
and the risk weight that would apply based on the risk of the 
counterparty.
System Institution Client--Clearing Member(CM) Trade
     Financial Intermediary with offsetting transaction to QCCP
    [GRAPHIC] [TIFF OMITTED] TP04SE14.002
    

[[Page 52842]]


     Agency with guarantee of client performance
    [GRAPHIC] [TIFF OMITTED] TP04SE14.003
    

                             Table 7--Risk Weights for Various Cleared Transactions
----------------------------------------------------------------------------------------------------------------
 
---------------------------------------------------------------
T1...................................  CM.....................  CM financial             2% or 4% risk weight on
                                                                 intermediary with        trade exposure amount.
                                                                 offsetting trade to
                                                                 QCCP.
T2...................................  QCCP...................  CM agent with guarantee  2% or 4% risk weight on
                                                                 of client performance.   trade exposure amount.
----------------------------------------------------------------------------------------------------------------

F. Credit Risk Mitigation

    System institutions use a number of techniques to mitigate credit 
risks. For example, a System institution may collateralize exposures 
with cash or securities; a third party may guarantee an exposure; a 
System institution may buy a credit derivative to offset an exposure's 
credit risk; or a System institution may net exposures with a 
counterparty under a netting agreement. This section of the preamble 
describes how the proposed rule would allow System institutions to 
recognize the risk-mitigation effects of guarantees, credit 
derivatives, and collateral for risk-based capital purposes.
    Under the proposed rule, a System institution generally would be 
able to use a substitution approach to recognize the credit risk 
mitigation effect of an eligible guarantee from an eligible guarantor 
and the simple approach to recognize the effect of collateral. To 
recognize credit risk mitigants, a System institution would have to 
implement operational procedures and risk-management processes that 
ensure that all documentation used in collateralizing or guaranteeing a 
transaction is legal, valid, binding, and enforceable under applicable 
law in the relevant jurisdictions. A System institution would be 
expected to conduct sufficient legal review to reach a well-founded 
conclusion that the documentation meets this standard as well as 
conduct additional reviews as necessary to ensure continuing 
enforceability.
    Although the use of credit risk mitigants may reduce or transfer 
credit risk, it simultaneously may increase other risks, including 
operational, liquidity, or market risk. Accordingly, a System 
institution would be expected to employ robust procedures and processes 
to control risks, including roll-off and concentration risks, and 
monitor and manage the implications of using credit risk mitigants for 
the institution's overall credit risk profile.
1. Guarantees and Credit Derivatives
a. Eligibility Requirements
    Our existing risk-based capital rules generally recognize third-
party guarantees provided by central governments, GSEs, PSEs in the 
OECD countries, multilateral lending institutions and regional 
development banking organizations, U.S. depository institutions, 
foreign banks, and qualifying securities firms in OECD countries.\95\ 
The FCA proposes to revise this listing of eligible guarantors to 
expressly include sovereigns, the Bank for International Settlements, 
the International Monetary Fund, the European Central Bank, the 
European Commission, Federal Home Loan Banks (FHLB), Federal 
Agricultural Mortgage Corporation (Farmer Mac), MDBs, depository 
institutions, bank holding companies, savings and loan holding 
companies, credit unions, and foreign banks. Entities not expressly 
included in the above list would be eligible guarantors if they have 
issued and outstanding unsecured debt securities without credit 
enhancement that are investment grade, if their creditworthiness is not 
positively correlated with the credit risk of the exposures for which 
it has provided guarantees, and if they meet certain other 
requirements.\96\
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    \95\ Section 615.5211.
    \96\ Our proposed definition of eligible guarantor is comparable 
to that adopted by the Federal banking regulatory agencies. A System 
institution would not satisfy the definition of eligible guarantor. 
System institutions are not included in the express listing of 
eligible guarantors. Moreover, individual System institutions do not 
meet the eligible guarantor criteria because of the positive 
correlation of the creditworthiness of a System institution with the 
credit risk of the System exposures for which it would provide 
guarantees. Accordingly, a System institution that received a 
guarantee from another System institution would not be able to 
recognize the guarantee for credit risk mitigation purposes.
---------------------------------------------------------------------------

    Guarantees and credit derivatives would be required to meet 
specific eligibility requirements to be recognized for credit risk 
mitigation purposes. Under the proposal, an eligible guarantee would be 
defined as a guarantee from an eligible guarantor that is written and 
meets certain standards and conditions, including with respect to its 
enforceability. An eligible credit derivative would be defined as a 
credit derivative in the form of a credit default swap (CDS), n\th\-to-
default swap, total return swap, or any other form of credit derivative 
approved by the FCA, provided that the instrument meets the standards 
and conditions set forth in the proposed definition. See the proposed 
definitions of ``eligible guarantee'' and ``eligible credit 
derivative'' in Sec.  628.2 of the proposed rule.
    Under this proposed rule, a System institution would be permitted 
to recognize the credit risk mitigation benefits of an eligible credit 
derivative that hedges an exposure that is different from the credit 
derivative's reference exposure used for determining the derivative's 
cash settlement value, deliverable obligation, or occurrence of a 
credit event if:
    (1) The reference exposure ranks pari passu with or is subordinated 
to the hedged exposure;

[[Page 52843]]

    (2) The reference exposure and the hedged exposure are to the same 
legal entity; and
    (3) Legally enforceable cross-default or cross-acceleration clauses 
are in place to assure payments under the credit derivative are 
triggered when the issuer fails to pay under the terms of the hedged 
exposure.
    When a System institution has a group of hedged exposures with 
different residual maturities that are covered by a single eligible 
guarantee or eligible credit derivative, the System institution would 
treat each hedged exposure as if it were fully covered by a separate 
eligible guarantee or eligible credit derivative.
b. Substitution Approach
    Under the proposed substitution approach, if the protection amount 
(as defined below) of an eligible guarantee or eligible credit 
derivative is greater than or equal to the exposure amount of the 
hedged exposure, a System institution would substitute the risk weight 
applicable to the guarantor or credit derivative protection provider 
for the risk weight assigned to the hedged exposure.
    If the protection amount of the eligible guarantee or eligible 
credit derivative is less than the exposure amount of the hedged 
exposure, a System institution would treat the hedged exposure as two 
separate exposures (protected and unprotected) to recognize the credit 
risk mitigation benefit of the guarantee or credit derivative. In such 
cases, a System institution would calculate the risk-weighted asset 
amount for the protected exposure under Sec.  628.36 of the proposed 
rule (using a risk weight applicable to the guarantor or credit 
derivative protection provider and an exposure amount equal to the 
protection amount of the guarantee or credit derivative). The System 
institution would calculate its risk-weighted asset amount for the 
unprotected exposure under Sec.  628.32 of the proposed rule (using the 
risk weight assigned to the exposure and an exposure amount equal to 
the exposure amount of the original hedged exposure minus the 
protection amount of the guarantee or credit derivative).
    The protection amount of an eligible guarantee or eligible credit 
derivative would mean the effective notional amount of the guarantee or 
credit derivative reduced to reflect any maturity mismatch, lack of 
restructuring coverage, or currency mismatch as described below. The 
effective notional amount for an eligible guarantee or eligible credit 
derivative would be the lesser of the contractual notional amount of 
the credit risk mitigant or the exposure amount of the hedged exposure, 
multiplied by the percentage coverage of the credit risk mitigant. For 
example, the effective notional amount of a guarantee that covers, on a 
pro rata basis, 40 percent of any losses on a $100 bond would be $40.
c. Maturity Mismatch Haircut
    Under the proposed requirements, a System institution that 
recognizes an eligible guarantee or eligible credit derivative would 
have to adjust the effective notional amount of the credit risk 
mitigant to reflect any maturity mismatch between the hedged exposure 
and the credit risk mitigant. A maturity mismatch occurs when the 
residual maturity of a credit risk mitigant is less than that of the 
hedged exposure(s).\97\
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    \97\ As noted above, when a System institution has a group of 
hedged exposures with different residual maturities that are covered 
by a single eligible guarantee or eligible credit derivative, a 
System institution would treat each hedged exposure as if it were 
fully covered by a separate eligible guarantee or eligible credit 
derivative. To determine whether any of the hedged exposures has a 
maturity mismatch with the eligible guarantee or credit derivative, 
the System institution would assess whether the residual maturity of 
the eligible guarantee or eligible credit derivative is less than 
that of any of the hedged exposures.
---------------------------------------------------------------------------

    The residual maturity of a hedged exposure would be the longest 
possible remaining time before the obligated party of the hedged 
exposure is scheduled to fulfill its obligation on the hedged exposure. 
A System institution would be required to take into account any 
embedded options that may reduce the term of the credit risk mitigant 
so that the shortest possible residual maturity for the credit risk 
mitigant would be used to determine the potential maturity mismatch. If 
a call is at the discretion of the protection provider, the residual 
maturity of the credit risk mitigant would be at the first call date. 
If the call is at the discretion of the System institution purchasing 
the protection, but the terms of the arrangement at origination of the 
credit risk mitigant contain a positive incentive for the institution 
to call the transaction before contractual maturity, the remaining time 
to the first call date would be the residual maturity of the credit 
risk mitigant. Under this proposed rule, a System institution would be 
permitted to recognize a credit risk mitigant with a maturity mismatch 
only if its original maturity is greater than or equal to 1 year and 
the residual maturity is greater than 3 months.
    Assuming that the credit risk mitigant may be recognized, a System 
institution would be required to apply the following adjustment to 
reduce the effective notional amount of the credit risk mitigant to 
recognize the maturity mismatch:

Pm = E x [(t -0.25)/(T -0.25)],

Where:

(1) Pm = effective notional amount of the credit risk mitigant, 
adjusted for maturity mismatch;
(2) E = effective notional amount of the credit risk mitigant;
(3) t = the lesser of T or residual maturity of the credit risk 
mitigant, expressed in years; and
(4) T = the lesser of 5 or the residual maturity of the hedged 
exposure, expressed in years.
d. Adjustment for Credit Derivatives Without Restructuring as a Credit 
Event
    Under the proposal, a System institution that seeks to recognize an 
eligible credit derivative that does not include a restructuring of the 
hedged exposure as a credit event under the derivative would have to 
reduce the effective notional amount of the credit derivative 
recognized for credit risk mitigation purposes by 40 percent. For 
purposes of the proposed credit risk mitigation framework, a 
restructuring would involve forgiveness or postponement of principal, 
interest, or fees that result in a credit loss event (that is, a 
charge-off, specific provision, or other similar debit to the profit 
and loss account). In these instances, the System institution would be 
required to apply the following adjustment to reduce the effective 
notional amount of the credit derivative: Pr = PM 
x 0.60,

Where:

(1) Pr = effective notional amount of the credit risk 
mitigant, adjusted for lack of a restructuring event (and maturity 
mismatch, if applicable); and
(2) Pm = effective notional amount of the credit risk 
mitigant (adjusted for maturity mismatch, if applicable).

e. Currency Mismatch Adjustment
    Under this proposal, if a System institution recognizes an eligible 
guarantee or eligible credit derivative that is denominated in a 
currency different from that in which the hedged exposure is 
denominated, the institution would apply the following formula to the 
effective notional amount of the guarantee or credit derivative:

Pc = Pr x (1 - Hfx),

Where:

(1) Pc = effective notional amount of the credit risk 
mitigant, adjusted for currency mismatch (and maturity mismatch and 
lack of restructuring event, if applicable);
    (2) Pr = effective notional amount of the credit risk 
mitigant (adjusted for

[[Page 52844]]

maturity mismatch and lack of restructuring event, if applicable); 
and
(3) Hfx = haircut appropriate for the currency mismatch 
between the credit risk mitigant and the hedged exposure.

    A System institution would be required to use a standard 
supervisory haircut of 8 percent for Hfx (based on a 10-
business day holding period and daily marking-to-market and 
remargining). The System institution is required to scale the haircut 
up using the square root of time formula if the institution revalues 
the guarantee or credit derivative less frequently than once every 10 
business days. The applicable haircut HM is calculated using 
the following square root of time formula:
[GRAPHIC] [TIFF OMITTED] TP04SE14.004


Tm equals the greater of 10 or the number of days between 
revaluation.

f. Multiple Credit Risk Mitigants
    If multiple credit risk mitigants cover a single exposure, a System 
institution would be able to disaggregate the exposure into portions 
covered by each credit risk mitigant (for example, the portion covered 
by each guarantee) and calculate separately a risk-based capital 
requirement for each portion. In addition, when a single credit risk 
mitigant covers multiple exposures, a System institution would have to 
treat each hedged exposure as covered by a single risk mitigant and 
must calculate separate risk-weighted asset amounts for each exposure 
using the substitution approach described in Sec.  628.36(c) of the 
proposed rule.
2. Collateralized Transactions
a. Eligible Collateral
    We propose to recognize a range of financial collateral as credit 
risk mitigants that may reduce the risk-based capital requirements 
associated with a collateralized transaction, similar to the Basel 
capital framework and the rules of the Federal banking regulatory 
agencies.
    As proposed, financial collateral would mean collateral in the form 
of:
    (1) Cash on deposit at a depository institution, or Federal Reserve 
Bank (including cash held for the System institution by a third-party 
custodian or trustee);
    (2) Gold bullion;
    (3) Short- and long-term debt securities that are not 
resecuritization exposures \98\ and that are investment grade;
---------------------------------------------------------------------------

    \98\ References to resecuritization exposures in this preamble, 
and the presence of risk weights related to resecuritization 
exposures in this proposed rule, do not grant any authorities to 
System institutions related to resecuritization exposures.
---------------------------------------------------------------------------

    (4) Equity securities that are publicly traded;
    (5) Convertible bonds that are publicly traded; or
    (6) Money market fund shares and other mutual fund shares if a 
price for the shares is publicly quoted daily.\99\ With the exception 
of cash on deposit at a depository institution, or Federal Reserve 
Bank, the System institution would also be required to have a 
perfected, first-priority security interest or, outside of the United 
States, the legal equivalent thereof, notwithstanding the prior 
security interest of any custodial agent. A System institution would be 
permitted to recognize partial collateralization of an exposure.
---------------------------------------------------------------------------

    \99\ This definition of financial collateral would exclude 
collateral such as real estate or chattel. We note that publicly 
traded equity securities and convertible bonds are not eligible 
investments for System institutions, but they could be acquired as 
foreclosed collateral.
---------------------------------------------------------------------------

    Under this proposed rule, a System institution would be able to 
recognize the risk-mitigating effects of financial collateral using the 
simple approach, described below, where: (1) The collateral is subject 
to a collateral agreement for at least the life of the exposure; (2) 
the collateral is revalued at least every 6 months; and (3) the 
collateral (other than gold) and the exposure are denominated in the 
same currency. For repo-style transactions, eligible margin loans, 
collateralized derivative contracts, and single-product netting sets of 
such transactions, a System institution could alternatively use the 
collateral haircut approach described below. A System institution would 
be required to use the same approach for similar exposures or 
transactions.
b. Risk Management Guidance for Recognizing Collateral
    Before a System institution recognized collateral for credit risk 
mitigation purposes, it would have to: (1) Conduct sufficient legal 
review to ensure, at the inception of the collateralized transaction 
and on an ongoing basis, that all documentation used in the transaction 
is binding on all parties and legally enforceable in all relevant 
jurisdictions; (2) consider the correlation between risk of the 
underlying direct exposure and collateral risk in the transaction; and 
(3) fully take into account the time and cost needed to realize the 
liquidation proceeds and the potential for a decline in collateral 
value over this time period.
    A System institution also would have to ensure that the legal 
mechanism under which the collateral is pledged or transferred provides 
the institution the right to liquidate or take legal possession of the 
collateral in a timely manner in the event of the default, insolvency, 
or bankruptcy (or other defined credit event) of the counterparty and, 
where applicable, the custodian holding the collateral.
    In addition, a System institution would have to ensure that it has:
    (1) Taken all steps necessary to fulfill any legal requirements to 
secure its interest in the collateral so that it has and maintains an 
enforceable security interest;
    (2) Set up and implemented clear and robust procedures to comply 
with any legal conditions required for declaring the default of the 
borrower and prompt liquidation of the collateral in the event of 
default;
    (3) Established and implemented procedures and practices for 
conservatively estimating, on a regular ongoing basis, the fair value 
of the collateral, taking into account factors that could affect that 
value (for example, the liquidity of the market for the collateral and 
obsolescence or deterioration of the collateral); and
    (4) Established systems in place for promptly requesting and 
receiving additional collateral for transactions whose terms require 
maintenance of collateral values at specified thresholds.
c. Simple Approach
    Under the proposed simple approach, the collateralized portion of 
the exposure would receive the risk weight applicable to the 
collateral. The collateral would be required to meet the definition of 
financial collateral. For repurchase agreements, reverse repurchase 
agreements, and securities lending and borrowing transactions, the 
collateral would be the instruments, gold, and cash that a System 
institution has borrowed, purchased subject to resale, or taken as 
collateral from the counterparty under the transaction. As noted above, 
in all cases:
    (1) The collateral would have to be subject to a collateral 
agreement for at least the life of the exposure;
    (2) The System institution would be required to revalue the 
collateral at least every 6 months; and
    (3) The collateral (other than gold) and the exposure would be 
required to be denominated in the same currency.
    Generally, the risk weight assigned to the collateralized portion 
of the exposure would be no less than 20

[[Page 52845]]

percent. However, OTC derivative contracts that are marked-to-fair 
value on a daily basis and subject to a daily margin maintenance 
agreement could receive:
    (1) A 0-percent risk weight to the extent that they are 
collateralized by cash on deposit; or
    (2) A 10-percent risk weight to the extent that the contracts are 
collateralized by an exposure to a sovereign that qualifies for a 0-
percent risk weight under Sec.  628.32 of the proposal.
    In addition, a System institution may assign a 0-percent risk 
weight to the collateralized portion of an exposure where:
    (i) The financial collateral is cash on deposit; or
    (ii) The financial collateral is an exposure to a sovereign that 
qualifies for a 0-percent risk weight under Sec.  628.32 of the 
proposal and the System institution has discounted the fair value of 
the collateral by 20 percent.
d. Collateral Haircut Approach
    The proposed rule would permit a System institution to use a 
collateral haircut approach to recognize the credit risk mitigation 
benefits of financial collateral that secures an eligible margin loan, 
a repo-style transaction, collateralized derivative contract, or 
single-product netting set of such transactions.
    To apply the collateral haircut approach, a System institution 
would determine the exposure amount and the relevant risk weight for 
the counterparty or guarantor.
    The exposure amount for an eligible margin loan, repo-style 
transaction, collateralized derivative contract, or a netting set of 
such transactions is equal to the greater of 0 or the sum of the 
following three quantities:
    (1) The value of the exposure less the value of the collateral. For 
eligible margin loans, repo-style transactions and netting sets 
thereof, the value of the exposure is the sum of the current fair 
values of all instruments, gold, and cash the System institution has 
lent, sold subject to repurchase, or posted as collateral to the 
counterparty under the transaction or netting set. For collateralized 
OTC derivative contracts and netting sets thereof, the value of the 
exposure is the exposure amount that is calculated under Sec.  628.34 
of the proposal. The value of the collateral would equal the sum of the 
current fair values of all instruments, gold and cash the System 
institution has borrowed, purchased subject to resale, or taken as 
collateral from the counterparty under the transaction or netting set;
    (2) The absolute value of the net position in a given instrument or 
in gold (where the net position in a given instrument or in gold equals 
the sum of the current fair values of the instrument or gold the System 
institution has lent, sold subject to repurchase, or posted as 
collateral to the counterparty minus the sum of the current fair values 
of that same instrument or gold that the System institution has 
borrowed, purchased subject to resale, or taken as collateral from the 
counterparty) multiplied by the market price volatility haircut 
appropriate to the instrument or gold; and
    (3) The absolute values of the net position of instruments and cash 
in a currency that is different from the settlement currency (where the 
net position in a given currency equals the sum of the current fair 
values of any instruments or cash in the currency the System 
institution has lent, sold subject to repurchase, or posted as 
collateral to the counterparty minus the sum of the current fair values 
of any instruments or cash in the currency the System institution has 
borrowed, purchased subject to resale, or taken as collateral from the 
counterparty) multiplied by the haircut appropriate to the currency 
mismatch.
    For purposes of the collateral haircut approach, a given instrument 
would include, for example, all securities with the same Committee on 
Uniform Securities Identification Procedures (CUSIP) number and would 
not include securities with different CUSIP numbers, even if issued by 
the same issuer with the same maturity date.
e. Standard Supervisory Haircuts
    Under this proposed rule, a System institution would apply a 
haircut for price market volatility and foreign exchange rates, 
determined using standard supervisory market price volatility haircuts 
and a standard haircut for exchange rates.
    The standard supervisory market price volatility haircuts would set 
a specified market price volatility haircut for various categories of 
financial collateral. These standard haircuts are based on the 10-
business-day holding period for eligible margin loans and derivative 
contracts. For repo-style transactions, a System institution would 
multiply the standard supervisory haircuts by the square root of \1/2\ 
to scale them for a holding period of 5 business days.
    The FCA proposes standard supervisory market price volatility 
haircuts in accordance with Table 8 below. These haircuts reflect the 
collateral's credit quality and an appropriate differentiation based on 
the collateral's residual maturity.
    A System institution would be required to use an 8-percent haircut 
for each currency mismatch for transactions subject to a 10-day holding 
period, as adjusted for different required holding periods.

                                           Table 8--Standard Supervisory Market Price Volatility Haircuts \1\
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                               Haircut (in percent) assigned based on:
                                                           ------------------------------------------------------------------------------   Investment-
                                                             Sovereign issuers risk weight under     Non-sovereign issuers risk weight         grade
                     Residual maturity                                Sec.   628.32 \2\                     under Sec.   628.32           securitization
                                                           ------------------------------------------------------------------------------  exposures (in
                                                                Zero       20 or 50       100           20           50          100         percent)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Less than or equal to 1 year..............................          0.5          1.0         15.0          1.0          2.0          4.0            4.0
Greater than 1 year and less than or equal to 5 years.....          2.0          3.0         15.0          4.0          6.0          8.0           12.0
Greater than 5 years......................................          4.0          6.0         15.0          8.0         12.0         16.0           24.0
--------------------------------------------------------------------------------------------------------------------------------------------------------
Main index equities (including convertible bonds) and gold.........................15.0..........
--------------------------------------------------------------------------------------------------------------------------------------------------------
Other publicly traded equities (including convertible bonds).......................25.0..........
--------------------------------------------------------------------------------------------------------------------------------------------------------
Mutual funds...................................................Highest haircut applicable to any security in
                                                                        which the fund can invest.
--------------------------------------------------------------------------------------------------------------------------------------------------------

[[Page 52846]]

 
Cash collateral held.................................................................0...........
--------------------------------------------------------------------------------------------------------------------------------------------------------
Other exposure types...............................................................25.0..........
--------------------------------------------------------------------------------------------------------------------------------------------------------
\1\ The market price volatility haircuts in Table 8 are based on a 10-business-day holding period.
\2\ Includes a foreign PSE that receives a 0-percent risk weight.

    The proposed rule would require that a System institution increase 
the standard supervisory haircut for transactions involving large 
netting sets. During the financial crisis, many financial institutions 
experienced significant delays in settling or closing out 
collateralized transactions, such as repo-style transactions and 
collateralized OTC derivatives. Accordingly, for netting sets where:
    (1) The number of trades exceeds 5,000 at any time during the 
quarter; \100\
---------------------------------------------------------------------------

    \100\ The 5,000-trade threshold applies to a netting set, which 
by definition means a group of transactions with a single 
counterparty that are subject to a qualifying master netting 
agreement.
---------------------------------------------------------------------------

    (2) One or more trades involves illiquid collateral posted by the 
counterparty; or
    (3) The netting set includes any OTC derivatives that cannot be 
easily replaced, this proposed rule would require a System institution 
to assume a holding period of 20 business days for the collateral under 
the collateral haircut approach. The formula and methodology for 
increasing the haircut to reflect this longer holding period is 
described in Sec.  628.37(c) of the proposed rule. A System institution 
is not required to adjust the holding period upward for cleared 
transactions. When determining whether collateral is illiquid or an OTC 
derivative cannot be easily replaced for these purposes, a System 
institution should assess whether, during a period of stressed market 
conditions, it could obtain multiple price quotes within 2 days or less 
for the collateral or OTC derivative that would not move the market or 
represent a market discount (in the case of collateral) or a premium 
(in the case of an OTC derivative.)
    In addition, the proposed rule would require a System institution 
to increase the holding period for a netting set if over the two 
previous quarters more than two margin disputes on a netting set have 
occurred that lasted longer than the holding period.
    Margin disputes may occur when the System institution and its 
counterparty do not agree on the value of collateral or on the 
eligibility of the collateral provided. Margin disputes also can occur 
when the System institution and its counterparty disagree on the amount 
of margin that is required, which could result from differences in the 
valuation of a transaction, or from errors in the calculation of the 
net exposure of a portfolio, for instance, if a transaction is 
incorrectly included or excluded from the portfolio.
    The determination as to whether a dispute constitutes a margin 
dispute for purposes of this rule would depend on whether resolution of 
the dispute occurs within the time period required under an agreement. 
Where a dispute is subject to a recognized industry dispute resolution 
protocol, the dispute period would be considered to begin after a 
third-party dispute resolution mechanism has failed.
    A System institution would not be required to adjust the holding 
period upward for cleared transactions.
f. Own Estimates of Haircuts
    Unlike the Federal banking regulatory agencies, the FCA does not 
propose to permit System institutions to calculate market price 
volatility and foreign exchange volatility using their own internal 
estimates. We believe, due to the complexity of developing and using 
these estimates, that no System institution is likely to use its own 
estimates of haircuts. We seek comment on whether we should adopt a 
regulation that would permit the use of an institution's own estimates. 
We note that even if we do not adopt such a provision, we would be able 
to permit a System institution to use its own estimates in the future 
on a case-by-case basis, using standards similar to those contained in 
the final rule of the Federal banking regulatory agencies.\101\
---------------------------------------------------------------------------

    \101\ The final rules of the Federal banking regulatory agencies 
permit a banking organization to use such haircuts only after 
satisfying specified minimum standards and receiving prior approval 
from its primary Federal supervisor.
---------------------------------------------------------------------------

G. Unsettled Transactions

    The FCA proposes to provide for a separate risk-based capital 
requirement for transactions involving securities, foreign exchange 
instruments, and commodities that have a risk of delayed settlement or 
delivery. The proposed capital requirement would not, however, apply to 
certain types of transactions, including:
    (1) Cleared transactions that are marked-to-market daily and 
subject to daily receipt and payment of variation margin;
    (2) Repo-style transactions, including unsettled repo-style 
transactions;
    (3) One-way cash payments on OTC derivative contracts; or
    (4) Transactions with a contractual settlement period that is 
longer than the normal settlement period (which the proposal defines as 
the lesser of the market standard for the particular instrument or 5 
business days).\102\
---------------------------------------------------------------------------

    \102\ Such transactions would be treated as derivative contracts 
as provided in Sec.  628.34 or Sec.  628.35 of the proposal.
---------------------------------------------------------------------------

    Under the proposal, in the case of a system-wide failure of a 
settlement, clearing system, or central counterparty, the FCA may waive 
risk-based capital requirements for unsettled and failed transactions 
until the situation is rectified.
    This rule proposes separate treatments for delivery-versus-payment 
(DvP) and payment-versus-payment (PvP) transactions with a normal 
settlement period, and non-DvP/non-PvP transactions with a normal 
settlement period. A DvP transaction would refer to a securities or 
commodities transaction in which the buyer is obligated to make payment 
only if the seller has made delivery of the securities or commodities 
and the seller is obligated to deliver the securities or commodities 
only if the buyer has made payment. A PvP transaction would mean a 
foreign exchange transaction in which each counterparty is obligated to 
make a final transfer of one or more currencies only if the other 
counterparty

[[Page 52847]]

has made a final transfer of one or more currencies.
    A System institution would be required to hold risk-based capital 
against a DvP or PvP transaction with a normal settlement period if the 
institution's counterparty has not made delivery or payment within 5 
business days after the settlement date. The System institution would 
determine its risk-weighted asset amount for such a transaction by 
multiplying the positive current exposure of the transaction for the 
institution by the appropriate risk weight in Table 9. The positive 
current exposure from an unsettled transaction of a System institution 
would be the difference between the transaction value at the agreed 
settlement price and the current market price of the transaction, if 
the difference results in a credit exposure of the institution to the 
counterparty.

  Table 9--Proposed Risk Weights for Unsettled DvP and PvP Transactions
------------------------------------------------------------------------
                                                       Risk weight to be
                                                           applied to
 Number of business days after contractual settlement   positive current
                         date                             exposure (in
                                                            percent)
------------------------------------------------------------------------
From 5 to 15.........................................              100.0
From 16 to 30........................................              625.0
From 31 to 45........................................              937.5
46 or more...........................................            1,250.0
------------------------------------------------------------------------

    A System institution would hold risk-based capital against any non-
DvP/non-PvP transaction with a normal settlement period if the 
institution delivered cash, securities, commodities, or currencies to 
its counterparty but has not received its corresponding deliverables by 
the end of the same business day. The System institution would continue 
to hold risk-based capital against the transaction until it has 
received the corresponding deliverables. From the business day after 
the System institution has made its delivery until 5 business days 
after the counterparty delivery is due, the institution would calculate 
the risk-weighted asset amount for the transaction by risk weighting 
the current fair value of the deliverables owed to the institution, 
using the risk weight appropriate for an exposure to the counterparty 
in accordance with Sec.  628.32. If a System institution has not 
received its deliverables by the 5th business day after the 
counterparty delivery due date, the institution would assign a 1,250-
percent risk weight to the current fair value of the deliverables owed.

H. Risk-Weighted Assets for Securitization Exposures

    Under the FCA's existing risk-based capital rules, a System 
institution may use external ratings issued by NRSROs to assign risk 
weights to certain recourse obligations, residual interests, direct 
credit substitutes, and asset-backed securities (ABS) and MBS. We 
propose to significantly revise the risk-based capital framework for 
securitization exposures. These proposed revisions include removing 
references to and reliance on credit ratings to determine risk weights 
for these exposures and using alternative standards of 
creditworthiness, as required by section 939A of the Dodd-Frank Act. In 
addition, we propose to update the terminology for the securitization 
framework, include a definition of a securitization exposure that 
encompasses a wider range of exposures with similar risk 
characteristics, and implement new due diligence requirements for 
securitization exposures.
1. Overview of the Securitization Framework and Definitions
    The proposed securitization framework is designed to address the 
credit risk of exposures that involve the tranching of the credit risk 
of one or more underlying financial exposures.\103\ The proposed rule 
would define a securitization exposure as an on- or off-balance sheet 
credit exposure (including credit-enhancing representations and 
warranties) that arises from a traditional or synthetic securitization 
(including a resecuritization), or an exposure that directly or 
indirectly references a securitization exposure.
---------------------------------------------------------------------------

    \103\ Only those MBS that involve tranching of credit risk would 
be securitization exposures. As discussed below, mortgage-backed 
pass-through securities (for example, those guaranteed by Freddie 
Mac or Fannie Mae) that feature various maturities but do not 
involve tranching of credit risk would not meet the proposed 
definition of a securitization exposure. These securities are risk 
weighted in accordance with the general risk-weighting provisions.
---------------------------------------------------------------------------

    A traditional securitization would be defined, in part, as a 
transaction in which credit risk of one or more underlying exposures 
has been transferred to one or more third parties (other than through 
the use of credit derivatives or guarantees), where the credit risk 
associated with the underlying exposures has been separated into at 
least two tranches reflecting different levels of seniority. The 
proposed definition includes certain other conditions, such as 
requiring all or substantially all of the underlying exposures to be 
financial exposures.
    Both the designation of exposures as securitization exposures (or 
resecuritization exposures, as described below) and the calculation of 
risk-based capital requirements for securitization exposures under the 
proposed rule are guided by the economic substance of a transaction 
rather than its legal form. Provided there is tranching of credit risk, 
securitization exposures could include, among other things, ABS and 
MBS, loans, lines of credit, liquidity facilities, financial standby 
letters of credit, credit derivatives and guarantees, loan servicing 
assets, servicer cash advance facilities, reserve accounts, credit-
enhancing representations and warranties, and credit-enhancing 
interest-only strips (CEIOs). Securitization exposures would also 
include assets sold with retained tranches.
    Requiring all or substantially all of the underlying exposures of a 
securitization to be financial exposures creates an important boundary 
between the general credit risk framework and the securitization 
framework. Examples of financial exposures include loans, commitments, 
credit derivatives, guarantees, receivables, asset-backed securities, 
MBS, other debt securities, or equity securities. Based on their cash 
flow characteristics, for purposes of this proposal, asset classes such 
as lease residuals and royalty income would also be considered 
financial assets.
    The securitization framework is designed to address the tranching 
of the credit risk of financial exposures and is not designed, for 
example, to apply to tranched credit exposures to commercial or 
industrial companies or nonfinancial assets or to amounts deducted from 
capital in Sec.  628.22 of the proposal. In other words, a loan backed 
by nonfinancial assets (such as facilities, objects, or commodities 
that are being financed), even if the credit exposure is tranched, 
would not be a securitization exposure.
    Under the proposal, an operating entity would not fall under the 
definition of a traditional securitization (even if substantially all 
of its assets are financial exposures). For purposes of the proposed 
definition of a traditional securitization, operating entities 
generally would refer to companies that are established to conduct 
business with clients with the intention of earning a profit in their 
own right and that generally produce goods or provide services beyond 
the business of investing, reinvesting, holding, or

[[Page 52848]]

trading in financial assets.\104\ Under the proposal, a System 
institution's equity investment in an operating entity generally would 
be an equity exposure.\105\ However, investment firms that generally do 
not produce goods or provide services beyond the business of investing, 
reinvesting, holding, or trading in financial assets, would not be 
operating entities for purposes of this proposal and would not qualify 
for this general exclusion from the definition of traditional 
securitization.
---------------------------------------------------------------------------

    \104\ Under this definition, all System banks, associations, and 
service corporations, and all UBEs, are operating entities and are 
not traditional securitizations.
    \105\ A System institution's equity investment in an operating 
entity that is another System institution (a System bank, 
association, or service corporation), however, would be deducted 
from capital pursuant to Sec.  628.22 rather than being risk 
weighted as an equity exposure.
---------------------------------------------------------------------------

    Paragraph (10) of the proposed definition of traditional 
securitization (in Sec.  628.2) would specifically exclude exposures to 
investment funds (as defined in the proposed rule), collective 
investment funds, and pension plans (both terms as defined in relevant 
regulations set forth in the proposed definition); and exposures that 
are registered with the SEC under the Investment Company Act of 1940 or 
foreign equivalents. These specific exemptions serve to narrow the 
potential scope of the securitization framework. These entities and 
transactions are exempted because they are regulated and subject to 
strict leverage requirements. The capital requirements for an extension 
of credit to, or an equity holding in, these entities and transactions 
are more appropriately calculated under the rules for corporate and 
equity exposures.
    To address the treatment of investment firms that are not 
specifically excluded from the securitization framework, the proposed 
rule provides discretion to the FCA to exclude from the definition of a 
traditional securitization those transactions in which the underlying 
exposures are owned by an investment firm that exercises substantially 
unfettered control over the size and composition of its assets, 
liabilities, and off-balance sheet exposures.
    In determining whether to exclude an investment firm from the 
securitization framework, the FCA would consider a number of factors, 
including the assessment of the transaction's leverage, risk profile, 
and economic substance. This supervisory exclusion would give the FCA 
discretion to distinguish structured finance transactions, to which the 
securitization framework was designed to apply, from those of flexible 
investment firms such as certain hedge funds and private equity funds.
    Only investment firms that can easily change the size and 
composition of their capital structure, as well as the size and 
composition of their assets and off-balance sheet exposures, would be 
eligible for the exclusion from the definition of traditional 
securitization under this provision. The FCA does not consider managed 
collateralized debt obligation vehicles, structured investment 
vehicles, and similar structures, which allow considerable management 
discretion regarding asset composition but are subject to substantial 
restrictions regarding capital structure, to have substantially 
unfettered control. Thus, such transactions would meet the definition 
of traditional securitization.
    The line between securitization exposures and non-securitization 
exposures may be difficult to draw in some circumstances. In addition 
to the supervisory exclusion from the definition of traditional 
securitization described above, the FCA may expand the scope of the 
securitization framework to include other transactions if doing so is 
justified by the economics of the transaction. Similar to the analysis 
for excluding an investment firm from treatment as a traditional 
securitization, the FCA would consider the economic substance, 
leverage, and risk profile of transactions to ensure the appropriate 
risk-based capital treatment. The FCA would consider a number of 
factors when assessing the economic substance of a transaction 
including, for example, the amount of equity in the structure, overall 
leverage (whether on- or off-balance sheet), whether redemption rights 
attach to the equity investor, and the ability of the junior tranches 
to absorb losses without interrupting contractual payments to more 
senior tranches.
    Under the proposal, a synthetic securitization would mean a 
transaction in which:
    (1) All or a portion of the credit risk of one or more underlying 
exposures is retained or transferred to one or more third parties 
through the use of one or more credit derivatives or guarantees (other 
than a guarantee that transfers only the credit risk of an individual 
retail exposure);
    (2) The credit risk associated with the underlying exposures has 
been separated into at least two tranches reflecting different levels 
of seniority;
    (3) Performance of the securitization exposures depends upon the 
performance of the underlying exposures; and
    (4) All or substantially all of the underlying exposures are 
financial exposures (such as loans, commitments, credit derivatives, 
guarantees, receivables, asset-backed securities, MBS, other debt 
securities, or equity securities).
    Mortgage-backed pass-through securities (for example, those 
guaranteed by Freddie Mac or Fannie Mae) that feature various 
maturities but do not involve tranching of credit risk would not meet 
the proposed definition of a securitization exposure. Only those MBS 
that involve tranching of credit risk would be securitization 
exposures.
    This proposed rule would define a resecuritization exposure as an 
on- or off-balance sheet exposure to a resecuritization; or an exposure 
that directly or indirectly references a resecuritization exposure. A 
resecuritization would mean a securitization which has more than one 
underlying exposure and in which one or more of the underlying 
exposures is a securitization exposure. A resecuritization would not 
include exposures comprised of a single asset that has been retranched, 
such as a resecuritization of a real estate mortgage investment conduit 
(Re-REMIC). A resecuritization also would not include pass-through 
securities that have been pooled together and effectively reissued as 
tranched securities, because the pass-through securities do not tranche 
credit protection and would therefore not be considered securitization 
exposures.
    In their rules, the Federal banking regulatory agencies excluded 
certain exposures to asset-backed commercial paper (ABCP) programs from 
the definition of resecuritization exposure. Their rules defined an 
ABCP program as a program established primarily for the purpose of 
issuing commercial paper that is investment grade and backed by 
underlying exposures held in a bankruptcy-remote special purpose 
entity. The System has access to the capital markets through the 
Funding Corporation; we believe it unlikely that a System institution 
would establish an ABCP program, because if the Funding Corporation's 
ability to issue debt ever was impeded, we believe the ability of an 
ABCP program to issue commercial paper would face the same 
difficulties. Accordingly, in the interest of simplifying our 
regulations where possible, we propose to make no reference to ABCP 
programs. We seek comment as to whether we should include provisions in 
our risk-based capital rules regarding ABCP programs that are 
comparable to those adopted by the Federal banking regulatory agencies.

[[Page 52849]]

2. Operational Requirements
a. Due Diligence Requirements
    The FCA, like the Federal banking regulatory agencies, notes that 
during the recent financial crisis, many banking organizations relied 
exclusively on NRSRO ratings and did not perform their own credit 
analysis of the securitization exposures.\106\ As the Federal banking 
regulatory agencies have required in their rules, we propose that 
System institutions satisfy specific due diligence requirements for 
securitization exposures. Specifically, a System institution would be 
required to demonstrate, to the FCA's satisfaction, a comprehensive 
understanding of the features of a securitization exposure that would 
materially affect the exposure's performance. The System institution's 
analysis would be required to be commensurate with the complexity of 
the exposure and the materiality of the exposure in relation to capital 
of the institution. On an on-going basis (no less frequently than 
quarterly), the System institution would be required to evaluate, 
review, and update as appropriate the analysis required under Sec.  
628.41(c)(1) of the proposed rule for each securitization exposure. The 
pre- and periodic post-acquisition analysis of the exposure's risk 
characteristics would have to consider:
---------------------------------------------------------------------------

    \106\ 78 FR 62017, 62114, Oct. 11, 2013.
---------------------------------------------------------------------------

    (1) Structural features of the securitization that would materially 
affect the performance of the exposure, for example, the contractual 
cash flow waterfall, waterfall-related triggers, credit enhancements, 
liquidity enhancements, fair value triggers, the performance of 
organizations that service the position, and deal-specific definitions 
of default;
    (2) Relevant information regarding the performance of the 
underlying credit exposure(s), for example, the percentage of loans 30, 
60, and 90 days past due; default rates; prepayment rates; loans in 
foreclosure; property types; occupancy; average credit score or other 
measures of creditworthiness; average LTV ratio; and industry and 
geographic diversification data on the underlying exposure(s);
    (3) Relevant market data on the securitization, for example, bid-
ask spread, most recent sales price and historical price volatility, 
trading volume, implied market rating, and size, depth and 
concentration level of the market for the securitization; and
    (4) For resecuritization exposures, performance information on the 
underlying securitization exposures, for example, the issuer name and 
credit quality, and the characteristics and performance of the 
exposures underlying the securitization exposures.
    If the System institution is not able to meet these due diligence 
requirements and demonstrate a comprehensive understanding of a 
securitization exposure to the FCA's satisfaction, the institution 
would be required to assign a risk weight of 1,250 percent to the 
exposure.
b. Operational Requirements for Traditional Securitizations
    In a traditional securitization, an originating banking 
organization typically transfers a portion of the credit risk of 
underlying exposures (such as loans) to third parties by selling those 
exposures to a third party (which could include, but is not limited to, 
a securitization special purpose entity).\107\ The proposed rule would 
define ``originating System institution,'' with respect to a 
securitization, as a System institution that directly or indirectly 
originated the underlying exposures included in a securitization.\108\
---------------------------------------------------------------------------

    \107\ The proposal would define a securitization SPE as a 
corporation, trust, or other entity organized for the specific 
purpose of holding underlying exposures of a securitization, the 
activities of which are limited to those appropriate to accomplish 
this purpose, and the structure of which is intended to isolate the 
underlying exposures held by the entity from the credit risk of the 
seller of the underlying exposures to the entity.
    \108\ Note that in the definition of originating System 
institution, ``originating'' refers to originating the underlying 
exposures (such as loans) that are included in a securitization, not 
to originating the securitization. We remind System institutions 
that nothing in these capital rules authorizes them to engage in 
activities that are not otherwise authorized.
---------------------------------------------------------------------------

    Under the proposed rule, a System institution that transfers 
exposures it has originated or purchased to a third party in connection 
with a traditional securitization can exclude the underlying exposures 
from the calculation of risk-weighted assets only if each of the 
following conditions are met: (1) The exposures are not reported on the 
System institution's consolidated balance sheet under GAAP; (2) the 
System institution has transferred to one or more third parties credit 
risk associated with the underlying exposures; and (3) any clean-up 
calls relating to the securitization are eligible clean-up calls (as 
discussed below).
    An originating System institution that meets these conditions must 
hold risk-based capital against any credit risk it retains or acquires 
in connection with the securitization. An originating System 
institution that fails to meet these conditions is required to hold 
risk-based capital against the transferred exposures as if they had not 
been securitized and must deduct from CET1 capital any after-tax gain-
on-sale resulting from the transaction.
    In addition, if a securitization: (1) Includes one or more 
underlying exposures in which the borrower is permitted to vary the 
drawn amount within an agreed limit under a line of credit; and (2) 
contains an early amortization provision, the originating System 
institution is required to hold risk-based capital against the 
transferred exposures as if they had not been securitized and deduct 
from CET1 capital any after-tax gain-on-sale resulting from the 
transaction.\109\ We believe that this treatment is appropriate given 
the lack of risk transference in securitizations of revolving 
underlying exposures with early amortization provisions.
---------------------------------------------------------------------------

    \109\ Many securitizations of revolving credit facilities 
contain provisions that require the securitization to be wound down 
and investors to be repaid if the excess spread falls below a 
certain threshold. This decrease in excess spread may, in some 
cases, be caused by deterioration in the credit quality of the 
underlying exposures. An early amortization event could increase a 
System institution's capital needs if new draws on the revolving 
credit facilities need to be financed by the System institution 
using on-balance sheet sources of funding. The payment allocations 
used to distribute principal and finance charge collections during 
the amortization phase of these transactions also could expose a 
System institution to a greater risk of loss than in other 
securitization transactions. The proposed rule would define an early 
amortization provision as a provision in a securitization's 
governing documentation that, when triggered, causes investors in 
the securitization exposures to be repaid before the original stated 
maturity of the securitization exposure, unless the provision: (1) 
Is solely triggered by events not related to the performance of the 
underlying exposures or the originating System institution (such as 
material changes in tax laws or regulations); or (2) leaves 
investors fully exposed to future draws by borrowers on the 
underlying exposures even after the provision is triggered.
---------------------------------------------------------------------------

c. Operational Requirements for Synthetic Securitizations
    System institutions are authorized to use synthetic securitizations 
as risk management tools to reduce their overall credit risk exposure 
relating to certain referenced loan pools. The use of synthetic 
securitizations enables System institutions to increase their risk-
based capital ratios without moving assets off their balance sheets.
    For synthetic securitizations, an originating System institution 
would recognize for risk-based capital purposes the use of a credit 
risk mitigant to hedge underlying exposures only if each of the 
conditions in the proposed definition of ``synthetic securitization'' 
is satisfied.
    Failure to meet these operational requirements for a synthetic 
securitization would prevent a System institution that has purchased 
tranched

[[Page 52850]]

credit protection referencing one or more of its exposures from using 
the proposed securitization framework with respect to the reference 
exposures and would require the institution to hold risk-based capital 
against the underlying exposures as if they had not been synthetically 
securitized.
    A System institution that holds a synthetic securitization as a 
result of purchasing credit protection may use the securitization 
framework to determine the risk-based capital for its exposure. 
Alternatively, it may instead choose to disregard the credit protection 
and use the general risk weights under Sec.  628.32.
    A System institution that provides tranched credit protection in 
the form of a synthetic securitization or credit protection to a 
synthetic securitization must use the securitization framework to 
compute risk-based capital requirements for its exposures to the 
synthetic securitization even if the originating System institution 
fails to meet one or more of the operational requirements for a 
synthetic securitization.
d. Clean-Up Calls
    To satisfy the operational requirements for securitizations and 
enable an originating System institution to exclude the underlying 
exposures from the calculation of its risk-based capital requirements, 
any clean-up call associated with a securitization would need to be an 
eligible clean-up call. The proposal would define a clean-up call as a 
contractual provision that permits an originating System institution or 
servicer to call securitization exposures before their stated maturity 
or call date. In the case of a traditional securitization, a clean-up 
call generally is accomplished by repurchasing the remaining 
securitization exposures once the amount of underlying exposures or 
outstanding securitization exposures falls below a specified level. In 
the case of a synthetic securitization, the clean-up call may take the 
form of a clause that extinguishes the credit protection once the 
amount of underlying exposures has fallen below a specified level.
    Under the proposal, an eligible clean-up call would be a clean-up 
call that:
    (1) Is exercisable solely at the discretion of the originating 
System institution or servicer;
    (2) Is not structured to avoid allocating losses to securitization 
exposures held by investors or otherwise structured to provide credit 
enhancement to the securitization (for example, to purchase non-
performing underlying exposures); and
    (3) For a traditional securitization, is only exercisable when 10 
percent or less of the principal amount of the underlying exposures or 
securitization exposures (determined as of the inception of the 
securitization) is outstanding; or, for a synthetic securitization, is 
only exercisable when 10 percent or less of the principal amount of the 
reference portfolio of underlying exposures (determined as of the 
inception of the securitization) is outstanding.
    Where a securitization SPE is structured as a master trust, a 
clean-up call with respect to a particular series or tranche issued by 
the master trust would meet criterion (3) of the definition of 
``eligible clean-up call'' as long as the outstanding principal amount 
in that series was 10 percent or less of its original amount at the 
inception of the series.
3. Risk-Weighted Asset Amounts for Securitization Exposures
    Under the proposed securitization framework, a System institution 
generally would calculate a risk-weighted asset amount for a 
securitization exposure by applying either: (1) The simplified 
supervisory formula approach (SSFA), described elsewhere in this 
preamble; or (2) a gross-up approach. A System institution would be 
required to apply either the gross-up approach or the SSFA consistently 
across all of its securitization exposures. However, a System 
institution could choose to apply a 1,250-percent risk weight to any 
securitization exposure. While the FCA does not propose to restrict the 
ability of System institutions to switch from the SSFA to the gross-up 
approach, we do not anticipate there should be a need for frequent 
changes in methodology by an institution absent significant change in 
the nature of its securitization activities, and we would expect 
institutions would be able to provide the FCA's Office of Examination, 
upon request, with their rationale for changing methodologies.
    The SSFA may be somewhat complex for some System institutions to 
use, although it might also result in lower risk-weighting 
requirements. The gross-up approach may involve less operational 
burden, but it may also result in higher risk-weighting 
requirements.\110\
---------------------------------------------------------------------------

    \110\ Requirements under either approach would likely be lower 
than the 1,250-percent risk weight.
---------------------------------------------------------------------------

    The proposal provides for alternative treatment of securitization 
exposures to certain gains-on-sale and CEIO exposures. Specifically, 
the proposed rule would include a minimum 100-percent risk weight for 
interest-only MBS and exceptions to the securitization framework for 
certain small business loans and certain derivatives as described 
below. A System institution could use the securitization credit risk 
mitigation rules to adjust the capital requirement under the 
securitization framework for an exposure to reflect certain collateral, 
credit derivatives, and guarantees, as described in more detail below.
a. Exposure Amount of a Securitization Exposure
    Under this proposal, the exposure amount of an on-balance sheet 
securitization exposure that is not a repo-style transaction, eligible 
margin loan, OTC derivative contract or derivative that is a cleared 
transaction would generally be the System institution's carrying value 
of the exposure. The exposure amount of an on-balance sheet 
securitization exposure that is an available-for-sale debt security or 
an available-for-sale debt security transferred to held-to-maturity 
would be the System institution's carrying value (including net accrued 
but unpaid interest and fees), less any net unrealized gains on the 
exposure and plus any net unrealized losses on the exposure.
    The exposure amount of an off-balance sheet securitization exposure 
that is not a repo-style transaction, an eligible margin loan, an OTC 
derivative contract (other than a credit derivative), or a derivative 
that is a cleared transaction (other than a credit derivative) would be 
the notional amount of the exposure. The proposed treatment for OTC 
credit derivatives is described in more detail below.\111\
---------------------------------------------------------------------------

    \111\ The rules of the Federal banking regulatory agencies 
address how to calculate the exposure amount of an off-balance sheet 
exposure to an ABCP securitization exposure. As discussed above, we 
do not propose any provisions relating to ABCPs.
---------------------------------------------------------------------------

    Under the proposed rule, the exposure amount of a securitization 
exposure that is a repo-style transaction, eligible margin loan, an OTC 
derivative contract (other than a purchased credit derivative), or 
derivative that is a cleared transaction (other than a purchased credit 
derivative) would be the exposure amount of the transaction as 
calculated in Sec.  628.34 or Sec.  628.37, as applicable.
b. Gains-On-Sale and Credit-Enhancing Interest-Only Strips
    Under this proposed rule, a System institution would deduct from 
CET1 capital any after-tax gain-on-sale

[[Page 52851]]

resulting from a securitization and would apply a 1,250-percent risk 
weight to the portion of a CEIO that does not constitute an after-tax 
gain-on-sale.
c. Exceptions Under the Securitization Framework
    We propose several exceptions to the general provisions in the 
securitization framework. First, a System institution would be required 
to assign a risk weight of at least 100 percent to an interest-only 
MBS. The FCA believes that a minimum risk weight of 100 percent is 
prudent in light of the uncertainty implied by the substantial price 
volatility of these securities. Second, as in the capital regulations 
of the Federal banking regulatory agencies, a special set of rules 
would apply to securitizations of small business loans and leases on 
personal property transferred with retained contractual exposure by 
System institutions. Finally, if a securitization exposure is an OTC 
derivative contract or derivative contract that is a cleared 
transaction (other than a credit derivative) that has a first priority 
claim on the cash flows from the underlying exposures (notwithstanding 
amounts due under interest rate or currency derivative contracts, fees 
due, or other similar payments), a System institution may choose to set 
the risk-weighted asset amount of the exposure equal to the amount of 
the exposure.
d. Overlapping Exposures
    This proposed rule includes provisions to limit the double counting 
of risks in situations involving overlapping securitization exposures. 
If a System institution has multiple securitization exposures that 
provide duplicative coverage to the underlying exposures of a 
securitization the institution would not be required to hold 
duplicative risk-based capital against the overlapping position. 
Instead, the System institution would apply to the overlapping position 
the applicable risk-based capital treatment under the securitization 
framework that results in the highest risk-based capital requirement.
e. Servicer Cash Advances
    A traditional securitization typically employs a servicing banking 
organization (which could be a System institution) that, on a day-to-
day basis, collects principal, interest, and other payments from the 
underlying exposures of the securitization and forwards such payments 
to the securitization SPE or to investors in the securitization. 
Servicing banking organizations often provide a facility to the 
securitization under which the servicing banking organization may 
advance cash to ensure an uninterrupted flow of payments to investors 
in the securitization, including advances made to cover foreclosure 
costs or other expenses to facilitate the timely collection of the 
underlying exposures. These servicer cash advance facilities are 
securitization exposures.
    Under the proposed rule, a System institution would either apply 
the SSFA or the gross-up approach, as described below, or a 1,250-
percent risk weight to a servicer cash advance facility exposure. The 
treatment of the undrawn portion of the facility would depend on 
whether the facility is an eligible servicer cash advance facility. An 
eligible servicer cash advance facility would be defined as a servicer 
cash advance facility in which:
    (1) The servicer is entitled to full reimbursement of advances, 
except that a servicer may be obligated to make non-reimbursable 
advances for a particular underlying exposure if any such advance is 
contractually limited to an insignificant amount of the outstanding 
principal balance of that exposure;
    (2) The servicer's right to reimbursement is senior in right of 
payment to all other claims on the cash flows from the underlying 
exposures of the securitization; and
    (3) The servicer has no legal obligation to, and does not make, 
advances to the securitization if the servicer concludes the advances 
are unlikely to be repaid.
    Under the proposal, a System institution that is a servicer under 
an eligible servicer cash advance facility would not be required to 
hold risk-based capital against potential future cash advanced payments 
that it may be required to provide under the contract governing the 
facility. A System institution that is a servicer under a non-eligible 
servicer cash advance facility would be required to hold risk-based 
capital against the amount of all potential future cash advance 
payments that it may be contractually required to provide during the 
subsequent 12-month period under the contract governing the facility.
f. Implicit Support
    This proposed rule would require a System institution that provides 
support to a securitization in excess of its predetermined contractual 
obligation (implicit support) to include in risk-weighted assets all of 
the underlying exposures associated with the securitization as if the 
exposures had not been securitized, and deduct from CET1 any after-tax 
gain-on-sale resulting from the securitization. In addition, the System 
institution would have to disclose publicly (i) that it has provided 
implicit support to the securitization, and (ii) the risk-based capital 
impact to the institution of providing such implicit support. Under the 
proposed reservations of authority, the FCA also could require the 
System institution to hold risk-based capital against all the 
underlying exposures associated with some or all the institution's 
other securitizations as if the exposures had not been securitized, and 
to deduct from CET1 any after-tax gain-on-sale resulting from such 
securitizations.
4. Simplified Supervisory Formula Approach
    This rule proposes a SSFA as one option for assigning risk weights 
to securitization exposures.\112\ The proposed SSFA starts with a 
baseline derived from the capital requirements that apply to all 
exposures underlying a securitization and then assigns risk weights 
based on the subordination level of an exposure. The proposed SSFA 
would apply relatively higher capital requirements to the more risky 
junior tranches of a securitization that are the first to absorb 
losses, and relatively lower requirements to the most senior exposures.
---------------------------------------------------------------------------

    \112\ As discussed above, we propose a gross-up approach as 
another option for assigning risk weights to securitization 
exposures.
---------------------------------------------------------------------------

    The SSFA methodology would apply a 1,250-percent risk weight to 
securitization exposures that absorb losses up to the amount of capital 
that would be required for the underlying exposures if those exposures 
were held directly by a System institution. In addition, the FCA is 
proposing a supervisory risk-weight floor, or minimum risk weight, of 
20 percent for each securitization exposure. This floor is prudent 
given the performance of many securitization structures during the 
recent crisis.
    At the inception of a securitization, the SSFA would require more 
capital on a transaction-wide basis than would be required if the 
underlying assets had not been securitized. That is, if the System 
institution held every tranche of a securitization, its overall capital 
charge would be greater than if the institution held the underlying 
assets in portfolio. This overall outcome is important in reducing the 
likelihood of regulatory capital arbitrage through securitizations.
    Data used by a System institution to determine SSFA parameters 
would have to be the most currently available data. For exposures that 
feature payments on

[[Page 52852]]

a monthly or quarterly basis, the data would have to be no more than 91 
calendar days old.
    To use the SSFA, a System institution would have to obtain or 
determine the weighted-average risk weight of the underlying exposures 
(KG), as well as the attachment and detachment points for 
the System institution's position within the securitization structure. 
``KG'' would be calculated using the risk-weighted asset 
amounts and would be expressed as a decimal value between 0 and 1 (that 
is, an average risk weight of 100 percent would mean that KG 
would equal 0.08). The System institution could recognize the relative 
seniority of the exposure, as well as all cash funded enhancements, in 
determining attachment and detachment points. In addition, a System 
institution would have to determine the credit performance of the 
underlying exposures.
    To make the SSFA more risk sensitive and forward-looking, the 
parameter KG would be modified based on delinquencies among 
the underlying assets of the securitization. The resulting adjusted 
parameter is labeled KA. KA is set equal to the weighted average of the 
KG value and a fixed parameter equal to 0.5.

    Under the proposal, the W parameter would equal the ratio of the 
sum of the dollar amounts of any underlying exposures of the 
securitization that are 90 days or more past due, subject to a 
bankruptcy or insolvency proceeding, in the process of foreclosure, 
held as real estate owned, in default, or have contractually deferred 
interest for 90 days or more divided by the ending balance, measured in 
dollars, of the underlying exposures.
    The numerator of parameter W explicitly excludes loans with 
deferral of principal or interest for: (1) Federally guaranteed student 
loans, in accordance with the terms of those programs; or (2) consumer 
loans, including non-federally guaranteed student loans, provided that 
such payments are deferred pursuant to provisions included in the 
contract at the time funds are disbursed that provide for period(s) of 
deferral that are not initiated based on changes in the 
creditworthiness of the borrower. Moreover, the calculation of 
parameter W includes all underlying exposures of a securitization 
transaction.
    The entire specification of the SSFA in the proposed rule is as 
follows:
[GRAPHIC] [TIFF OMITTED] TP04SE14.005


    KSSFA is the risk-based capital requirement for the securitization 
exposure and is a function of three variables, labeled a, u, and 1. The 
constant e is the base of the natural logarithms (which is 
approximately equal to 2.71828). The variables a, u, and 1, and have 
the following definitions:
[GRAPHIC] [TIFF OMITTED] TP04SE14.006


    The values of A and D denote the attachment and detachment points, 
respectively, for the tranche. Specifically, A is the attachment point 
for the tranche that contains the securitization exposure and 
represents the threshold at which credit losses will first be allocated 
to the exposure. This input is the ratio, as expressed as a decimal 
value between 0 and 1, of the dollar amount of the securitization 
exposures that are subordinated to the tranche that contains the 
securitization exposure held by the System institution to the current 
dollar amount of all underlying exposures.
    Parameter D is the detachment point for the tranche that contains 
the securitization exposure and represents the threshold at which 
credit losses of principal allocated to the securitization exposure 
would result in a total loss of principal. This input, which is a 
decimal value between 0 and 1, equals the value of A plus the ratio of 
the dollar amount of the exposures that are pari passu with the System 
institution's securitization exposure (that is, have equal seniority 
with respect to credit risk) to the current dollar amount of all 
underlying exposures. The SSFA specification is completed by the 
constant term p, which is set equal to 0.5 for securitization exposures 
that are not resecuritizations, or 1.5 for resecuritization exposures, 
and the variable KA, which is described above.
    When parameter D for a securitization exposure is less than or 
equal to KA, the exposure must be assigned a risk weight of 1,250 
percent. When parameter A for a securitization exposure is greater than 
or equal to KA, the risk weight of the exposure, expressed as a 
percent, would equal KSSFA times 1,250. When parameter A is less than 
KA and D is greater than KA, the applicable risk weight is a 
weighted average of 1,250 percent and 1,250 percent times KSSFA. The 
risk weight would be determined according to the following formula:
[GRAPHIC] [TIFF OMITTED] TP04SE14.007

    For resecuritizations, System institutions must use the SSFA to 
measure the underlying securitization exposure's contribution to KG. 
For example, consider a hypothetical securitization tranche that has an 
attachment point at 0.06 and a detachment point at 0.07. Then assume 
that 90 percent of the underlying pool of assets of the 
resecuritization were mortgage loans that qualified for a 50-percent 
risk weight and that the remaining 10 percent of the pool was a tranche 
of a separate securitization (where the underlying 7 exposures 
consisted of mortgages that also qualified for a 50-percent weight). An 
exposure to this hypothetical tranche would meet the definition of a 
resecuritization exposure. Next, assume that the attachment point A of 
the securitization that is the 10-percent share of the resecuritization 
is 0.06 and the detachment point D is 0.08. Finally, assume that none 
of the underlying mortgage exposures of either the hypothetical tranche 
or the underlying securitization exposure meet the proposed definition 
of ``delinquent.''
    The value of KG for the resecuritization exposure would equal the 
weighted average of the two distinct KG values. For the mortgages that 
qualify for the 50-percent risk weight and represent 90 percent of the 
resecuritization, KG equals 0.04 (that is, 50 percent of the 8-percent 
risk-based capital standard).

[[Page 52853]]

[GRAPHIC] [TIFF OMITTED] TP04SE14.008

    To calculate the value of KG, securitization a System institution 
would use the attachment and detachment points of 0.06 and 0.08, 
respectively. Applying those input parameters to the SSFA (together 
with p = 0.5 and KG = 0.04) results in a KG, securitization equal to 
0.2325.
    Substituting this value into the equation yields:
    [GRAPHIC] [TIFF OMITTED] TP04SE14.009
    
    This value of 0.05925 for KG, resecuritization, would then be used 
in the calculation of the risk-based capital requirement for the 
tranche of the resecuritization (where A = 0.06, B = 0.07, p = 1.5). 
The result is a risk-weight of 1,172 percent for the tranche that runs 
from 0.06 to 0.07. Given that the attachment point is very close to the 
value of KG, resecuritization, the capital charge is nearly equal to 
the maximum risk weight of 1,250 percent.
    To apply the securitization framework to a single tranched exposure 
that has been re-tranched, such as some Re-REMICs, a System institution 
must apply the SSFA or gross-up approach to the retranched exposure as 
if it were still part of the structure of the original securitization 
transaction. Therefore, a System institution implementing the SSFA or 
the gross-up approach would calculate parameters for those approaches 
that would treat the retranched exposure as if it were still embedded 
in the original structure of the transaction while still recognizing 
any added credit enhancement provided by retranching. For example, 
under the SSFA a System institution would calculate the approach using 
hypothetical attachment and detachment points that reflect the 
seniority of the retranched exposure within the original deal 
structure, as well as any additional credit enhancement provided by 
retranching of the exposure. Parameters that depend on pool-level 
characteristics, such as the W parameter under the SSFA, would be 
calculated based on the characteristics of the total underlying 
exposures of the initial securitization transaction, not just the 
retranched exposure.
5. Gross-up Approach
    As an alternative to the SSFA, System institutions may assign risk-
weighted asset amounts to securitization exposures by implementing the 
gross-up approach described in Sec.  628.43 of the proposal. If a 
System institution chooses to apply the gross-up approach, it would be 
required to apply this approach to all of its securitization exposures, 
except as otherwise provided for certain securitization exposures under 
Sec. Sec.  628.44 and 628.45 of the proposal.
    The gross-up approach assigns risk-weighted asset amounts based on 
the full amount of the credit-enhanced assets for which the System 
institution directly or indirectly assumes credit risk. To calculate 
risk-weighted assets under the gross-up approach, a System institution 
would determine four inputs: the pro rata share A, the exposure amount 
C, the enhanced amount B, and the applicable risk weight RW. The pro 
rata share A is the par value of the System institution's exposure X as 
a percentage of the par value of the tranche Y in which the 
securitization exposure resides A = \x/y\. The enhanced amount B is the 
value of all the tranches that are more senior to the tranche in which 
the exposure resides. The applicable risk weight RW is the weighted-
average risk weight of the underlying exposures in the securitization 
(for example, 100 percent for a corporate exposure).
    Under the gross-up approach, a System institution would be required 
to calculate the credit equivalent amount CEA, which equals the sum of 
(1) the exposure of the System institution's securitization exposure 
and (2) the pro rata share multiplied by the enhanced amount CEA = C + 
(A x B). To calculate risk-weighted assets RWA for a securitization 
exposure under the gross-up approach, a System institution would be 
required to assign the applicable risk weight to the gross-up credit 
equivalent amount RWA = RW x CEA. As noted above, in all cases, the 
minimum risk weight for securitization exposures would be 20 percent.
6. Alternative Treatments for Certain Types of Securitization Exposures
    Under the proposed rule, a System institution generally would 
assign a 1,250-percent risk weight to all securitization exposures to 
which the institution does not apply the SSFA or the gross-up approach. 
However, the proposed rule provides alternative treatments for certain 
types of securitization exposures described below, provided that the 
System institution knows the composition of the underlying exposures at 
all times.
7. Credit Risk Mitigation for Securitization Exposures
    Under the proposed rule, the treatment of credit risk mitigation 
for securitization exposures would differ slightly from the treatment 
for other exposures. To recognize the risk-mitigating effects of 
financial collateral or an eligible guarantee or an eligible credit 
derivative from an eligible guarantor, a System institution that 
purchased credit protection would use the approaches for collateralized 
transactions under Sec.  628.37 of the proposed rule or the 
substitution treatment for guarantees and credit derivatives described 
in Sec.  628.36 of the proposed rule.
    In cases of maturity or currency mismatches, or, if applicable, 
lack of a restructuring event trigger, the institution would have to 
make any applicable adjustments to the protection amount of an eligible 
guarantee or credit derivative as required by Sec.  628.36 for any 
hedged securitization exposure. In addition, for synthetic 
securitizations, when an eligible guarantee or eligible credit 
derivative covers multiple hedged exposures that have different 
residual maturities, the System institution would have to use the 
longest residual maturity of any of the hedged exposures as the 
residual maturity of all the hedged exposures. A System institution 
would not be required to compute a counterparty credit risk capital 
requirement for the credit derivative provided that this treatment is 
applied consistently for all of its OTC credit derivatives.
    A System institution that purchases an OTC credit derivative (other 
than an nth-to-default credit derivative) that is recognized as a 
credit risk mitigant for a securitization exposure would not be 
required to compute a separate counterparty credit risk capital 
requirement provided that the institution makes this choice 
consistently for all such credit derivatives. The System institution 
would have to either include all or

[[Page 52854]]

exclude all such credit derivatives that are subject to a qualifying 
master netting agreement from any measure used to determine 
counterparty credit risk exposure to all relevant counterparties for 
risk-based capital purposes.
    If a System institution could not, or chose not to, recognize a 
credit derivative that is a securitization exposure as a credit risk 
mitigant, the institution would have to determine the exposure amount 
of the credit derivative under the treatment for OTC derivatives in 
Sec.  628.34. If the System institution purchased the credit protection 
from a counterparty that is a securitization, the institution would 
have to determine the risk weight for counterparty credit risk 
according to the securitization framework. If the System institution 
purchased credit protection from a counterparty that is not a 
securitization, the institution would have to determine the risk weight 
for counterparty credit risk according to general risk weights under 
Sec.  628.32. A System institution that believes it is authorized to 
and wishes to provide protection in the form of a guarantee or credit 
derivative (other than an nth-to-default credit derivative) that covers 
the full amount or a pro rata share of a securitization exposure's 
principal and interest should seek guidance from the FCA on risk 
weighting and other issues. We do not propose the capital treatment 
adopted by the Federal banking regulatory agencies, because we would 
want the opportunity to fully consider any contemplated transaction 
before assigning a risk weighting.
8. Nth-to-Default Credit Derivatives
    A System institution that believes it is authorized to and wishes 
to provide credit protection through an nth-to-default credit 
derivative or second-or-subsequent-to default credit derivative should 
seek guidance from the FCA on risk weighting and other issues. As with 
the capital treatment for providing credit protection discussed above, 
we do not propose the capital treatment adopted by the Federal banking 
regulatory agencies for these derivatives, because we would want the 
opportunity to fully consider any contemplated transaction before 
assigning a risk weighting.
    A System institution could obtain credit protection on a group of 
underlying exposures through a first-to-default credit derivative. 
Provided the rules of recognition for guarantees and credit derivatives 
under Sec.  628.36(b) were met, the System institution would determine 
its risk-based capital requirement for the underlying exposures as if 
the institution synthetically securitized the underlying exposure with 
the smallest risk-weighted asset amount and had obtained no credit risk 
mitigant on the other underlying exposures. A System institution would 
calculate a risk-based capital requirement for counterparty credit risk 
according to Sec.  628.34 for a first-to-default credit derivative that 
does not meet the rules of recognition of Sec.  628.36(b).
    A System institution could obtain credit protection on a group of 
underlying exposures through a nth-to-default credit derivative. 
Provided the rules of recognition of Sec.  628.36(b) (other than a 
first-to-default credit derivative) were met, the System institution 
could recognize the credit risk mitigation benefits of the derivative 
only if the institution also had obtained credit protection on the same 
underlying exposures in the form of first-through-(n-1)-to-default 
credit derivatives; or if n-1 of the underlying exposures had already 
defaulted. If a System institution satisfied these requirements, the 
institution would determine its risk-based capital requirement for the 
underlying exposures as if the institution had only synthetically 
securitized the underlying exposure with the nth smallest risk-weighted 
asset amount and had obtained no credit risk mitigant on the other 
underlying exposures. For a nth-to-default credit derivative that did 
not meet the rules of recognition of Sec.  628.36(b), a System 
institution would calculate a risk-based capital requirement for 
counterparty credit risk according to the treatment of OTC derivatives 
under Sec.  628.34.

I. Equity Exposures

    As discussed above, all equities (including preferred stock) issued 
by other System institutions would be deducted from capital under Sec.  
628.22. Accordingly, we do not propose a risk weighting for these 
equity exposures. These intra-System equity exposures would include an 
association's investment in its System bank, a System bank's purchase 
of nonvoting stock or participation certificates of an affiliated 
association pursuant to Sec.  615.5171, and the purchase of a System 
institution's preferred stock by a System bank, association, or service 
corporation pursuant to Sec.  615.5175.
    Generally, System institutions have limited non-System equity 
exposures. A System institution could, however, acquire limited non-
System equity exposures in several ways, including by investing in 
rural business investment companies (RBICs), by making other equity 
investments that the FCA approves,\113\ and by foreclosing on equity 
exposures previously pledged as collateral.
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    \113\ System institutions have no authority to make non-System 
equity investments, other than in RBICs, unless they receive the 
FCA's approval under Sec.  615.5140(e). Authority for System 
institutions to invest in RBICs is governed by 7 U.S.C. 2009cc et 
seq.; these investments do not require the FCA's approval. However, 
as with any UBE investment, the FCA's approval is required for a 
System institution to invest in a UBE organized for investing in an 
RBIC.
---------------------------------------------------------------------------

    This proposal would significantly revise our existing risk-based 
capital rules' treatment for non-System equity exposures. In 
particular, the proposed rule would require a System institution to 
apply the Simple Risk-Weight Approach (SRWA) for equity exposures that 
are not exposures to an investment fund and apply certain look-through 
approaches to assign risk-weighted asset amounts to equity exposures to 
an investment fund. These approaches are discussed in detail below.
1. Definition of Equity Exposure and Exposure Measurement
    Under the proposed rule, a System institution would be required to 
determine the adjusted carrying value for each non-System equity 
exposure based on the approaches described below:
    (1) For an equity exposure classified as HTM \114\ the adjusted 
carrying value would be a System institution's carrying value of the 
exposure;
---------------------------------------------------------------------------

    \114\ As noted above, although System banks often classify their 
securities as AFS, associations usually classify their securities; 
to the extent, they hold any, as HTM.
---------------------------------------------------------------------------

    (2) For an equity exposure classified as AFS, the adjusted carrying 
value of the exposure would be the System institution's carrying value 
of the exposure less any net unrealized gains on the exposure that are 
reflected in the carrying value but excluded from the System 
institution's regulatory capital components;
    (3) For a commitment to acquire an equity exposure that is 
unconditional, the adjusted carrying value would be the effective 
notional principal amount of the exposure multiplied by a 100-percent 
conversion factor;
    (4) For a commitment to acquire an equity exposure that is 
conditional, the adjusted carrying value would be the effective 
notional principal amount of the commitment multiplied by a conversion 
factor. For a commitment with an original maturity of 14 months or 
less, the conversion factor would be 20 percent, and for a commitment 
with an original maturity greater than 14 months, the conversion factor 
would be 50 percent; and

[[Page 52855]]

    (5) For the off-balance sheet component of an equity exposure that 
is not an equity commitment, the adjusted carrying value would be the 
effective notional principal amount of the exposure. The size of the 
exposure would be equivalent to a hypothetical on-balance sheet 
position in the underlying equity instrument that would evidence the 
same change in fair value (measured in dollars) for a given small 
change in the price of the underlying equity instrument, minus the 
adjusted carrying value of the on-balance sheet component of the 
exposure.
    The concept of the effective notional principal amount of the off-
balance sheet portion of an equity exposure is included to provide a 
uniform method for System institutions to measure the on-balance sheet 
equivalent of an off-balance sheet exposure. For example, if the value 
of a derivative contract referencing the common stock of company X 
changes the same amount as the value of 150 shares of common stock of 
company X, for a small change (for example, 1.0 percent) in the value 
of the common stock of company X, the effective notional principal 
amount of the derivative contract is the current value of 150 shares of 
common stock of company X, regardless of the number of shares the 
derivative contract references. The adjusted carrying value of the off-
balance sheet component of the derivative is the current value of 150 
shares of common stock of company X minus the adjusted carrying value 
of any on-balance sheet amount associated with the derivative.
2. Equity Exposure Risk Weights
    Under the proposed SRWA for equity exposures, a System institution 
would determine the risk-weighted asset amount for an equity exposure, 
other than an equity exposure to an investment fund, under Sec.  628.52 
of the proposed rule. A System institution would calculate risk-
weighted asset amounts under Sec.  628.52 by multiplying the adjusted 
carrying value of the equity exposure, or the effective and ineffective 
portions of a hedge pair as described below, by the lowest applicable 
risk weight in Sec.  628.52. A System institution would determine the 
risk-weighted asset amount for an equity exposure to an investment fund 
under Sec.  628.53 of the proposal. A System institution would sum 
risk-weighted asset amounts for all of its equity exposures to 
calculate its aggregate risk-weighted asset amount for its equity 
exposures.
    The proposed SRWA risk weights are summarized below in Table 10.

              Table 10--Simple Risk-Weight Approach (SRWA)
------------------------------------------------------------------------
     Risk Weight (in percent)                  Equity exposure
------------------------------------------------------------------------
0.................................  An equity exposure to a sovereign,
                                     the Bank for International
                                     Settlements, the European Central
                                     Bank, the European Commission, the
                                     International Monetary Fund, an
                                     MDB, and any other entity whose
                                     credit exposures receive a 0-
                                     percent risk weight under Sec.
                                     628.32 of the proposal.
20................................  An equity exposure to a PSE or the
                                     Federal Agricultural Mortgage
                                     Corporation (Farmer Mac).
100...............................   An equity exposure that the
                                     FCA has authorized pursuant to Sec.
                                       615.5140(e) for a purpose other
                                     than those specified in Sec.
                                     615.5132(a) (for System banks) or
                                     Sec.   615.5142 (for associations),
                                     unless the exposure is assigned a
                                     different risk weight under this
                                     section.
                                     The effective portion of a
                                     hedged pair.
                                     Non-significant equity
                                     exposures, to the extent that the
                                     aggregate adjusted carrying value
                                     of the exposures does not exceed 10
                                     percent of total capital (tier 1
                                     capital plus tier 2 capital).
600...............................  An equity exposure to an investment
                                     firm that (i) would meet the
                                     definition of a traditional
                                     securitization were it not for the
                                     FCA's application of paragraph (8)
                                     of that definition (in Sec.
                                     628.2) and (ii) has greater than
                                     immaterial leverage.
------------------------------------------------------------------------

3. 100-Percent Risk Weight
    Under this proposed rule, a System institution would apply a 100-
percent risk weight to the following equity exposures:
     An equity exposure that the FCA has authorized pursuant to 
Sec.  615.5140(e) for a purpose other than those specified in Sec.  
615.5132(a) (for System banks) or Sec.  615.5142 (for associations), 
unless the equity exposure is assigned a different risk weight under 
this section.
     The effective portion of a hedge pair; and
     Non-significant equity exposures.
    Hedged transactions are discussed later in this preamble; the other 
two equity exposures are discussed in this section.
    Section Sec.  615.5132(a) of the FCA's regulations authorizes 
System banks to invest in eligible securities (equity securities are 
not eligible) for the purposes of complying with liquidity 
requirements, managing surplus short-term funds, and managing interest 
rate risk. Section Sec.  615.5142 authorizes associations to invest in 
eligible securities (again, equity securities are not eligible) for the 
purposes of reducing interest rate risk and managing surplus short-term 
funds. Section 615.5140(e) authorizes System banks and associations, 
with our approval, to purchase and hold investments that are not 
otherwise eligible (such as equity investments) or that would be held 
for a purpose not specified by regulation.
    Under proposed Sec.  628.52, equity investments that the FCA 
approves for a purpose other than those specified in Sec.  615.5132(a) 
(for System banks) or Sec.  615.5142 (for associations) would be risk 
weighted at 100 percent, unless the investments would qualify for a 
different risk weight (for example, 0 percent or 20 percent) under this 
section.
    Under the proposed rule, a 100-percent risk weight would also apply 
to certain non-System equity exposures deemed non-significant. The 
following equity exposures, to the extent that their aggregate adjusted 
carrying value of does not exceed 10 percent of the System 
institution's total capital (tier 1 and tier 2), would be deemed non-
significant: \115\
---------------------------------------------------------------------------

    \115\ Non-significant equity exposures exclude exposures to an 
investment firm that (1) would meet the definition of traditional 
securitization were it not for the FCA's application of paragraph 
(8) of the definition of a traditional securitization and (2) have 
greater than immaterial leverage. These investment firm exposures 
would be assigned a 600-percent risk weight.
---------------------------------------------------------------------------

     Equity exposures to unconsolidated unincorporated business 
entities and equity exposures held through consolidated unincorporated 
business entities, as authorized by subpart J of part 611;
     Equity exposures that the FCA has authorized pursuant to 
Sec.  615.5140(e) for a purpose specified in Sec.  615.5132(a) (for 
System banks) or Sec.  615.5142 (for associations), unless the equity 
exposures are assigned a different risk weight under this section; and
     Equity exposures to an unconsolidated rural business 
investment company and equity

[[Page 52856]]

exposures held through a consolidated rural business investment company 
described in 7 U.S.C. 2009cc et seq.
     Equity exposures to foreclosed collateral; these exposures 
could be either publicly traded or non-publicly traded.\116\
---------------------------------------------------------------------------

    \116\ This proposal defines publicly traded as traded on: (1) 
Any exchange registered with the SEC as a national securities 
exchange under section 6 of the Securities Exchange Act of 1934 (15 
U.S.C. 78f); or (2) any non-U.S.-based securities exchange that is 
registered with, or approved by, a national securities regulatory 
authority and that provides a liquid, two-way market for the 
instrument in question. A two-way market would refer to a market 
where there are 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 within 1 
day and settled at that price within a relatively short timeframe 
conforming to trade custom.
---------------------------------------------------------------------------

    To compute the aggregate adjusted carrying value of a System 
institution's equity exposures for determining their non-significance, 
this proposal provides that the System institution may exclude: (1) The 
equity exposure in a hedge pair with the smaller adjusted carrying 
value; and (2) a proportion of each equity exposure to an investment 
fund equal to the proportion of the assets of the investment fund that 
are not equity exposures. If a System institution does not know the 
actual holdings of the investment fund, the System institution may 
calculate the proportion of the assets of the fund that are not equity 
exposures based on the terms of the prospectus, partnership agreement, 
or similar contract that defines the fund's permissible investments. If 
the sum of the investment limits for all exposure classes within the 
fund exceeds 100 percent, the System institution would assume that the 
investment fund invests to the maximum extent possible in equity 
exposures.
    To determine which of a System institution's equity exposures 
qualify for a 100-percent risk weight based on the 10 percent of 
capital standard for non-significance, the System institution would 
aggregate the exposures in the following order:
    (1) Equity exposures to unconsolidated rural business investment 
companies, or those held through consolidated rural business investment 
companies described in 7 U.S.C. 2009cc et seq.;
    (2) Equity exposures that the FCA has authorized pursuant to Sec.  
615.5140(e) for a purpose specified in Sec.  615.5132(a) (for System 
banks) or Sec.  615.5142 (for associations);
    (3) Equity exposures to unconsolidated unincorporated business 
entities and equity exposures held through consolidated unincorporated 
business entities, as authorized by subpart J of part 611;
    (4) Foreclosed collateral in the form of publicly traded equity 
exposures (including those held indirectly through investment funds); 
and
    (5) Foreclosed collateral in the form of non-publicly traded equity 
exposures (including those held indirectly through investment funds).
    To the extent that any of these aggregated equity exposures exceed 
10 percent of a System institution's total capital, the FCA will 
determine their risk weighting.
4. Hedged Transactions
    Under the proposal, to determine risk-weighted assets under the 
SRWA, a System institution could identify hedge pairs, which would be 
defined as two equity exposures that form an effective hedge, as long 
as each equity exposure is publicly traded or has a return that is 
primarily based on a publicly traded equity exposure. A System 
institution would risk weight only the effective and ineffective 
portions of a hedge pair rather than the entire adjusted carrying value 
of each exposure that makes up the pair.
    Under the proposed rule, two equity exposures form an effective 
hedge if the exposures either have the same remaining maturity or each 
has a remaining maturity of at least 3 months; the hedge relationship 
is formally documented in a prospective manner (that is, before the 
System institution acquires at least one of the equity exposures); the 
documentation specifies the measure of effectiveness (E) the System 
institution would use for the hedge relationship throughout the life of 
the transaction; and the hedge relationship has an E greater than or 
equal to 0.8. A System institution would measure E at least quarterly 
and would use one of three measures of E described in the next section: 
The dollar-offset method, the variability-reduction method, or the 
regression method.
    It is possible that only part of a System institution's exposure to 
a particular equity instrument is part of a hedge pair. For example, 
assume a System institution has equity exposure A with a $300 adjusted 
carrying value and chooses to hedge a portion of that exposure with 
equity exposure B with an adjusted carrying value of $100. Also assume 
that the combination of equity exposure B and $100 of the adjusted 
carrying value of equity exposure A form an effective hedge with an E 
of 0.8. In this situation, the institution would treat $100 of equity 
exposure A and $100 of equity exposure B as a hedge pair, and the 
remaining $200 of its equity exposure A as a separate, stand-alone 
equity position. The effective portion of a hedge pair would be 
calculated as E multiplied by the greater of the adjusted carrying 
values of the equity exposures forming the hedge pair. The ineffective 
portion of a hedge pair would be calculated as (1-E) multiplied by the 
greater of the adjusted carrying values of the equity exposures forming 
the hedge pair. In the above example, the effective portion of the 
hedge pair would be 0.8 x $100 = $80, and the ineffective portion of 
the hedge pair would be (1 - 0.8) x $100 = $20.
5. Measures of Hedge Effectiveness
    As stated above, a System institution could determine effectiveness 
using any one of three methods--the dollar-offset method, the 
variability-reduction method, or the regression method. Under the 
dollar-offset method, a System institution would determine the ratio of 
the cumulative sum of the changes in value of one equity exposure to 
the cumulative sum of the changes in value of the other equity 
exposure, termed the ratio of value change (RVC). If the changes in the 
values of the two exposures perfectly offset each other, the RVC would 
be -1. If RVC is positive, implying that the values of the two equity 
exposures move in the same direction, the hedge is not effective and E 
equals 0. If RVC is negative and greater than or equal to -1 (that is, 
between 0 and -1), then E would equal the absolute value of RVC. If RVC 
is negative and less than -1, then E would equal 2 plus RVC.
    The variability-reduction method of measuring effectiveness 
compares changes in the value of the combined position of the two 
equity exposures in the hedge pair (labeled X in the equation below) to 
changes in the value of one exposure as though that one exposure were 
not hedged (labeled A). This measure of E expresses the time-series 
variability in X as a proportion of the variability of A. As the 
variability described by the numerator becomes small relative to the 
variability described by the denominator, the measure of effectiveness 
improves, but is bounded from above by a value of one. E would be 
computed as:

[[Page 52857]]

[GRAPHIC] [TIFF OMITTED] TP04SE14.010

    where

    X1 = A1 - B1
    A1 the value at time t of the one exposure in a hedge pair, and
    B1 the value at time t of the other exposure in the hedge pair.

    The value of t would range from 0 to T, where T is the length of 
the observation period for the values of A and B, and is comprised of 
shorter values each labeled t.
    The regression method of measuring effectiveness is based on a 
regression in which the change in value of one exposure in a hedge pair 
is the dependent variable and the change in value of the other exposure 
in the hedge pair is the independent variable. E would equal the 
coefficient of determination of this regression, which is the 
proportion of the variation in the dependent variable explained by 
variation in the independent variable. However, if the estimated 
regression coefficient is positive, then the value of E is 0. 
Accordingly, E is higher when the relationship between the values of 
the two exposures is closer.
6. Equity Exposures to Investment Funds
    We propose three methods of assigning risk weights to equity 
exposures to investment funds. Regardless of the method a System 
institution chooses, the risk weight for an exposure to an investment 
fund would have to be no less than 20 percent.\117\ System institutions 
should keep in mind that the only investment funds they are authorized 
to invest in are diversified investment funds; that is, shares of an 
investment company registered under section 8 of the Investment Company 
Act of 1940. The portfolio of the investment company must consist 
solely of eligible investments authorized by our investment 
regulations.\118\
---------------------------------------------------------------------------

    \117\ As with non-System equity exposures generally, System 
institutions generally have limited equity exposures to investment 
funds.
    \118\ Section 615.5140(a)(8).
---------------------------------------------------------------------------

    As discussed further below, under the proposed rule, a System 
institution would determine the risk-weighted asset amount for equity 
exposures (except equity exposures that the FCA has authorized pursuant 
to Sec.  615.5140(e) for a purpose other than those specified in Sec.  
615.5132(a) (for System banks) or Sec.  615.5142 (for associations)) to 
investment funds using one of three approaches--the full look-through 
approach, the simple modified look-through approach, or the alternative 
modified look-through approach. The risk-weighted asset amount for an 
equity exposure that the FCA has authorized pursuant to Sec.  
615.5140(e) for a purpose other than those specified in Sec.  
615.5132(a) (for System banks) or Sec.  615.5142 (for associations) is 
the exposure's adjusted carrying value. If a System institution did not 
use the full look-through approach, and an equity exposure to an 
investment fund was part of a hedge pair, the System institution would 
have to use the ineffective portion of the hedge pair as the adjusted 
carrying value for the equity exposure to the investment fund. The 
risk-weighted asset amount of the effective portion of the hedge pair 
would be equal to its adjusted carrying value. A System institution 
could choose which approach to apply for each equity exposure to an 
investment fund.
    a. Full Look-Through Approach
    A System institution could use the full look-through approach only 
if the institution was able to calculate a risk-weighted asset amount 
for each of the exposures held by the investment fund. Under the 
proposal, a System institution using the full look-through approach 
would be required to calculate the risk-weighted asset amount for its 
proportional ownership shares of each of the exposures held by the 
investment fund as if the proportionate ownership share of the adjusted 
carrying value of each of the exposures were held directly by the 
institution. The System institution's risk-weighted asset amount for 
the fund would be equal to (1) The aggregate risk-weighted asset amount 
of the exposures held by the fund as if they were held directly by the 
System institution multiplied by (2) the System institution's 
proportional ownership share of the fund.
b. Simple Modified Look-Through Approach
    Under the proposed simple modified look-through approach, a System 
institution would set the risk-weighted asset amount for its equity 
exposure to an investment fund equal to the adjusted carrying value of 
the equity exposure multiplied by the highest risk weight that applies 
to an exposure the fund is permitted to hold under the prospectus, 
partnership agreement, or similar agreement that defines the fund's 
permissible investments. The System institution may exclude derivative 
contracts held by the fund that are used for hedging, rather than for 
speculative purposes, as long as they do not constitute a material 
portion of the fund's exposures.
c. Alternative Modified Look-Through Approach
    Under the proposed alternative modified look-through approach, a 
System institution may assign the adjusted carrying value of an equity 
exposure to an investment fund on a pro rata basis to different risk-
weight categories based on the investment limits in the fund's 
prospectus, partnership agreement, or similar contract that defines the 
fund's permissible investments.
    The risk-weighted asset amount for the System institution's equity 
exposure to the investment fund would be equal to the sum of each 
portion of the adjusted carrying value assigned to an exposure type 
multiplied by the applicable risk weight. If the sum of the investment 
limits for all exposures within the fund exceeds 100 percent, the 
System institution would assume that the fund invests to the maximum 
extent permitted under its investment limits in the exposure type with 
the highest applicable risk weight under the proposed requirements and 
continues to make investments in the order of the exposure category 
with the next highest risk weight until the maximum total investment 
level is reached. If more than one exposure category applies to an 
exposure, the System institution would use the highest applicable risk 
weight. A System institution may exclude derivative contracts held by 
the fund that are used for hedging, rather than for speculative 
purposes, as long as they do not constitute a material portion of the 
fund's exposures.

V. Market Discipline and Disclosure Requirements

A. Proposed Disclosure Requirements

    Meaningful public disclosure by banking organizations is one of the 
three pillars of the Basel framework. Public disclosure complements the 
minimum capital requirements and the supervisory review process by 
encouraging market discipline. The other Federal banking regulatory 
agencies adopted disclosure requirements for the banking

[[Page 52858]]

organizations that they regulate with $50 billion or more in assets.
    We propose similar disclosure requirements for System banks on a 
bank-only basis (not on a consolidated, district-wide basis). We 
believe these proposed disclosure requirements are appropriate for all 
System banks--even those that currently have less than $50 billion in 
assets--because they are jointly and severally liable for the 
Systemwide debt obligations that they issue.\119\ A System bank's 
exposure to risks and the techniques that it uses to identify, measure, 
monitor, and control those risks are important factors that market 
participants consider in their assessment of the bank. A System bank 
would not, however, have to make any disclosures that do not apply to 
it.\120\
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    \119\ Nothing in this proposed regulation or preamble would 
change any of our existing regulatory requirements, including those 
in part 620 or part 621.
    \120\ For example, Table 1 would require a System bank to make 
certain disclosures about subsidiaries. If a System bank has no 
subsidiaries, it would not have to make those disclosures.
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    We believe this proposal strikes the proper balance between the 
market benefits of disclosure and the burden of providing the 
disclosures. We invite comment on the appropriate application of these 
proposed disclosure requirements to System banks.
    We propose to require each System bank to have a board-approved 
disclosure policy that addresses the bank's approach for determining 
the disclosures it will make. The policy would address the associated 
internal controls, disclosure controls, and procedures. The board of 
directors and senior management would ensure that disclosures are 
reviewed appropriately and that effective internal controls, disclosure 
controls, and procedures are maintained. The System bank's chief 
executive officer, chief financial officer, and a designated board 
member would have to attest that the disclosures meet the requirements 
of these regulations.
    A System bank would decide the relevant material disclosures. 
Information would be regarded as material if its omission or 
misstatement could influence the assessment or decision of a user 
making investment decisions.
    We would expect that disclosures of CET1, tier 1, and total capital 
ratios would be tested by external auditors as part of the financial 
statement audit in a manner similar to the testing that external 
auditors perform on banking organizations regulated by the Federal 
banking regulatory agencies.

B. Location and Frequency of Disclosures

    This proposed rule would require that a System bank provide timely 
public disclosures after each calendar quarter. However, qualitative 
disclosures that provide a general summary of a System bank's risk-
management objectives and policies, reporting system, and definitions 
may be disclosed annually after the end of the fourth calendar quarter, 
provided any significant changes are disclosed in the interim.
    The System bank would have to make these disclosures in its 
quarterly and annual reports to shareholders that are required in part 
620 of our regulations.\121\ We do not require a System bank to make 
these disclosures in the exact format set out in the proposed 
regulations, or in the same location in the report, as long as they 
provide a summary table specifically indicating the location(s) of all 
disclosures. This flexibility grants System banks discretion in how to 
disclose the required information and to avoid duplication.
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    \121\ Sections 620.2 and 620.4 of the FCA's regulations requires 
each System institution to prepare, provide to the FCA and 
shareholders, and make available to the public an annual report 
after the end of each fiscal year. Sections 620.2 and 620.10 
requires each System institution to prepare, provide to the FCA and 
shareholders, and make available to the public a quarterly report 
after the end of each fiscal quarter (except the fiscal quarter that 
coincides with the end of the System institution's fiscal year).
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    In some cases, management may determine that a significant change 
has occurred, such that the most recent reported amounts do not reflect 
the System bank's capital adequacy and risk profile. In those cases, 
the System bank would need to disclose the general nature of these 
changes and briefly describe how they are likely to affect public 
disclosures going forward. A System bank would have to make these 
interim disclosures as soon as practicable after the determination that 
a significant change has occurred. This disclosure requirement may be 
satisfied by providing a notice under Sec.  620.15.
    The disclosures required by the proposal would have to be publicly 
available (for example, included on a public Web site) for each of the 
last 3 years or such shorter time period beginning when the System bank 
becomes subject to the disclosure requirements. For example, a System 
bank that began to make public disclosures in the first quarter of 2015 
would have to make all of its required disclosures publicly available 
until the first quarter of 2018, after which it would have to make its 
required disclosures for the previous 3 years publicly available.

C. Proprietary and Confidential Information

    The FCA believes that proposed disclosure requirements strike the 
proper balance between the need for meaningful disclosure and the 
protection of proprietary and confidential information.\122\ 
Accordingly, the FCA believes System banks would be able to provide all 
of these disclosures without revealing proprietary and confidential 
information. Only in rare circumstances might disclosure of certain 
items of information required by the proposal compel a System bank to 
reveal confidential and proprietary information. In these unusual 
situations, if a System bank believes that disclosure of specific 
commercial or financial information would compromise its position by 
making public information that is either proprietary or confidential in 
nature, the System bank would not be required to disclose those 
specific items under the rule's periodic disclosure requirements. 
Instead, the System bank would have to disclose more general 
information about the subject matter of the requirement, together with 
the fact that, and the reason why, the specific items of information 
have not been disclosed. This provision would apply only to those 
disclosures included in this proposed rule and would not apply to 
disclosure requirements imposed by accounting standards or other FCA 
regulations.
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    \122\ Proprietary information encompasses information that, if 
shared with competitors, would render a System bank's investment in 
these products/systems less valuable, and, hence, could undermine 
its competitive position. Information about customers is often 
confidential, in that it is provided under the terms of a legal 
agreement or counterparty relationship.
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D. Specific Public Disclosure Requirements

    The public disclosure requirements are designed to provide 
important information to market participants on the scope of 
application, capital structure, risk exposures, risk assessment 
processes, and the capital adequacy of the System institution. The 
focus of the proposed disclosure requirements is the substantive 
content of the tables, not the tables themselves. The table numbers 
below refer to the table numbers in proposed Sec.  628.63. A System 
bank would be required to make the disclosures described in Tables 1 
through 10.\123\
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    \123\ Other disclosure requirements, such as regulatory 
reporting requirements, would continue to apply.

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[[Page 52859]]

    Table 1 disclosures, ``Scope of Application,'' would provide the 
basic context underlying regulatory capital calculations.
    Table 2 disclosures, ``Capital Structure,'' would provide summary 
information on the terms and conditions of the main features of 
regulatory capital instruments, which would allow for an evaluation of 
the quality of the capital available to absorb losses within a System 
bank. A System bank also would disclose the total amount of CET1, tier 
1, and total capital, with separate disclosures for deductions and 
adjustments to capital. We believe that many of these disclosure 
requirements would be captured in revised regulatory reports.
    Table 3 disclosures, ``Capital Adequacy,'' would provide 
information on a System bank's approach for categorizing and risk-
weighting its exposures, as well as the amount of total risk-weighted 
assets. The table would also include CET1, and tier 1 and total risk-
based capital ratios.
    Table 4 disclosures, ``Capital Conservation Buffer,'' would require 
a System bank to disclose the capital conservation buffer, the eligible 
retained income and any limitations on capital distributions and 
certain discretionary bonus payments, as applicable.
    Disclosures in Tables 5, ``Credit Risk: General Disclosures,'' 6, 
``General Disclosure for Counterparty Credit Risk-Related Expenses,'' 
and 7, ``Credit Risk Mitigation,'' would relate to credit risk, 
counterparty credit risk and credit risk mitigation, respectively, and 
would provide market participants with insight into different types and 
concentrations of credit risk to which a System bank is exposed and the 
techniques it uses to measure, monitor, and mitigate those risks. These 
disclosures are intended to enable market participants to assess the 
credit risk exposures of the System bank without revealing proprietary 
information.
    Table 8 disclosures, ``Securitization,'' would provide information 
to market participants on the amount of credit risk transferred and 
retained by a System bank through securitization transactions, the 
types of products involved in the System bank's securitizations, the 
risks inherent in the System bank's securitized assets, the System 
bank's policies regarding credit risk mitigation, and the names of any 
entities that provide external credit assessments of a securitization. 
These disclosures would provide a better understanding of how 
securitization transactions impact the credit risk of a System bank. 
For purposes of these disclosures (and these capital regulations), a 
System bank would be considered to have securitized assets if assets 
that it originated or purchased from third parties are included in a 
securitization. Securitization transactions in which the originating 
System bank does not retain any securitization exposure would be shown 
separately and would only be reported for the year of inception of the 
transaction.\124\
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    \124\ A System bank is authorized to act as an ``originating 
System institution,'' which the proposed regulation would define as 
a System institution that directly or indirectly originated the 
underlying exposures included in a securitization. A System bank is 
not authorized to perform every role in a securitization, and 
nothing in these capital rules authorizes a System bank to engage in 
activities relating to securitizations that are not otherwise 
authorized.
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    Table 9 disclosures, ``Equities,'' would provide market 
participants with an understanding of the types of equity securities 
held by the System bank and how they are valued. The disclosures would 
also provide information on the capital allocated to different equity 
products and the amount of unrealized gains and losses. We understand 
that System banks generally hold few equity securities; nevertheless, 
we believe disclosure of these securities, when they are held, is 
warranted.
    Table 10 disclosures, ``Interest Rate Risk for Non-trading 
Activities,'' would require a System bank to provide certain 
quantitative and qualitative disclosures regarding the System bank's 
management of interest rate risks.

VI. Conforming Changes

    The FCA is proposing a number of conforming changes to current FCA 
regulations as follows:
     In Sec.  607.2(b), revision of the definition of ``average 
risk-adjusted asset base'';
     In Sec.  614.4351(a)(3), replacement of the reference to 
total surplus with a reference to tier 2 capital;
     In Sec.  615.5143(a), removal of references to the net 
collateral ratio;
     In Sec.  615.5200, removal of references to total capital, 
surplus, core surplus, total surplus, and unallocated surplus; addition 
of references to CET1, tier 1 capital, total capital, and tier 1 
leverage ratio; and other minor nonsubstantive and technical changes;
     In Sec.  615.5201, removal of definitions that would no 
longer be used in part 615, subpart H, including ``bank,'' 
``commitment,'' ``credit conversion factor,'' ``credit derivative,'' 
``credit-enhancing interest-only strip,'' ``credit-enhancing 
representations and warranties,'' ``deferred-tax assets that are 
dependent on future income or future events,'' ``direct credit 
substitute,'' ``direct lender institution,'' ``externally rated,'' 
``face amount,'' ``financial asset,'' ``financial standby letter of 
credit,'' ``Government agency,'' ``Government-sponsored agency,'' 
``institution,'' ``nationally recognized statistical rating 
organization,'' ``non-OECD bank,'' ``OECD,'' ``OECD bank,'' 
``performance-based standby letter of credit,'' ``qualified residential 
loan,'' ``qualifying bilateral netting contract,'' ``qualifying 
securities firm,'' ``recourse,'' ``residual interest,'' ``risk 
participation,'' ``Rural Business Investment Company,'' 
``securitization,'' ``servicer cash advance,'' ``total capital,'' 
``traded position,'' and ``U.S. depository institution''; revision of 
the definitions of ``permanent capital'' and ``risk-adjusted asset 
base''; and addition of definitions of ``deferred tax assets'' and 
``System institution'';
     In Sec. Sec.  615.5206 and 615.5208, removal of references 
to the Farm Credit System Financial Assistance Corporation in Sec.  
615.5206(a); removal of Sec. Sec.  615.5206(d) and 615.5208(c), which 
pertain to the Farm Credit System Financial Assistance Corporation; and 
other minor nonsubstantive and technical changes;
     In Sec.  615.5207, revisions in paragraph (f) (requiring 
deduction of an investment in the Funding Corporation) and paragraph 
(j) (elimination of exclusion of AOCI and requirement to exclude any 
defined benefit pension fund net asset) to make the deductions from the 
numerator of the permanent capital calculation uniform with the 
deductions from the denominator;
     Removal of Sec. Sec.  615.5209 through 615.5212, which 
pertain to risk-weighting (the risk-weights for the permanent capital 
ratio would be the same risk weights that would be used for the tier 1 
and tier 2 capital ratios in part 628);
     In Sec.  615.5220, minor nonsubstantive and technical 
changes;
     Revision of Sec.  615.5240 to add a reference to the 
regulatory capital standards in proposed part 628;
     Revision of Sec.  615.5250 to include references to the 
regulatory capital standards in proposed part 628;
     In Sec.  615.5255, the addition of part 628 capital 
standards and minor nonsubstantive and technical changes;
     In Sec.  615.5270, revision to incorporate restrictions 
and limits on redemptions of equities would be included in tier 1 and 
tier 2 capital in the proposed rule;
     In Sec.  615.5290, minor nonsubstantive and technical 
changes;
     Removal of part 615, subpart K, which contains the 
requirements for the

[[Page 52860]]

core surplus, total surplus, and net collateral standards;
     In Sec. Sec.  615.5350, 615.5352, and 615.5355, 
replacement of references to core surplus, total surplus, and net 
collateral with references to tier 1 and tier 2 capital;
     In Sec.  615.5357, addition of a reference to the capital 
restoration plan in proposed Sec.  628.301; and
     Revision of Sec.  620.17 to expand the stockholder 
notification requirement to include the regulatory capital standards in 
proposed part 628.

VII. Proposed Timeframe for Implementation

    Basel III and the Federal regulatory banking agencies' rules have 
numerous phase-in and transition periods for the capital regulations 
lasting from 2014 (2015 for banking organizations not using the 
advanced approaches rules) until 2019 or after. Many of these 
transition provisions pertain to regulatory deductions and adjustments, 
minority interests, and temporary inclusion of non-qualifying 
instruments. There is also a transition period for the capital 
conservation buffer.
    The FCA is not proposing any transition or phase-in periods for 
regulatory adjustments and deductions. The Federal regulatory banking 
agencies' transition periods serve several purposes. The agencies, 
which are members of the BCBS, are generally following the transition 
and phase-in periods of Basel III and other countries' banking 
regulations. Since the primary competitors of many U.S. banking 
organizations are financial institutions that are regulated by foreign 
countries that are also following Basel III, there will be a level 
playing field among such competitors. In addition, the Federal 
regulatory banking agencies note that the various transition periods 
will give the banking organizations they regulate sufficient time to 
build capital to meet the new minimum requirements.
    The FCA believes multiple transition periods of varying lengths for 
multiple adjustments and deductions could be unnecessarily burdensome 
for System institutions and for the FCA. Instead of a single learning 
curve and software re-tooling on the calculation of the new framework, 
institutions and FCA staff would have a new learning curve every 4 
quarters for the first 4 or more years after the rule becomes 
effective.
    We have analyzed every System institution's call report data, and 
we project that all System institutions would meet all the proposed 
minimum amounts for the CET1, tier 1 and total capital risk-based 
ratios if those requirements were in effect today. In reviewing the 
capital components, we assumed that all institutions would adopt 
required bylaw provisions for inclusion of stock and allocated equities 
in tier 1 and tier 2 capital. We also assumed that no institutions that 
redeem allocated equities on a cycle of less than 10 years would extend 
their patronage redemption periods in order to include those equities 
in CET1 capital, but rather they would maintain existing patronage 
redemption periods and qualify allocated equities as tier 2 capital. 
For the risk weightings, we used a simple analysis. For System 
associations, we assumed the proposed risk weightings would not be 
materially different from existing risk weightings in the current 
regulations. For System banks, we believe that certain new risk weights 
or conversion factors could have a material impact but, taken 
collectively, the impacts should net against each other. For instance, 
System banks would need to hold additional capital for their 
unconditionally cancelable unfunded commitments, but they would hold 
less capital for their end-user derivative portfolios. In the proposed 
rule, the banks may use credit risk mitigation for the collateral 
posted to derivative counterparties that are not available to them 
under current regulations.
    All System institutions would meet the 5.0 minimum tier 1 leverage 
ratio (including the 1.5-percent component of the ratio for URE and 
equivalents) if the proposed requirement were effective today. Our 
analysis indicates that the leverage ratio would not be a constraining 
ratio for System associations because of their strong capital levels. 
The leverage ratio for associations would be very similar to their tier 
1 capital risk-based ratio because most of their assets are risk 
weighted at 100 percent. If the proposed rule were effective today, the 
current leverage ratios of System banks would, however, be closer to, 
but above, the proposed 5.0-percent tier 1 and a 1.5-percent URE and 
URE equivalents component of the minimum leverage ratio. The System 
banks' tier 1 leverage ratios would be significantly lower than their 
tier 1 risk-based ratios because a large portion of their loans are to 
their affiliated associations and are risk-weighted at 20 percent.
    The FCA has decided to propose a transition period for the capital 
conservation buffer that would commence on January 1, 2016, with the 
buffer fully phased in beginning January 1, 2019. Unlike the 
adjustments and deductions transitions, the calculation of the capital 
conservation buffer would not change over the transition period, and 
there would not be an additional burden to revise the calculation each 
year. Rather, the amount of the capital conservation buffer increases 
every year until fully phased in. The Federal regulatory banking 
agencies' capital conservation buffer rules also will be fully phased 
in as of January 1, 2019, but their transition period will begin in 
2015. We expect our final rule will become effective for the reporting 
periods beginning in 2016.
    In the event that some System institutions do not meet the tier 1 
and tier 2 capital standards when the rules become effective, we are 
proposing to permit them to comply by submitting a capital restoration 
plan. The plan, which the institution would be required to submit 
within 20 days of the quarterend during which the new capital standards 
become effective, would describe how the institution proposes to 
achieve and maintain compliance with the new requirements, 
demonstrating progress towards meeting that goal. If the FCA did not 
approve the plan, the institution would have to revise and re-submit 
the plan. There is a list of factors in the proposed rule that the FCA 
would consider in evaluating a plan. They include: (1) Circumstances 
leading to the institution's decrease in capital and whether they were 
caused by the institution or by circumstances beyond the institution's 
control; (2) the institution's financial ratios (e.g., capital, adverse 
assets, ALL) compared to those of its peers or industry norms; and (3) 
the institution's previous compliance practices; and (4) the views of 
the institution's directors and managers regarding the plan. If the 
capital restoration plan is adopted by the institution and approved by 
the FCA within 180 days of the quarterend in which the tier 1 and tier 
2 capital requirements become effective, the institution will be deemed 
to be in compliance with the requirements.\125\
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    \125\ This proposed rule is modeled after current Sec.  
615.5336, which was adopted in 1997 at the time the FCA adopted the 
core surplus, total surplus, and net collateral requirements. 
Several System institutions achieved initial compliance with those 
requirements.
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VIII. Abbreviations

ABCP Asset-Backed Commercial Paper
ABS Asset-backed Security
ADC Acquisition, Development, or Construction
AFS Available For Sale
ALL Allowance for Loan Losses
AOC Accumulated Other Comprehensive Income
BCBS Basel Committee on Banking Supervision
BHC Bank Holding Company
CCF Credit Conversion Factor

[[Page 52861]]

CCP Central Counterparty
CDS Credit Default Swap
CEIO Credit-Enhancing Interest-Only Strip
CEM Current Exposure Method
CFR Code of Federal Regulations
CFPB Consumer Financial Protection Bureau
CFTC Commodity Futures Trading Commission
CPSS Committee on Payment and Settlement Systems
CRC Country Risk Classifications
CUSIP Committee on Uniform Securities Identification Procedures
DAC Deferred Acquisition Cost
DCO Derivatives Clearing Organizations
DTA Deferred Tax Asset
DTL Deferred Tax Liability
DvP Delivery-versus-Payment
E Measure of Effectiveness
EE Expected Exposure
ERISA Employee Retirement Income Security Act of 1974
FCA Farm Credit Administration
FDIC Federal Deposit Insurance Corporation
FDICIA Federal Deposit Insurance Corporation Improvement Act of 1991
FFIEC Federal Financial Institutions Examination Council
FHA Federal Housing Authority
FHLB Federal Home Loan Bank
FHLMC Federal Home Loan Mortgage Corporation
FIRREA Financial Institutions, Reform, Recovery and Enforcement Act
FMU Financial Market Utility
FNMA Federal National Mortgage Association
FR Federal Register
GAAP Generally Accepted Accounting Principles (U.S.)
GNMA Government National Mortgage Association
GSE Government-Sponsored Enterprise
HAMP Home Affordable Mortgage Program
HOLA Home Owners' Loan Act
HTM Held to Maturity
HVCRE High-Volatility Commercial Real Estate
IFRS International Financial Reporting Standards
IOSCO International Organization of Securities Commissions
LTV Loan-to-Value Ratio
MBS Mortgage-backed Security
MDB Multilateral Development Bank
MHC Mutual Holding Company
MSA Mortgage Servicing Assets
NRSRO Nationally Recognized Statistical Rating Organization
OCC Office of the Comptroller of the Currency
OECD Organization for Economic Cooperation and Development
OFI Other Financing Institution
OMB Office of Management and Budget
OTC Over-the-Counter
OTTI Other Than Temporary Impairment
PFE Potential Future Exposure
PMI Private Mortgage Insurance
PMSR Purchased Mortgage Servicing Right
PSE Public Sector Entities
PvP Payment-versus-Payment
QCCP Qualifying Central Counterparty
QIS Quantitative Impact Study
QM Qualified Mortgage
RBA Ratings-Based Approach
RBC Risk-Based Capital
REIT Real Estate Investment Trust
Re-REMIC Resecuritization of Real Estate Mortgage Investment Conduit
SAP Statutory Accounting Principles
SEC Securities and Exchange Commission
SFA Supervisory Formula Approach
SLHC Savings and Loan Holding Company
SPE Special Purpose Entity
SRWA Simple Risk-Weight Approach
SSFA Simplified Supervisory Formula Approach
U.S.C. United States Code
VA Department of Veterans Affairs
VOBA Value of Business Acquired
WAM Weighted Average Maturity

IX. Regulatory Flexibility Act

    Pursuant to section 605(b) of the Regulatory Flexibility Act (5 
U.S.C. 601 et seq.), the FCA hereby certifies that the proposed rule 
would not have a significant economic impact on a substantial number of 
small entities. Each of the banks in the Farm Credit System, considered 
together with its affiliated associations, has assets and annual income 
in excess of the amounts that would qualify them as small entities. 
Therefore, Farm Credit System institutions are not ``small entities'' 
as defined in the Regulatory Flexibility Act.

Addendum: Discussion of This Proposed Rule

Overview

    The FCA is issuing a proposed rule (proposal or proposed rule) to 
update the capital rules for the System by adopting certain changes 
comparable to those suggested by the Basel Committee on Banking 
Supervision (BCBS) to the international regulatory capital framework, 
the Federal banking regulatory agencies' regulations, and requirements 
of the Dodd-Frank Act. Among other things, the proposed rule would:
     Establish minimum risk-based CET1, tier 1, and total 
capital ratio requirements;
     Establish a minimum tier 1 leverage ratio requirement;
     Establish a capital conservation buffer below which an 
institution's discretionary cash distributions and bonuses would be 
limited or prohibited without FCA approval;
     Increase capital requirements for past-due loans, high 
volatility commercial real estate exposures, and certain short-term 
loan commitments;
     Expand the recognition of collateral and guarantors in 
determining risk-weighted assets;
     Remove references to credit ratings;
     Establish due diligence requirements for securitization 
exposures; and
     Increase required regulatory capital disclosures of System 
banks.
    This addendum summarizes this proposed rule. The FCA intends for 
this addendum to act as a guide for System institutions to navigate the 
proposed rule and identify the provisions that may be most relevant to 
them, but it is not comprehensive. The FCA expects and encourages all 
System institutions to review the proposed rule in its entirety.
    We remind System institutions that the presence of a particular 
risk weighting does not itself provide authority for a System 
institution to have an exposure to that asset or item.

A. Capital Components

1. Common Equity Tier 1 Capital (CET1)
    (a) Common cooperative equities (purchased member stock, purchased 
participation certificates, and allocated equities) with the following 
key criteria (among others):
     Borrower stock (regardless of redemption or revolvement 
period) up to the statutory minimum of $1000 or 2 percent of the loan 
amount, whichever is less;
     Equities are perpetual;
     Equities subject to discretionary revolvement or 
redemption are not retired for at least 10 years after issuance;
     Equities can be retired only with FCA prior approval 
(unless it is the statutory minimum borrower stock requirement or 
unless the distribution meets ``safe harbor'' standards) and the System 
institution has a capitalization bylaw providing that it must obtain 
FCA approval prior to redeeming or revolving any equities it includes 
in CET1 before the end of the 10-year period;
     Equities represent a claim subordinated to all preferred 
stock, all subordinated debt, and all liabilities of the institution in 
a receivership, liquidation, or similar proceeding; and
    (b) Unallocated retained earnings (URE).
    The FCA is proposing to require System institutions to exclude AOCI 
from CET1.
2. Additional Tier 1 Capital (AT1)
    Equities other than common cooperative equities (i.e., equities 
issued primarily to third-party investors) that meet most of the CET1 
criteria, except that AT1 capital equities represent a claim that ranks 
senior to all common cooperative equities in a receivership, 
liquidation, or similar proceeding.

[[Page 52862]]

3. Tier 2 Capital
    (a) Equities, which may be common cooperative equities or equities 
held by third parties, not includable in Tier 1 with the following key 
criteria:
     Equities are perpetual or have an original maturity of at 
least 5 years;
     Equities subject to discretionary revolvement or 
redemption are not retired for at least 5 years after issuance; and
     Equities may not be redeemed or revolved prior to maturity 
or the end of the stated revolvement period without FCA prior approval 
(unless the distribution meets ``safe harbor'' standards);
    (b) Subordinated debt that is not callable for at least 5 years and 
not subject to acceleration except in the event of a receivership, 
liquidation, or similar proceeding; and
    (c) Allowance for losses (ALL) up to 1.25 percent of total risk-
weighted assets.
4. Regulatory Adjustments and Deductions
    (a) Deductions from CET1 capital.
     Goodwill, intangible assets, gains-on-sale in connection 
with a securitization exposure, and defined benefit pension fund net 
assets, all of which are net of associated deferred tax liabilities; 
and
     The System institution's allocated equity investments in 
another System institution.
    (b) Deductions from regulatory capital using the corresponding 
deduction approach.
     A System institution's purchased equity investments in 
other System institutions must be deducted using the corresponding 
deduction approach.
    This means that a System institution would make deductions from the 
component of capital for which the underlying instrument qualified if 
it were issued by the System institution itself.
5. FCA Prior Approval of Cash Patronage Refunds, Cash Dividend 
Payments, and Allocated Equity Redemptions; ``Safe Harbor'' Treatment 
for Certain Such Payments
    FCA prior approval would be required for redemption of equities 
included in tier 1 and tier 2, comparable to Basel III and the banking 
agencies' rule. Prior approval is also required for cash dividends and 
cash patronage in excess of a specified level, comparable to U.S. 
banking law and regulations. An exception to the FCA prior approval 
requirement is that System institutions could retire member stock up to 
an amount equal to the Farm Credit Act's minimum member-borrower stock 
requirement of $1,000 or 2 percent of the member's loan, whichever is 
less. In addition, this amount of borrower stock would not have to be 
outstanding for a minimum period of 10 years in order for the 
institution to include it in CET1. However, redemptions of such amounts 
of stock would be included in the calculation for the ``safe harbor'' 
in proposed Sec.  628.22(f)(5).
    Under the proposed ``safe harbor,'' FCA prior approval is deemed to 
be granted (i.e., a request for approval does not have to be made to 
the FCA) for cash distributions to pay dividends, patronage, or 
revolvements and redemptions of common cooperative equities provided 
that:
    (a) For revolvements or redemptions of common cooperative equities 
included in CET1 capital, such equities were issued or allocated at 
least 10 years ago;
    (b) For revolvements or redemptions of common cooperative equities 
included in Tier 2 capital, such equities were issued or allocated at 
least 5 years ago;
    (c) After such cash distributions, the dollar amount of the System 
institution's CET1 capital equals or exceeds the dollar amount of CET1 
capital on the same date of the previous calendar year; and
    (d) After such cash distributions, the System institution continues 
to comply with all minimum regulatory capital requirements and 
supervisory or enforcement actions.
6. Capital Conservation Buffer
    The capital conservation buffer of 2.5 percent provides a cushion 
above regulatory capital minimums. The buffer's purpose is to restrict 
an institution's discretionary distributions of earnings before that 
institution reaches the minimum capital requirements.
    If a System institution's CET1, tier 1 and total capital ratios 
exceed minimum requirements, the capital conservation buffer is 
proposed to be the lowest of the following:
     The System institution's CET1 capital ratio minus the 
System institution's minimum CET1 capital ratio of 4.5 percent;
     The System institution's tier 1 capital ratio minus the 
System institution's minimum tier 1 capital ratio of 6 percent; and
     The System institution's total capital ratio minus the 
System institution's minimum total capital ratio of 8 percent.
    If the CET1 ratio, tier 1 ratio, or total capital ratio does not 
exceed minimum requirements, then the capital conservation buffer would 
be zero.

B. Risk Weightings

1. Zero-Percent (0%) Risk-Weighted Exposures
     An exposure to the U.S. Government, its central bank, or a 
U.S. Government agency--Sec.  628.32(a)(1)(i)(A);
     The portion of an exposure that is directly and 
unconditionally guaranteed by the U.S. Government, its central bank, or 
a U.S. Government agency--Sec.  628.32(a)(1)(i)(B);
     An exposure to a sovereign entity that meets certain 
criteria (as discussed below)--Sec.  628.32(a) and Table 1;
     Exposures to certain supranational entities and 
multilateral development banks--Sec.  628.32(b);
     Cash--Sec.  628.32(l);
     Certain gold bullion--Sec.  628.32(l);
     Certain exposures that arise from the settlement of cash 
transactions with a central counterparty--Sec.  628.32(l);
     An exposure to an OTC derivative contract that meets 
certain criteria--Sec.  628.37(b)(3)(i);
     The collateralized portion of an exposure with respect to 
which the financial collateral meets certain criteria--Sec.  
628.37(b)(3)(iii); and
     An equity exposure to any entity whose credit exposures 
receive a 0-percent risk weight--Sec.  628.52(b)(1).
2. Twenty-Percent (20%) Risk-Weighted Exposures
     The portion of an exposure that is conditionally 
guaranteed by the U.S. Government, its central bank, or a U.S. 
Government agency--Sec.  628.32(a)(1)(ii);
     An exposure to a sovereign entity that meets certain 
criteria (as discussed below)--Sec.  628.32(a) and Table 1;
     An exposure to a GSE, other than an equity exposure or 
preferred stock--Sec.  628.32(c)(1);
     Most exposures to U.S.- or state-organized depository 
institutions or credit unions, including those that are OFIs--Sec.  
628.32(d)(1);
     An exposure to a foreign bank that meets certain criteria 
(as discussed below)--Sec.  628.32(d)(2) and Table 2;
     A general obligation exposure to a U.S. or state PSE--
Sec.  628.32(e)(1)(i);
     An exposure to a non-U.S. PSE that meets certain criteria 
(as discussed below)--Sec.  628.32(e)(2), (e)(3), and (e)(4)(i) and 
Table 3;
     Cash items in the process of collection--Sec.  
628.32(l)(2);
     A loan that a System bank makes to an association (a 
direct loan)--Sec.  628.32(m); and

[[Page 52863]]

     An equity exposure to a PSE or the Federal Agricultural 
Mortgage Corporation (Farmer Mac)--Sec.  628.52(b)(2).
3. Fifty-Percent (50%) Risk-Weighted Exposures
     An exposure to a sovereign entity that meets certain 
criteria (as discussed below)--Sec.  628.32(a) and Table 1;
     An exposure to a foreign bank that meets certain criteria 
(as discussed below)--Sec.  628.32(d)(2) and Table 2;
     A revenue obligation exposure to a U.S. or state PSE--
Sec.  628.32(e)(1)(ii);
     An exposure to a non-U.S. PSE that meets certain criteria 
(as discussed below)--Sec.  628.32(e)(2), (e)(3), (e)(4)(ii) and Tables 
3 and 4; and
     First lien residential mortgage exposures that meet 
certain criteria--Sec.  628.32(g).
4. One Hundred-Percent (100%) Risk-Weighted Exposures
     An exposure to a sovereign entity that meets certain 
criteria (as discussed below)--Sec.  628.32(a) and Table 1;
     Preferred stock issued by a GSE--Sec.  628.32(c)(2);
     An exposure to a foreign bank that meets certain criteria 
(as discussed below)--Sec.  628.32(d)(2) and Table 2;
     An exposure to a non-U.S. PSE that meets certain criteria 
(as discussed below)--Sec.  628.32(e)(2), (e)(3), (e)(5) and Tables 3 
and 4;
     All corporate exposures--Sec.  628.32(f). This category 
would include the following:
    [cir] Borrower loans such as agricultural loans and consumer loans, 
regardless of the corporate form, of the borrower, unless those loans 
qualify for different risk weights under other risk-weighting 
provisions;
    [cir] System bank exposures to OFIs that do not satisfy the 
criteria for a 20-percent risk weight; and
    [cir] Premises, fixed assets, and other real estate owned;
     All residential mortgage exposures that do not satisfy the 
criteria for a 50-percent risk weight--Sec.  628.32(g);
     DTAs arising from temporary differences that could be 
realized through net operating loss carrybacks--Sec.  628.32(l)(3);
     All MSAs--Sec.  628.32(l)(4);
     All assets that are not specifically assigned a different 
risk weight and that are not deducted from tier 1 or tier 2 capital 
pursuant to Sec.  628.22--Sec.  628.32(l)(5);
     Certain equity exposures authorized under Sec.  
615.5140(e)--Sec.  628.52(b)(3)(i);
     The effective portion of a hedge pair--Sec.  
628.52(b)(3)(ii); and
     Non-significant equity exposures--Sec.  628.52(b)(3)(iii).
5. One Hundred Fifty-Percent (150%) Risk-Weighted Exposures
     An exposure to a sovereign entity that meet certain 
criteria (as discussed below)--Sec.  628.32(a) and Table 1;
     A sovereign exposure, if an event of sovereign default has 
occurred during the previous 5 years--Sec.  628.32(a)(6) and Table 1;
     An exposure to a foreign bank, if an event of sovereign 
default has occurred during the previous 5 years in the foreign bank's 
home country--Sec.  628.32(d)(2)(iv) and Table 2;
     An exposure to a non-U.S. PSE that meets certain criteria 
(as discussed below)--Sec.  628.32(e)(2), (e)(3), (e)(5) and Tables 3 
and 4;
     An exposure to a PSE, if an event of sovereign default has 
occurred during the previous 5 years in the PSE's home country--Sec.  
628.32(e)(6) and Tables 3 and 4;
     HVCRE exposures--Sec.  628.32(j); and
     The portion of a past due exposure that is not guaranteed 
or that is not secured by financial collateral (except for a sovereign 
exposure or a residential mortgage exposure, both risk-weighted as 
discussed above)--Sec.  628.32(k).
6. Six Hundred-Percent (600%) Risk-Weighted Exposures
     An equity exposure to an investment firm, provided that 
the investment firm meets specified conditions--Sec.  628.52(b).
7. One Thousand Two Hundred Fifty-Percent (1,250%) Risk-Weighted 
Exposures
     Certain high-risk securitization exposures, such as CEIO 
strips--Sec. Sec.  628.41-628.45.
8. Past Due Exposures (90 Days or More Past Due or in Nonaccrual 
Status)
     One hundred (100) percent--residential mortgage 
exposures--Sec.  628.32(g);
     A System institution may assign a risk weight to the 
guaranteed portion of a past due exposure based on the risk weight that 
applies under Sec.  628.36 if the guarantee or credit derivative meets 
the requirements of that section--Sec.  628.32(k)(2);
     A System institution may assign a risk weight to the 
portion of a past due exposure that is collateralized by financial 
collateral based on the risk weight that applies under Sec.  628.37 if 
the financial collateral meets the requirements of that section--Sec.  
628.32(k)(3); and
     One hundred fifty (150) percent--all other past due 
exposures--Sec.  628.32(k).
9. Conversion Factors for Off-Balance Sheet Items--Sec.  628.33
     Zero percent (0%)--the unused portion of a commitment that 
is unconditionally cancellable by the System institution;
     Twenty percent (20%)--
    [cir] Commitment with an original maturity of 14 months or less 
that is not unconditionally cancellable by the System institution; and
    [cir] Self-liquidating, trade-related contingent items that arise 
from the movement of goods, with an original maturity of 14 months or 
less;
     Fifty percent (50%)--
    [cir] Commitments with an original maturity of more than 14 months 
that are not unconditionally cancellable by the System institution; and
    [cir] Transaction-related contingent items, including performance 
bonds, bid bonds, warranties, and performance standby letters of 
credit;
     One hundred percent (100%)--
    [cir] Guarantees;
    [cir] Repurchase agreements (the off-balance sheet component of 
which equals the sum of the current fair values of all positions the 
System institution has sold subject to repurchase);
    [cir] Credit-enhancing representations and warranties that are not 
securitization exposures;
    [cir] Off-balance sheet securities lending transactions (the off-
balance sheet component of which equals the sum of the current fair 
values of all positions the System institution has lent under the 
transaction);
    [cir] Off-balance sheet securities borrowing transactions (the off-
balance sheet component of which equals the sum of the current fair 
values of all non-cash positions the System institution has posted as 
collateral under the transaction);
    [cir] Financial standby letters of credit; and
    [cir] Forward agreements.
10. Over-the-Counter (OTC) Derivative Contracts--Sec.  628.34
    The System institution would determine the risk-based capital 
requirement for a derivative contract by determining the exposure 
amount and then assigning a risk weight based on the counterparty or 
collateral. The exposure amount is the sum of current exposure plus 
potential future credit exposure (PFE). The current credit exposure is 
the greater of 0 or the mark-to-fair value of the derivative contract. 
The PFE is generally the notional amount of the derivative contract 
multiplied by a credit conversion factor for the type of derivative 
contract. Table

[[Page 52864]]

1 to proposed Sec.  628.34 shows the credit conversion factors for 
derivative contracts.
11. Treatment of Cleared Transactions--Sec.  628.35
    The proposal introduces a specific capital treatment for exposures 
to central counterparties (CCPs), including certain transactions 
conducted through clearing members by System institutions that are not 
themselves clearing members of a CCP. Proposed Sec.  628.35 describes 
the capital treatment of cleared transactions and of default fund 
exposures to CCPs, including more favorable capital treatment for 
cleared transactions through CCPs that meet certain criteria.
12. Treatment of Guarantees--Sec.  628.36
    The proposal would allow a System institution to substitute the 
risk weight of an eligible guarantor for the risk weight otherwise 
applicable to the guaranteed exposure. This treatment would apply only 
to eligible guarantees and eligible credit derivatives, and it would 
provide certain adjustments for maturity mismatches, currency 
mismatches, and situations where restructuring is not treated as a 
credit event. To be an eligible guarantee, the guarantee would be 
required to be from an eligible guarantor (as defined in the proposal) 
and would have to satisfy the definitional requirements of eligible 
guarantee.
13. Treatment of Collateralized Transactions--Sec.  628.37
    The proposal allows System institutions to recognize the risk-
mitigating benefits of financial collateral (as defined) in risk-
weighted assets. In all cases, the System institution would be required 
to have a perfected, first priority interest in the financial 
collateral.
    Where the collateral satisfies specified criteria, a System 
institution could use the simple approach--that is, it could apply a 
risk weight to the portion of an exposure that is secured by the fair 
value of financial collateral by using the risk weight of the 
collateral. There is a general risk weight floor of 20 percent.
    For repo-style transactions, eligible margin loans, collateralized 
derivative contracts, and single-product netting sets of such 
transactions, a System institution could instead use the collateral 
haircut approach--that is, it could reduce the amount of exposure to be 
risk weighted (rather than substituting the risk weight of the 
collateral).
    A System institution would be required to use the same approach for 
similar exposures or transactions.
14. Unsettled Transactions--Sec.  628.38
    The proposal provides for a separate risk-based capital requirement 
for transactions involving securities, foreign exchange instruments, 
and commodities that have a risk of delayed settlement or delivery. The 
proposed capital requirement would not, however, apply to certain types 
of transactions, including cleared transactions that are marked-to-
market daily and subject to daily receipt and payment of variation 
margin. The proposal contains separate treatments for delivery-versus-
payment (DvP) and payment-versus-payment (PvP) transactions with a 
normal settlement period, and non-DvP/non-PvP transactions with a 
normal settlement period.
15. Securitization Exposures--Sec. Sec.  628.41-628.45
    The proposed rule introduces due diligence and other requirements 
for System institutions that own, originate, or purchase securitization 
exposures and introduces a new definition of securitization exposure. 
Under the proposed rule, a System institution that originates the 
underlying exposures included in a securitization could have a 
securitization exposure and, if so, would be subject to the 
requirements.
    Note that mortgage-backed pass-through securities (for example, 
those guaranteed by FHLMC or FNMA) do not meet the proposed definition 
of a securitization exposure because they do not involve a tranching of 
credit risk. Rather, only those MBS that involve tranching of credit 
risk would be securitization exposures.
16. Equity Exposures--Sec. Sec.  628.51-628.52
    A System institution would apply a simple risk-weight approach 
(SRWA) to determine the risk weight for equity exposures that are not 
exposures to an investment fund.
17. Equity Exposures to Investment Funds--Sec.  628.53
    The proposals described in this section would apply to equity 
exposures to investment funds such as mutual funds, but not to hedge 
funds or other leveraged investment funds. For exposures to investment 
funds (other than certain equity exposures authorized under Sec.  
615.5140(e), for which the risk-weighted asset amount is equal to their 
adjusted carrying value for the fund), a System institution must use 
one of three risk-weighting approaches: The full-look through approach; 
the simple modified look-through approach; or the alternative modified 
look-through approach.
18. Foreign Exposures--Sec.  628.32(a), (d), and (e), and Tables 1, 2, 
3, and 4
    Under the proposal a System institution would risk weight an 
exposure to a foreign government, foreign public sector entity (PSE), 
and a foreign bank based on the Country Risk Classification (CRC) that 
is applicable to the foreign government, or the home country of the 
foreign PSE or foreign bank. If a foreign country does not have a CRC, 
the risk weighting for its government, PSEs, and banks would depend on 
whether or not the country is a member of the Organization for Economic 
Cooperation and Development (OECD). A sovereign exposure would be 
assigned a 150-percent risk weight immediately upon determining that an 
event of sovereign default has occurred, or if an event of sovereign 
default has occurred during the previous 5 years.
    The risk weights for foreign sovereigns, foreign banks, and foreign 
PSEs are shown in the tables below:

          Table 1--Risk Weights for Foreign Sovereign Exposures
------------------------------------------------------------------------
                                                            Risk weight
                                                           (in percent)
------------------------------------------------------------------------
Sovereign CRC:
    0-1.................................................               0
    2...................................................              20
    3...................................................              50
    4-6.................................................             100
    7...................................................             150
OECD Member with no CRC.................................               0
Non-OECD Member with no CRC.............................             100
Sovereign Default.......................................             150
------------------------------------------------------------------------


          Table 2--Risk Weights for Exposures to Foreign Banks
------------------------------------------------------------------------
                                                            Risk weight
                                                           (in percent)
------------------------------------------------------------------------
Sovereign CRC:
    0-1.................................................              20
    2...................................................              50
    3...................................................             100
    4-7.................................................             150
OECD Member with no CRC.................................              20
Non-OECD Member with no CRC.............................             100
Sovereign Default.......................................             150
------------------------------------------------------------------------


[[Page 52865]]


        Table 3--Risk Weights for Foreign PSE General Obligations
------------------------------------------------------------------------
                                                            Risk weight
                                                           (in percent)
------------------------------------------------------------------------
Sovereign CRC:
    0-1.................................................              20
    2...................................................              50
    3...................................................             100
    4-7.................................................             150
OECD Member with no CRC.................................              20
Non-OECD Member with no CRC.............................             100
Sovereign Default.......................................             150
------------------------------------------------------------------------


        Table 4--Risk Weights for Foreign PSE Revenue Obligations
------------------------------------------------------------------------
                                                            Risk weight
                                                           (in percent)
------------------------------------------------------------------------
Sovereign CRC:
    0-1.................................................              50
    2-3.................................................             100
    4-7.................................................             150
OECD Member with no CRC.................................              50
Non-OECD Member with no CRC.............................             100
Sovereign Default.......................................             150
------------------------------------------------------------------------


        Table 19--Summary Comparison of Current Risk-Weighting Rules Versus Proposed Risk-Weighting Rules
----------------------------------------------------------------------------------------------------------------
                                       Current risk weight (in
               Category                        general)                 Proposal                 Comments
----------------------------------------------------------------------------------------------------------------
                  Risk Weights for On-Balance Sheet Exposures Under Current and Proposed Rules
----------------------------------------------------------------------------------------------------------------
Cash.................................  0%.....................  0%.
Direct exposures to or                 0%.....................  0%.                      .......................
 unconditionally guaranteed by the
 U.S. Government, its central bank,
 or a U.S. Government agency.
Exposures to certain supranational     20%....................  0%.                      .......................
 entities and multilateral
 development banks.
Cash items in the process of           20%....................  20%.                     .......................
 collection.
Conditional exposures to the U.S.      20%....................  20%.                     A conditional exposure
 Government.                                                                              is one that requires
                                                                                          the satisfaction of
                                                                                          certain conditions,
                                                                                          for example, servicing
                                                                                          requirements.
Exposures to Government-sponsored      20% (including           20%--exposures other
 entities (GSEs).                       preferred stock).        than preferred stock
                                                                 and equity exposures.
                                                                100%--preferred stock.   .......................
Most exposures to U.S. depository      20%....................  20%.                     .......................
 institutions or credit unions
 (including those that are OFIs).
Exposures to U.S. public sector        20%--general             20%--general
 entities (PSEs).                       obligations.             obligations.
                                       50%--revenue             50%--revenue
                                        obligations.             obligations..
Exposures to other System              20%....................  20%.                     .......................
 institutions that are not deducted
 from tier 1 or tier 2 capital.
Corporate exposures (including         100%...................  100%.                    .......................
 exposures to OFIs that do not
 satisfy the criteria for a lower
 risk weight and agricultural
 borrowers).
High volatility commercial real        100% (not specifically   150%.                    .......................
 estate (HVCRE) loans.                  addressed).
Past due exposures...................  Generally no change      100%--residential        90 days or more past
                                        when an exposure is      mortgage exposures.      due or in nonaccrual.
                                        past due.
                                       Past due QRLs--100%....  150%--all other          .......................
                                                                 exposures, for the
                                                                 portion that is not
                                                                 guaranteed or secured
                                                                 by financial
                                                                 collateral.
Servicing assets.....................  100% (not specifically   100%--MSAs.              .......................
                                        addressed).
                                       mortgage servicing       (Non-MSAs deducted from
                                        assets (MSAs) and non-   capital).
                                        MSAs.
Deferred tax assets..................  Certain DTAs deducted    100%--DTAs arising from  .......................
                                        from capital.            temporary differences
                                                                 that could be realized
                                                                 through net operating
                                                                 carrybacks.
                                       Other DTAs--100% (not    (Other DTAs deducted
                                        specifically             from capital).
                                        addressed).

[[Page 52866]]

 
Assets not specifically assigned to a  100%...................  100%...................  Includes:
 risk-weight category and not                                                            --borrower loans such
 deducted from tier 1 or tier 2                                                           as agricultural loans
 capital.                                                                                 and consumer loans,
                                                                                          unless qualify for 50%
                                                                                          risk weighting.
                                                                                         --premises, fixed
                                                                                          assets, and other real
                                                                                          estate owned.
Exposures to foreign governments and   0% for direct and        Risk weight depends on   .......................
 their central banks.                   unconditional claims     Country Risk
                                        on OECD governments.     Classification (CRC)
                                       20% for conditional       applicable to the
                                        claims on OECD           sovereign. If there is
                                        governments.             no CRC, depends on
                                       100% for claims on non-   OECD membership. Risk
                                        OECD governments.        weights range between
                                                                 0% and 150%. 150% for
                                                                 a sovereign that has
                                                                 defaulted within the
                                                                 previous 5 years.
Exposures to foreign banks...........  20% for claims on banks  Risk weight depends on   .......................
                                        in OECD countries.       home country's CRC
                                       20% for short-term        rating. If there is no
                                        claims on banks in non-  CRC, depends on OECD
                                        OECD countries.          membership of home
                                       100% for long-term        country. Risk weights
                                        claims on banks in non-  range between 20% and
                                        OECD countries.          150%.
                                                                150% in the case of a
                                                                 sovereign default in
                                                                 the bank's home
                                                                 country.
Claims on foreign PSEs...............  20% for general          Risk weight depends on
                                        obligations of states    the home country's
                                        and political            CRC. If there is no
                                        subdivisions of OECD     CRC, risk depends on
                                        countries.               OECD membership of
                                       50% for revenue           home country. Risk
                                        obligations of states    weights range between
                                        and political            20% and 150% for
                                        subdivisions of OECD     general obligations
                                        countries.               and between 50% and
                                       100% for all              150% for revenue
                                        obligations of states    obligations.
                                        and political           150% for a PSE in a
                                        subdivisions of non-     home country with a
                                        OECD countries.          sovereign default.
MBS, ABS, and structured securities..  Ratings-based approach.  Deduction for the after-
                                                                 tax gain-on-sale of a
                                                                 securitization.
                                                                1,250% risk weight for
                                                                 a CEIO.
                                                                100% for interest-only
                                                                 MBS that are not
                                                                 credit-enhancing.
                                                                System institutions may
                                                                 elect to follow a
                                                                 gross up approach--
                                                                 senior securitization
                                                                 tranches are assigned
                                                                 the risk weight
                                                                 association with the
                                                                 underlying exposures.
                                                                System institutions may
                                                                 instead elect to
                                                                 follow the simplified
                                                                 supervisory formula
                                                                 approach (SSFA)--
                                                                 requires various data
                                                                 inputs to a
                                                                 supervisory formula
                                                                 exposure.
                                                                Alternatively, System    .......................
                                                                 institutions may apply
                                                                 a 1,250% risk weight
                                                                 to any securitization.
Unsettled transactions...............  Not addressed..........  100%, 625%, 937.5%, and  .......................
                                                                 1,250% for DvP or PvP
                                                                 transactions depending
                                                                 on the number of
                                                                 business days past the
                                                                 settlement date.
                                                                1,250% for non-DvP, non-
                                                                 PvP transactions more
                                                                 than 5 days past the
                                                                 settlement date.

[[Page 52867]]

 
                                                                The proposed capital
                                                                 requirement for
                                                                 unsettled transactions
                                                                 would not apply to
                                                                 cleared transactions
                                                                 that are marked-to-
                                                                 market daily and
                                                                 subject to daily
                                                                 receipt and payment of
                                                                 variation margin.
Equity exposures.....................  100%...................  0% risk weight: equity   .......................
                                                                 exposures to any
                                                                 entity whose credit
                                                                 exposures receive a 0%
                                                                 risk weight.
                                                                20%: Equity exposures
                                                                 to a PSE or Farmer Mac.
                                                                100%: Certain equity
                                                                 exposures authorized
                                                                 under Sec.
                                                                 615.5140(e), equity
                                                                 exposures to effective
                                                                 portions of hedge
                                                                 pairs, and equity
                                                                 exposures to non-
                                                                 significant equity
                                                                 investments.
                                                                600%: Equity exposures
                                                                 to investment firms
                                                                 that satisfy certain
                                                                 conditions.
Equity exposures to investment funds.  There is a 20% risk      Except for certain
                                        weight floor on mutual   equity exposures
                                        fund holdings.           authorized under Sec.
                                                                  615.5140(e), choose
                                                                 among three
                                                                 approaches: full look-
                                                                 through; simple
                                                                 modified look-through;
                                                                 and alternative
                                                                 modified look-through.
                                                                Full look-through: Risk
                                                                 weight the assets of
                                                                 the fund (as if owned
                                                                 directly) multiplied
                                                                 by the System
                                                                 institution's
                                                                 proportional ownership
                                                                 in the fund.
                                                                Simple modified look-
                                                                 through: Multiply the
                                                                 System institution's
                                                                 exposure by the risk
                                                                 weight of the highest
                                                                 risk weight asset in
                                                                 the fund.
                                                                Alternative modified
                                                                 look-through: Assign
                                                                 risk weight on a pro
                                                                 rata basis based on
                                                                 the investment limits
                                                                 in the fund's
                                                                 prospectus.
                                                                For certain equity
                                                                 exposures authorized
                                                                 under Sec.
                                                                 615.5140(e), risk-
                                                                 weighted asset amount
                                                                 = adjusted carrying
                                                                 value.
----------------------------------------------------------------------------------------------------------------
                      Credit Conversion Factors (CCF) Under the Current and Proposed Rules
----------------------------------------------------------------------------------------------------------------
CCF for off-balance sheet items......  0% for the unused        0% for the unused        .......................
                                        portion of a             portion of a
                                        commitment with an       commitment that is
                                        original maturity of     unconditionally
                                        14 months or less, or    cancellable by the
                                        which is                 System institution.
                                        unconditionally
                                        cancellable by the
                                        System institution at
                                        any time.
                                       20% for short-term,      20% for the unused
                                        self-liquidating,        portion of a
                                        trade-related            commitment with an
                                        contingent items.        original maturity of
                                                                 14 months or less that
                                                                 is not unconditionally
                                                                 cancellable by the
                                                                 System institution.
                                       50% for the unused       20% for self-
                                        portion of a             liquidating trade-
                                        commitment with an       related contingent
                                        original maturity of     items that arise from
                                        more than 14 months      the movement of goods,
                                        that is not              with an original
                                        unconditionally          maturity of 14 months
                                        cancellable by the       or less.
                                        System institution.

[[Page 52868]]

 
                                       50% for transaction-     50% for the unused
                                        related contingent       portion of a
                                        items (performance       commitment over 14
                                        bonds, bid bonds,        months that is not
                                        warranties, and          unconditionally
                                        standby letters of       cancellable by the
                                        credit).                 System institution.
                                       100% for guarantees,     50% for transaction-
                                        repurchase agreements,   related contingent
                                        securities lending and   items (performance
                                        borrowing                bonds, bid bonds,
                                        transactions,            warranties, and
                                        financial standby        standby letters of
                                        letters of credit, and   credit).
                                        forward agreements.
                                                                100% for guarantees,
                                                                 repurchase agreements,
                                                                 securities lending and
                                                                 borrowing
                                                                 transactions,
                                                                 financial standby
                                                                 letters of credit, and
                                                                 forward agreements.
OTC derivative contracts (except       Calculation of off-      Calculation of off-
 cleared transactions).                 balance sheet credit     balance sheet credit
                                        equivalents based on     equivalents amount
                                        current exposure plus    based on current
                                        potential future         exposure plus
                                        exposure and a set of    potential future
                                        conversion factors.      exposure and a revised
                                                                 set of conversion
                                                                 factors.
                                                                Recognition of credit
                                                                 risk mitigation of
                                                                 collateralized OTC
                                                                 derivative contracts.
Cleared transactions.................  Not specifically         If collateral posted
                                        addressed.               with a qualified
                                                                 central counterparty,
                                                                 and subject to
                                                                 specific requirements,
                                                                 then assign 2 percent;
                                                                 or
                                                                If requirements not
                                                                 met, then assign 4
                                                                 percent.
----------------------------------------------------------------------------------------------------------------
                           Credit Risk Mitigation Under the Current and Proposed Rules
----------------------------------------------------------------------------------------------------------------
Guarantees...........................  Generally recognizes     Recognizes guarantees    Claims conditionally
                                        guarantees provided by   from eligible            guaranteed by the U.S.
                                        central governments,     guarantors, as defined.  government receive a
                                        GSEs, PSEs in OECD      Substitution treatment    risk weight of 20
                                        countries,               allows the System        percent.
                                        multilateral lending     institution to
                                        institutions, regional   substitute the risk
                                        development              weight of the
                                        institutions, U.S.       protection provider
                                        depository               for the risk weight
                                        institutions, foreign    ordinarily assigned to
                                        banks, and qualifying    the exposure.
                                        securities firms in     Applies only to
                                        OECD countries.          eligible guarantees
                                                                 and eligible credit
                                                                 derivatives, and
                                                                 adjusts for maturity
                                                                 mismatches, currency
                                                                 mismatches, and where
                                                                 restructuring is not
                                                                 treated as a credit
                                                                 event.
Collateralized transactions..........  No recognition.........  For financial            Financial collateral
                                                                 collateral only, the     does not include does
                                                                 proposal provides two    not include collateral
                                                                 approaches.              such as real estate or
                                                                                          chattel. In all cases
                                                                                          the System institution
                                                                                          must have a perfected,
                                                                                          1st priority interest.
                                                                1. Simple approach.....  For the simple approach
                                                                A System institution      there must be a
                                                                 may apply a risk         collateral agreement
                                                                 weight to the portion    for at least the life
                                                                 of an exposure that is   of the exposure;
                                                                 secured by the fair      collateral must be
                                                                 value of collateral by   revalued at least
                                                                 using the risk weight    every 6 months;
                                                                 of the collateral--      collateral other than
                                                                 with a general risk      gold must be in the
                                                                 weight floor of 20%.     same currency.
                                                                2. Collateral haircut
                                                                 approach.
                                                                A System institution
                                                                 may use standard
                                                                 supervisory haircuts
                                                                 for eligible margin
                                                                 loans, repo-style
                                                                 transactions, and
                                                                 collateralized
                                                                 derivative contracts.
----------------------------------------------------------------------------------------------------------------


[[Page 52869]]

20. Disclosure Requirements--Sec. Sec.  628.61-628.63 (Including Tables 
1-10)
    The proposed rule would require each System bank, generally on a 
quarterly basis, to make public disclosures related to its capital 
requirements. Disclosures would be required as follows:
    Table 1--Scope of Application--would provide the basic context 
underlying regulatory capital calculations.
    Table 2--Capital Structure--would provide summary information on 
the terms and conditions of the main features of regulatory capital 
instruments. Would also require disclosure of the total amount of CET1, 
tier 1, and total capital, with separate disclosures for deductions and 
adjustments to capital.
    Table 3--Capital Adequacy--would provide information on a System 
bank's approach for categorizing and risk-weighting its exposures, as 
well as the amount of total risk-weighted assets.
    Table 4--Capital Conservation Buffer--would require a System bank 
to disclosure the capital conservation buffer, the eligible retained 
income and any limitations on capital distributions and certain 
discretionary bonus payments, as applicable.
    Table 5--Credit Risk: General Disclosures--would require a System 
bank to disclose information pertaining to its general credit risk.
    Table 6--General Disclosure for Counterparty Credit Risk-Related 
Exposures--would require a System bank to disclose information 
pertaining to its counterparty credit risk.
    Table 7--Credit Risk Mitigation--would require a System bank to 
disclose information pertaining to credit risk mitigation.
    Table 8--Securitization--would provide information to market 
participants on the amount of credit risk transferred and retained by a 
System bank through securitization transactions, the types of products 
involved in the System bank's securitizations, the risks inherent in 
the System bank's securitized assets, the System bank's policies 
regarding credit risk mitigation, and the names of any entities that 
provide external credit assessments of a securitization.\126\ 
Securitization transactions in which the originating System bank does 
not retain any securitization exposure would be shown separately and 
would only be reported for the year of inception of the 
transaction.\127\
---------------------------------------------------------------------------

    \126\ For purposes of these disclosures (and these capital 
regulations), a System bank would be considered to have securitized 
assets if assets that it originated or purchased from third parties 
are included in a securitization.
    \127\ A System bank is authorized to act as an ``originating 
System institution,'' which the proposed regulation would define as 
a System institution that directly or indirectly originated the 
underlying exposures included in a securitization.
---------------------------------------------------------------------------

    Table 9--Equities--would provide market participants with an 
understanding of the types of equity securities held by the System bank 
and how they are valued. Would also provide information on the capital 
allocated to different equity products and the amount of unrealized 
gains and losses.
    Table 10--Interest Rate Risk for Non-Trading Activities--would 
require a System bank to provide certain quantitative and qualitative 
disclosures regarding the System bank's management of interest rate 
risks.

List of Subjects

12 CFR Part 607

    Accounting, Agriculture, Banks, banking, Reporting and 
recordkeeping requirements, Rural areas.

12 CFR Part 614

    Agriculture, Banks, banking, Foreign trade, Reporting and 
recordkeeping requirements, Rural areas.

12 CFR Part 615

    Accounting, Agriculture, Banks, banking, Government securities, 
Investments, Rural areas.

12 CFR Part 620

    Accounting, Agriculture, Banks, banking, Reporting and 
recordkeeping requirements, Rural areas.

12 CFR Part 628

    Accounting, Agriculture, Banks, banking, Capital, Government 
securities, Investments, Rural areas.

    For the reasons stated in the preamble, parts 607, 614, 615, 620, 
and 628 of chapter VI, title 12 of the Code of Federal Regulations are 
proposed to be amended as follows:

PART 607--ASSESSMENT AND APPORTIONMENT OF ADMINISTRATIVE EXPENSES

0
1. The authority citation for part 607 continues to read as follows:

    Authority:  Secs. 5.15, 5.17 of the Farm Credit Act (12 U.S.C. 
2250, 2252) and 12 U.S.C. 3025.

0
2. Section 607.2 is amended by revising paragraph (b) introductory text 
to read as follows:


Sec.  607.2  Definitions.

* * * * *
    (b) Average risk-adjusted asset base means the average of the risk-
adjusted asset base (as defined in Sec.  615.5201 of this chapter) of 
banks, associations, and designated other System entities, calculated 
as follows:
* * * * *

PART 614--LOAN POLICIES AND OPERATIONS

0
3. The authority citation for part 614 continues to read as follows:

    Authority:  42 U.S.C. 4012a, 4104a, 4104b, 4106, and 4128; secs. 
1.3, 1.5, 1.6, 1.7, 1.9, 1.10, 1.11, 2.0, 2.2, 2.3, 2.4, 2.10, 2.12, 
2.13, 2.15, 3.0, 3.1, 3.3, 3.7, 3.8, 3.10, 3.20, 3.28, 4.12, 4.12A, 
4.13B, 4.14, 4.14A, 4.14C, 4.14D, 4.14E, 4.18, 4.18A, 4.19, 4.25, 
4.26, 4.27, 4.28, 4.36, 4.37, 5.9, 5.10, 5.17, 7.0, 7.2, 7.6, 7.8, 
7.12, 7.13, 8.0, 8.5 of the Farm Credit Act (12 U.S.C. 2011, 2013, 
2014, 2015, 2017, 2018, 2019, 2071, 2073, 2074, 2075, 2091, 2093, 
2094, 2097, 2121, 2122, 2124, 2128, 2129, 2131, 2141, 2149, 2183, 
2184, 2201, 2202, 2202a, 2202c, 2202d, 2202e, 2206, 2206a, 2207, 
2211, 2212, 2213, 2214, 2219a, 2219b, 2243, 2244, 2252, 2279a, 
2279a-2, 2279b, 2279c-1, 2279f, 2279f-1, 2279aa, 2279aa-5); sec. 413 
of Pub. L. 100-233, 101 Stat. 1568, 1639.

0
4. Section 614.4351 is amended by revising paragraph (a)(3) to read as 
follows:


Sec.  614.4351  Computation of lending and leasing limit base.

    (a) * * *
    (3) Any amounts of preferred stock not eligible to be included in 
tier 2 capital as defined in Sec.  628.2 must be deducted from the 
lending limit base.
* * * * *

PART 615--FUNDING AND FISCAL AFFAIRS, LOAN POLICIES AND OPERATIONS, 
AND FUNDING OPERATIONS

0
5. The authority citation for part 615 is revised to read as follows:

    Authority:  Secs. 1.5, 1.7, 1.10, 1.11, 1.12, 2.2, 2.3, 2.4, 
2.5, 2.12, 3.1, 3.7, 3.11, 3.25, 4.3, 4.3A, 4.9, 4.14B, 4.25, 5.9, 
5.17, 6.20, 6.26, 8.0, 8.3, 8.4, 8.6, 8.7, 8.8, 8.10, 8.12 of the 
Farm Credit Act (12 U.S.C. 2013, 2015, 2018, 2019, 2020, 2073, 2074, 
2075, 2076, 2093, 2122, 2128, 2132, 2146, 2154, 2154a, 2160, 2202b, 
2211, 2243, 2252, 2278b, 2278b-6, 2279aa, 2279aa-3, 2279aa-4, 
2279aa-6, 2279aa-7, 2279aa-8, 2279aa-10, 2279aa-12); sec. 301(a), 
Pub. L. 100-233, 101 Stat. 1568, 1608; sec. 939A, Pub. L. 111-203, 
124 Stat. 1326, 1887 (15 U.S.C. 78o-7 note).

0
6. Section 615.5143 is amended by revising paragraphs (a)(3) and (b)(4) 
to read as follows:


Sec.  615.5143  Management of ineligible investments and reservation of 
authority to require divestiture.

    (a) * * *

[[Page 52870]]

    (3) It must be excluded as collateral under Sec.  615.5050.
    (b) * * *
    (4) You may continue to hold the investment as collateral under 
Sec.  615.5050 at the lower of cost or market value.
* * * * *
0
7. Sections 615.5200 and 615.5201 are revised to read as follows:


Sec.  615.5200   Capital planning.

    (a) The Board of Directors of each System institution shall 
determine the amount of capital needed to assure the System 
institution's continued financial viability and to provide for growth 
necessary to meet the needs of its borrowers. The minimum capital 
standards specified in this part and part 628 of this chapter are not 
meant to be adopted as the optimal capital level in the System 
institution's capital adequacy plan. Rather, the standards are intended 
to serve as minimum levels of capital that each System institution must 
maintain to protect against the credit and other general risks inherent 
in its operations.
    (b) Each Board of Directors shall establish, adopt, and maintain a 
formal written capital adequacy plan as a part of the financial plan 
required by Sec.  618.8440 of this chapter. The plan shall include the 
capital targets that are necessary to achieve the System institution's 
capital adequacy goals as well as the minimum permanent capital, common 
equity tier 1 capital, tier 1 capital, total capital, and tier 1 
leverage ratio (including the unallocated retained earnings (URE) and 
URE equivalents minimum) standards. The plan shall address any 
projected dividends, patronage distribution, equity retirements, or 
other action that may decrease the System institution's capital or the 
components thereof for which minimum amounts are required by this part. 
The plan shall set forth the circumstances in which retirements or 
revolvements of stock or equities may occur. In addition to factors 
that must be considered in meeting the minimum standards, the board of 
directors shall also consider at least the following factors in 
developing the capital adequacy plan:
    (1) Capability of management and the board of directors;
    (2) Quality of operating policies, procedures, and internal 
controls;
    (3) Quality and quantity of earnings;
    (4) Asset quality and the adequacy of the allowance for losses to 
absorb potential loss within the loan and lease portfolios;
    (5) Sufficiency of liquid funds;
    (6) Needs of a System institution's customer base; and
    (7) Any other risk-oriented activities, such as funding and 
interest rate risks, potential obligations under joint and several 
liability, contingent and off-balance-sheet liabilities or other 
conditions warranting additional capital.


Sec.  615.5201  Definitions.

    For the purpose of this subpart, the following definitions apply:
    Nonagreeing association means an association that does not have an 
allotment agreement in effect with a Farm Credit Bank or agricultural 
credit bank pursuant to Sec.  615.5207(b)(2).
    Permanent capital, subject to adjustments as described in Sec.  
615.5207, includes:
    (1) Current year earnings;
    (2) Allocated and unallocated earnings (which, in the case of 
earnings allocated in any form by a System bank to any association or 
other recipient and retained by the bank, must be considered, in whole 
or in part, permanent capital of the bank or of any such association or 
other recipient as provided under an agreement between the bank and 
each such association or other recipient);
    (3) All surplus excluding accumulated other comprehensive income, 
except defined benefits pension fund net assets as reported under GAAP;
    (4) Stock issued by a System institution, except:
    (i) Stock that may be retired by the holder of the stock on 
repayment of the holder's loan, or otherwise at the option or request 
of the holder;
    (ii) Stock that is protected under section 4.9A of the Act or is 
otherwise not at risk;
    (iii) Farm Credit Bank equities required to be purchased by Federal 
land bank associations in connection with stock issued to borrowers 
that is protected under section 4.9A of the Act;
    (iv) Capital subject to revolvement, unless:
    (A) The bylaws of the System institution clearly provide that there 
is no express or implied right for such capital to be retired at the 
end of the revolvement cycle or at any other time; and
    (B) The System institution clearly states in the notice of 
allocation that such capital may only be retired at the sole discretion 
of the board of directors in accordance with statutory and regulatory 
requirements and that no express or implied right to have such capital 
retired at the end of the revolvement cycle or at any other time is 
thereby granted;
    (5) [Reserved]
    (6) Financial assistance provided by the Farm Credit System 
Insurance Corporation that the FCA determines appropriate to be 
considered permanent capital; and
    (7) Any other debt or equity instruments or other accounts the FCA 
has determined are appropriate to be considered permanent capital. The 
FCA may permit one or more System institutions to include all or a 
portion of such instrument, entry, or account as permanent capital, 
permanently or on a temporary basis, for purposes of this part.
    Preferred stock means stock that is permanent capital and has 
dividend and/or liquidation preference over common stock.
    Risk-adjusted asset base means standardized total risk-weighted 
assets as defined in Sec.  628.2 of this chapter, adjusted in 
accordance with Sec.  615.5207 and excluding the deduction for that 
amount of the System institution's allowance for loan losses that is 
not included in tier 2 capital.
    Stock means stock and participation certificates.
    System bank means a Farm Credit bank as defined in Sec.  619.9140 
of this chapter, which includes Farm Credit Banks, agricultural credit 
banks, and banks for cooperatives.
    System institution means a System bank, an association of the Farm 
Credit System, Farm Credit Leasing Services Corporation, and their 
successors, and any other institution chartered by the FCA that the FCA 
determines should be considered a System institution for the purposes 
of this subpart.
    Term preferred stock means preferred stock with an original 
maturity of at least 5 years and on which, if cumulative, the board of 
directors has the option to defer dividends, provided that, at the 
beginning of each of the last 5 years of the term of the stock, the 
amount that is eligible to be counted as permanent capital is reduced 
by 20 percent of the original amount of the stock (net of redemptions).
0
8. Sections 615.5206, 615.5207, and 615.5208 are revised to read as 
follows:


Sec.  615.5206  Permanent capital ratio computation.

    (a) The System institution's permanent capital ratio is determined 
on the basis of the financial statements of the System institution 
prepared in accordance with generally accepted accounting principles.
    (b) The System institution's asset base and permanent capital are 
computed using average daily balances for the most recent 3 months.

[[Page 52871]]

    (c) The System institution's permanent capital ratio is calculated 
by dividing the System institution's permanent capital, adjusted in 
accordance with Sec.  615.5207 (the numerator), by the risk-adjusted 
asset base (the denominator) as defined in Sec.  615.5201, to derive a 
ratio expressed as a percentage.


Sec.  615.5207  Capital adjustments and associated reductions to 
assets.

    For the purpose of computing the System institution's permanent 
capital ratio, the following adjustments must be made prior to 
assigning assets to risk-weight categories and computing the ratio:
    (a) Where two System institutions have stock investments in each 
other, such reciprocal holdings must be eliminated to the extent of the 
offset. If the investments are equal in amount, each System institution 
must deduct from its assets and its total capital an amount equal to 
the investment. If the investments are not equal in amount, each System 
institution must deduct from its total capital and its assets an amount 
equal to the smaller investment. The elimination of reciprocal holdings 
required by this paragraph must be made prior to making the other 
adjustments required by this section.
    (b) Where an association has an equity investment in a Farm Credit 
bank, the double counting of capital is eliminated in the following 
manner:
    (1) For a purchased investment, each association must deduct its 
investment in a System bank from its permanent capital. Each System 
bank will consider all purchased stock investments as its permanent 
capital.
    (2) For an allocated investment, each System bank and each of its 
affiliated associations may enter into an agreement that specifies, for 
computing permanent capital, a dollar amount and/or percentage 
allotment of the association's allocated investment between the bank 
and the association. Section 615.5208 provides conditions for allotment 
agreements or defines allotments in the absence of such agreements.
    (c) A Farm Credit Bank or agricultural credit bank and a recipient, 
other than an association, of allocated earnings from such bank may 
enter into an agreement specifying a dollar amount and/or percentage 
allotment of the recipient's allocated earnings in the bank between the 
bank and the recipient. Such agreement must comply with the provisions 
of paragraph (b) of this section, except that, in the absence of an 
agreement, the allocated investment must be allotted 100 percent to the 
allocating bank and 0 percent to the recipient. All equities of the 
bank that are purchased by a recipient are considered as permanent 
capital of the issuing bank.
    (d) A bank for cooperatives or an agricultural credit bank and a 
recipient of allocated earnings from such bank may enter into an 
agreement specifying a dollar amount and/or percentage allotment of the 
recipient's allocated earnings in the bank between the bank and the 
recipient. Such agreement must comply with the provisions of paragraph 
(b) of this section, except that, in the absence of an agreement, the 
allocated investment must be allotted 100 percent to the allocating 
bank and 0 percent to the recipient. All equities of a bank that are 
purchased by a recipient shall be considered as permanent capital of 
the issuing bank.
    (e) Where a System institution has an equity investment in another 
System institution to capitalize a loan participation interest, the 
investing System institution must deduct from its permanent capital an 
amount equal to its investment in the participating System institution.
    (f) Where a System institution has an equity investment in a 
service corporation chartered under section 4.25 of the Act or the 
Funding Corporation chartered under section 4.9 of the Act, the 
investing System institution must deduct from its permanent capital an 
amount equal to its investment in the service corporation or the 
Funding Corporation, respectively.
    (g) Each System institution must deduct from its total capital an 
amount equal to all goodwill, whenever acquired.
    (h) To the extent a System institution has deducted its investment 
in another System institution from its permanent capital, the 
investment may be eliminated from its asset base.
    (i) Where a Farm Credit bank and an association have an enforceable 
written agreement to share losses on specifically identified assets on 
a predetermined quantifiable basis, such assets must be counted in each 
System institution's risk-adjusted asset base in the same proportion as 
the System institutions have agreed to share the loss.
    (j) The permanent capital of a System institution must exclude any 
defined benefit pension fund net asset as reported under GAAP.
    (k) For purposes of calculating capital ratios under this part, 
deferred-tax assets are subject to the conditions, limitations, and 
restrictions described in Sec.  628.22(a)(3) of this chapter.
    (l) [Reserved]


Sec.  615.5208  Allotment of allocated investments.

    (a) The following conditions apply to agreements that a System bank 
enters into with an affiliated association pursuant to Sec.  
615.5207(b)(2):
    (1) The agreement must be for a term of 1 year or longer.
    (2) The agreement must be entered into on or before its effective 
date.
    (3) The agreement may be amended according to its terms, but no 
more frequently than annually except in the event that a party to the 
agreement is merged or reorganized.
    (4) On or before the effective date of the agreement, a certified 
copy of the agreement, and any amendments thereto, must be sent to the 
field office of the Farm Credit Administration responsible for 
examining the System institution. A copy must also be sent within 30 
calendar days of adoption to the bank's other affiliated associations.
    (5) Unless the parties otherwise agree, if the System bank and the 
association have not entered into a new agreement on or before the 
expiration of an existing agreement, the existing agreement will 
automatically be extended for another 12 months, unless either party 
notifies the Farm Credit Administration in writing of its objection to 
the extension prior to the expiration of the existing agreement.
    (b) In the absence of an agreement between a System bank and one or 
more associations, or in the event that an agreement expires and at 
least one party has timely objected to the continuation of the terms of 
its agreement, the following formula applies with respect to the 
allocated investments held by those associations with which there is no 
agreement (nonagreeing associations), and does not apply to the 
allocated investments held by those associations with which the bank 
has an agreement (agreeing associations):
    (1) The allotment formula must be calculated annually.
    (2) The permanent capital ratio of the System bank must be computed 
as of the date that the existing agreement terminates, using a 3-month 
average daily balance, excluding the allocated investment from 
nonagreeing associations but including any allocated investments of 
agreeing associations that are allotted to the bank under applicable 
allocation agreements. The permanent capital ratio of each nonagreeing 
association must be computed as of the same date using a 3-month 
average daily balance, and must be computed excluding its allocated 
investment in the bank.
    (3) If the permanent capital ratio for the System bank calculated 
in

[[Page 52872]]

accordance with Sec.  615.5208(b)(2) is 7 percent or above, the 
allocated investment of each nonagreeing association whose permanent 
capital ratio calculated in accordance with Sec.  615.5208(b)(2) is 7 
percent or above must be allotted 50 percent to the bank and 50 percent 
to the association.
    (4) If the permanent capital ratio of the System bank calculated in 
accordance with Sec.  615.5208(b)(2) is 7 percent or above, the 
allocated investment of each nonagreeing association whose capital 
ratio is below 7 percent must be allotted to the association until the 
association's capital ratio reaches 7 percent or until all of the 
investment is allotted to the association, whichever occurs first. Any 
remaining unallotted allocated investment must be allotted 50 percent 
to the bank and 50 percent to the association.
    (5) If the permanent capital ratio of the System bank calculated in 
accordance with Sec.  615.5208(b)(2) is less than 7 percent, the amount 
of additional capital needed by the bank to reach a permanent capital 
ratio of 7 percent must be determined, and an amount of the allocated 
investment of each nonagreeing association must be allotted to the 
System bank, as follows:
    (i) If the total of the allocated investments of all nonagreeing 
associations is greater than the additional capital needed by the bank, 
the allocated investment of each nonagreeing association must be 
multiplied by a fraction whose numerator is the amount of capital 
needed by the bank and whose denominator is the total amount of 
allocated investments of the nonagreeing associations, and such amount 
must be allotted to the bank. Next, if the permanent capital ratio of 
any nonagreeing association is less than 7 percent, a sufficient amount 
of unallotted allocated investment must then be allotted to each 
nonagreeing association, as necessary, to increase its permanent 
capital ratio to 7 percent, or until all such remaining investment is 
allotted to the association, whichever occurs first. Any unallotted 
allocated investment still remaining must be allotted 50 percent to the 
bank and 50 percent to the nonagreeing association.
    (ii) If the additional capital needed by the bank is greater than 
the total of the allocated investments of the nonagreeing associations, 
all of the remaining allocated investments of the nonagreeing 
associations must be allotted to the bank.


Sec. Sec.  615.5209, 615.5210, 615.5211, and 615.5212   [Removed and 
reserved]

0
9. Sections 615.5209, 615.5210, 615.5211, and 615.5212 are removed and 
reserved.
0
10. Section 615.5220 is revised to read as follows:


Sec.  615.5220  Capitalization bylaws.

    (a) The board of directors of each System bank and association 
shall, pursuant to section 4.3A of the Farm Credit Act of 1971 (Act), 
adopt capitalization bylaws, subject to the approval of its voting 
shareholders that set forth:
    (1) Classes of equities and the manner in which they shall be 
issued, transferred, converted and retired;
    (2) For each class of equities, a description of the class(es) of 
persons to whom such stock may be issued, voting rights, dividend 
rights and preferences, and priority upon liquidation, including 
rights, if any, to share in the distribution of the residual estate;
    (3) The number of shares and par value of equities authorized to be 
issued for each class of equities. However, the bylaws need not state a 
number or value limit for these equities:
    (i) Equities that are required to be purchased as a condition of 
obtaining a loan, lease, or related service.
    (ii) Non-voting stock resulting from the conversion of voting stock 
due to repayment of a loan.
    (iii) Non-voting equities that are issued to an association's 
funding bank in conjunction with any agreement for a transfer of 
capital between the association and the bank.
    (iv) Equities resulting from the distribution of earnings.
    (4) For Farm Credit Banks, agricultural credit banks (with respect 
to loans other than to cooperatives), and associations, the percentage 
or dollar amount of equity investment (which may be expressed as a 
range within which the board of directors may from time to time 
determine the requirement) that will be required to be purchased as a 
condition for obtaining a loan, which amount shall be not less than, 2 
percent of the loan amount or $1,000, whichever is less;
    (5) For banks for cooperatives and agricultural credit banks (with 
respect to loans to cooperatives), the percentage or dollar amount of 
equity or guaranty fund investment (which may be expressed as a range 
within which the board may from time to time determine the requirement) 
that serves as a target level of investment in the bank for patronage-
sourced business, which amount shall not be less than, 2 percent of the 
loan amount or $1,000, whichever is less;
    (6) The manner in which equities will be retired, including a 
provision stating that equities other than those protected under 
section 4.9A of the Act are retireable at the sole discretion of the 
board, provided minimum permanent capital adequacy standards 
established in subpart H of this part are met;
    (7) The manner in which earnings will be allocated and distributed, 
including the basis on which patronage refunds will be paid, which 
shall be in accord with cooperative principles; and
    (8) For Farm Credit banks, the manner in which the capitalization 
requirements of the Farm Credit bank shall be allocated and equalized 
from time to time among its owners.
    (b) The board of directors of each service corporation (including 
the Farm Credit Leasing Services Corporation) shall adopt 
capitalization bylaws, subject to the approval of its voting 
shareholders, that set forth the requirements of paragraphs (a)(1), 
(a)(2), and (a)(3) of this section to the extent applicable. Such 
bylaws shall also set forth the manner in which equities will be 
retired and the manner in which earnings will be distributed.
0
11. Section 615.5240 is revised to read as follows:


Sec.  615.5240  Capital requirements.

    (a) The capitalization bylaws shall enable the institution to meet 
the capital adequacy standards established under subpart H of this 
part, part 628 of this chapter, and the capital requirements 
established by the board of directors of the institution.
    (b) In order to qualify as permanent capital, equities issued under 
the bylaws must meet the following requirements:
    (1) Retirement must be solely at the discretion of the board of 
directors and not upon a date certain (other than the original maturity 
date of preferred stock) or upon the happening of any event, such as 
repayment of the loan, and not pursuant to any automatic retirement or 
revolvement plan;
    (2) Retirement must be at not more than book value;
    (3) The institution must have made the disclosures required by this 
subpart;
    (4) For common stock and participation certificates, dividends must 
be noncumulative and payable only at the discretion of the board; and
    (5) For cumulative preferred stock, the board of directors must 
have discretion to defer payment of dividends.
0
12. Sections 615.5250 and 615.5255 are revised to read as follows:

[[Page 52873]]

Sec.  615.5250  Disclosure requirements for sales of borrower stock.

    (a) For sales of borrower stock, which for this subpart means 
equities purchased as a condition for obtaining a loan, an institution 
must provide a prospective borrower with the following documents prior 
to loan closing:
    (1) The institution's most recent annual report filed under part 
620 of this chapter;
    (2) The institution's most recent quarterly report filed under part 
620 of this chapter, if more recent than the annual report;
    (3) A copy of the institution's capitalization bylaws; and
    (4) A written description of the terms and conditions under which 
the equity is issued. In addition to specific terms and conditions, the 
description must disclose:
    (i) That the equity is an at-risk investment and not a compensating 
balance;
    (ii) That the equity is retireable only at the discretion of the 
board of directors, consistent with the institution's bylaws, and only 
if minimum capital standards established under subpart H of this part 
and part 628 are met;
    (iii) Whether the institution presently meets its minimum capital 
standards established under subpart H of this part and part 628;
    (iv) Whether the institution knows of any reason the institution 
may not meet its capital standards on the next earnings distribution 
date; and
    (v) The rights, if any, to share in patronage distributions.
    (b) Notwithstanding the provisions of paragraph (a) of this 
section, no materials previously provided to a purchaser (except the 
disclosures required by paragraph (a)(4) of this section) need be 
provided again unless the purchaser requests such materials.


Sec.  615.5255  Disclosure and review requirements for sales of other 
equities.

    (a) A bank, association, or service corporation must submit a 
proposed disclosure statement to the Farm Credit Administration (FCA) 
for review and clearance prior to the proposed sale of any other 
equities, which for this subpart means equities not purchased as a 
condition for obtaining a loan.
    (b) An institution may not offer to sell other equities until a 
disclosure statement is reviewed and cleared by the FCA.
    (c) A disclosure statement must include:
    (1) All of the information required by part 620 of this chapter in 
the annual report to shareholders as of a date within 135 days of the 
proposed sale. An institution may incorporate by reference its most 
recent annual report to shareholders and the most recent quarterly 
report filed with the FCA in satisfaction of this requirement;
    (2) The information required by Sec.  615.5250(a)(3) and (a)(4); 
and
    (3) A discussion of the intended use of the sale proceeds.
    (d) An institution is not required to provide the materials 
identified in paragraphs (c)(1) and (c)(2) of this section to a 
purchaser who previously received them unless the purchaser requests 
it.
    (e) For any class of stock where each purchaser and each subsequent 
transferee acquires at least $250,000 of the stock and meets the 
definition of ``accredited investor'' or ``qualified institutional 
buyer'' contained in 17 CFR 230.501 and 230.144A (or successor 
provisions), a disclosure statement submitted pursuant to this section 
is deemed reviewed and cleared by the FCA and an institution may treat 
stock that meets all requirements of part 615 as permanent capital for 
the purpose of meeting the minimum permanent capital standards 
established under subpart H, unless the FCA notifies the institution to 
the contrary within 30 days of receipt of a complete disclosure 
statement submission. A complete disclosure statement submission 
includes the proposed disclosure statement plus any additional 
materials requested by the FCA.
    (f) For all other issuances, a disclosure statement submitted 
pursuant to this section is deemed cleared by the FCA, and an 
institution may treat stock that meets all requirements of part 615 as 
permanent capital for the purpose of meeting the minimum permanent 
capital standards established under subpart H unless the FCA notifies 
the institution to the contrary within 60 days of receipt of a complete 
disclosure statement submission. A complete disclosure statement 
submission includes the proposed disclosure statement plus any 
additional materials requested by the FCA.
    (g) Upon request, the FCA will inform the institution how it will 
treat the proposed issuance for other regulatory capital ratios or 
computations.
    (h) No institution, officer, director, employee, or agent shall, in 
connection with the sale of equities, make any disclosure, through a 
disclosure statement or otherwise, that is inaccurate or misleading, or 
omit to make any statement needed to prevent other disclosures from 
being misleading.
    (i) Each bank and association must establish a method to disclose 
and make information on insider preferred stock purchases and 
retirements readily available to the public. At a minimum, each 
institution offering preferred stock must make this information 
available upon request.
    (j) The requirements of this section do not apply to the sale of 
Farm Credit System institution equities to:
    (1) Other Farm Credit System institutions,
    (2) Other financing institutions in connection with a lending or 
discount relationship, or
    (3) Non-Farm Credit System lenders that purchase equities in 
connection with a loan participation transaction.
    (k) In addition to the requirements of this section, each 
institution is responsible for ensuring its compliance with all 
applicable Federal and state securities laws.
0
13. Section 615.5270 is revised to read as follows:


Sec.  615.5270  Retirement of other equities.

    (a) Equities other than eligible borrower stock shall be retired at 
not more than their book value.
    (b) Subject to the redemption restrictions in part 628 of this 
chapter, no equities shall be retired, except pursuant to Sec. Sec.  
615.5280 and 615.5290 or term stock at its stated maturity, unless 
after retirement the institution would continue to meet the minimum 
permanent capital standards established under subpart H of this part.
    (c) A bank, association, or service corporation board of directors 
may delegate authority to retire at-risk stock to institution 
management if:
    (1) The board has determined that the institution's capital 
position is adequate;
    (2) All retirements are in accordance with applicable provisions of 
part 628 of this chapter and the institution's capital adequacy plan or 
capital restoration plan;
    (3) The institution's permanent capital ratio will be in excess of 
9 percent and the applicable capital conservation buffer set forth in 
Sec.  628.11 of this chapter will be at or above 2.5 percent after any 
retirements;
    (4) The institution will continue to satisfy all applicable 
regulatory capital standards after any retirements; and
    (5) Management reports the aggregate amount and net effect of stock 
purchases and retirements to the board of directors each quarter.
    (d) Each board of directors of a bank, association, or service 
corporation that issues preferred stock must adopt a written policy 
covering the retirement of preferred stock that complies with this 
paragraph and part 628 of this chapter

[[Page 52874]]

as applicable. The policy must, at a minimum:
    (1) Establish any delegations of authority to retire preferred 
stock and the conditions of delegation, which must meet the 
requirements of paragraph (c) of this section and include minimum 
levels for regulatory capital standards as applicable and commensurate 
with the volatility of the preferred stock.
    (2) Identify limitations on the amount of stock that may be retired 
during a single quarterly (or shorter) time period;
    (3) Ensure that all stockholder requests for retirement are treated 
fairly and equitably;
    (4) Prohibit any insider, including institution officers, 
directors, employees, or agents, from retiring any preferred stock in 
advance of the release of material non-public information concerning 
the institution to other stockholders; and
    (5) Establish when insiders may retire their preferred stock.
    (e) The institution's board must review its policy at least 
annually to ensure that it continues to be appropriate for the 
institution's current financial condition and consistent with its long-
term goals established in its capital adequacy plan.
0
14. Section 615.5290 is revised to read as follows:


Sec.  615.5290  Retirement of capital stock and participation 
certificates in event of restructuring.

    (a) If a Farm Credit Bank or agricultural credit bank forgives and 
writes off, under Sec.  617.7415 of this chapter, any of the principal 
outstanding on a loan made to any borrower, where appropriate the 
Federal land bank association of which the borrower is a member and 
stockholder shall cancel the same dollar amount of borrower stock held 
by the borrower in respect of the loan, up to the total amount of such 
stock, and to the extent provided for in the bylaws of the Bank 
relating to its capitalization, the Farm Credit Bank or agricultural 
credit bank shall retire an equal amount of stock owned by the Federal 
land bank association.
    (b) If an association forgives and writes off, under Sec.  617.7415 
of this chapter, any of the principal outstanding on a loan made to any 
borrower, the association shall cancel the same dollar amount of 
borrower stock held by the borrower in respect of the loan, up to the 
total amount of such loan.
    (c) Notwithstanding paragraphs (a) and (b) of this section, the 
borrower shall be entitled to retain at least one share of stock to 
maintain the borrower's membership and voting interest.

Subpart K [Removed and reserved]

0
15. Subpart K, consisting of Sec. Sec.  615.5301, 615.5330, 615.5335, 
and 615.5336, is removed and reserved.
0
16. Section 615.5350 is amended by revising paragraph (a) to read as 
follows:


Sec.  615.5350  General--applicability.

    (a) The rules and procedures specified in this subpart are 
applicable to a proceeding to establish required minimum capital ratios 
that would otherwise be applicable to an institution under Sec. Sec.  
615.5205 and 628.10 of this chapter. The Farm Credit Administration is 
authorized to establish such minimum capital requirements for an 
institution as the Farm Credit Administration, in its discretion, deems 
to be necessary or appropriate in light of the particular circumstances 
of the institution. Proceedings under this subpart also may be 
initiated to require an institution having capital ratios greater than 
those set forth in Sec. Sec.  615.5205 or 628.10 of this chapter to 
continue to maintain those higher ratios.
* * * * *
0
17. Section 615.5352 is amended by revising paragraph (a) to read as 
follows:


Sec.  615.5352  Procedures.

    (a) Notice. When the Farm Credit Administration determines that 
minimum capital ratios greater than those set forth in Sec. Sec.  
615.5205 or 628.10 of this chapter are necessary or appropriate for a 
particular institution, the Farm Credit Administration will notify the 
institution in writing of the proposed minimum capital ratios and the 
date by which they should be reached (if applicable) and will provide 
an explanation of why the ratios proposed are considered necessary or 
appropriate for the institution.
* * * * *
0
18. Section 615.5354 is revised to read as follows:


Sec.  615.5354  Enforcement.

    An institution that does not have or maintain the minimum capital 
ratios applicable to it, whether required in subpart H of this part and 
part 628 of this chapter, in a decision pursuant to this subpart, in a 
written agreement or temporary or final order under part C of title V 
of the Act, or in a condition for approval of an application, or an 
institution that has failed to submit or comply with an acceptable plan 
to attain those ratios, will be subject to such administrative action 
or sanctions as the Farm Credit Administration considers appropriate. 
These sanctions may include the issuance of a capital directive 
pursuant to subpart M of this part or other enforcement action, 
assessment of civil money penalties, and/or the denial or condition of 
applications.
0
19. Section 615.5355 is amended by revising paragraph (a) introductory 
text to read as follows:


Sec.  615.5355  Purpose and scope.

    (a) This subpart is applicable to proceedings by the Farm Credit 
Administration to issue a capital directive under sections 4.3(b) and 
4.3A(e) of the Act. A capital directive is an order issued to an 
institution that does not have or maintain capital at or greater than 
the minimum ratios set forth in Sec. Sec.  615.5205 and 628.10 of this 
chapter; or established for the institution under subpart L of this 
part, by a written agreement under part C of title V of the Act, or as 
a condition for approval of an application. A capital directive may 
order the institution to:
* * * * *

PART 620--DISCLOSURE TO SHAREHOLDERS

0
20. The authority citation for part 620 continues to read as follows:

    Authority:  Secs. 4.3, 4.3A, 4.19, 5.9, 5.17, 5.19 of the Farm 
Credit Act (12 U.S.C. 2154, 2154a, 2207, 2243, 2252, 2254); sec. 424 
of Pub. L. 100-233, 101 Stat. 1568, 1656; sec. 514 of Pub. L. 102-
552, 106 Stat. 4102.

0
21. Section 620.5 is amended by revising paragraph (d)(1)(ix) to read 
as follows:


Sec.  620.5  Contents of the annual report to shareholders.

* * * * *
    (d) * * *
    (1) * * *
    (ix) The statutory and regulatory restriction regarding retirement 
of stock and distribution of earnings pursuant to Sec.  615.5215, and 
any requirements to add capital under a plan approved by the Farm 
Credit Administration pursuant to Sec. Sec.  615.5350, 615.5351, 
615.5353, or 615.5357 of this chapter.
* * * * *
0
22. Section 620.17 is revised to read as follows:


Sec.  620.17  Special notice provisions for events related to 
noncompliance with minimum regulatory capital ratios.

    (a) For purposes of this section, ``regulatory capital ratios'' 
include the capital ratios specified in Sec.  628.10 of this chapter 
and the permanent capital

[[Page 52875]]

standard prescribed under Sec.  615.5205 of this chapter.
    (b) When a Farm Credit bank or association determines that it is 
not in compliance with one or more applicable minimum regulatory 
capital ratios, that institution must prepare and provide to its 
shareholders and the FCA a notice stating that the institution has 
initially determined it is not in compliance with the minimum 
regulatory capital ratio or ratios. Such notice must be given within 30 
days following the monthend.
    (c) When notice is given under paragraph (b) of this section, the 
institution must also notify its shareholders and the FCA when the 
regulatory capital ratio or ratios that are the subject of such notice 
decrease by one half of 1 percent or more from the level reported in 
the original notice, or from that reported in a subsequent notice 
provided under this paragraph. This notice must be given within 45 days 
following the end of every quarter at which the institution's 
regulatory capital ratio or ratios decreases as specified.
    (d) Each institution required to prepare a notice under paragraph 
(b) or (c) of this section shall provide the notice to shareholders or 
publish it in any publication with circulation wide enough to be 
reasonably assured that all of the institution's shareholders have 
access to the information in a timely manner. The information required 
to be included in this notice must be conspicuous, easily 
understandable, and not misleading.
    (e) A notice, at a minimum, shall include:
    (1) A statement that:
    (i) Briefly describes the regulatory capital ratios established by 
the FCA and the notice requirement of paragraph (b) of this section;
    (ii) Indicates the institution's current level of capital; and
    (iii) Notifies shareholders that the institution's capital is below 
the FCA minimum regulatory capital ratio or ratios.
    (2) A statement of the effect that noncompliance has had on the 
institution and its shareholders, including whether the institution is 
currently prohibited by statute or regulation from retiring stock or 
distributing earnings or whether the FCA has issued a capital directive 
or other enforcement action to the institution.
    (3) A complete description of any event(s) that may have 
significantly contributed to the institution's noncompliance with the 
minimum regulatory capital ratio or ratios.
    (4) A statement that the institution is required by regulation to 
provide another notice to shareholders within 45 days following the end 
of any subsequent quarter at which the regulatory capital ratio or 
ratios decrease by one half of 1 percent or more from the level 
reported in the notice.
0
23. Part 628 is added to read as follows:

PART 628--CAPITAL ADEQUACY OF SYSTEM INSTITUTIONS

Subpart A--General Provisions
Sec.
628.1 Purpose, applicability, and reservations of authority.
628.2 Definitions.
628.3 Operational requirements for certain exposures.
628.4-628.9 [Reserved]
Subpart B--Capital Ratio Requirements and Buffers
628.10 Minimum capital requirements.
628.11 Capital conservation buffer.
628.12-628.19 [Reserved]
Subpart C--Definition of Capital
628.20 Capital components and eligibility criteria for regulatory 
capital instruments.
628.21 [Reserved]
628.22 Regulatory capital adjustments and deductions.
628.23 Limits on third party capital.
628.24-628.29 [Reserved]
Subpart D--Risk-Weighted Assets--Standardized Approach
628.30 Applicability.

Risk-Weighted Assets for General Credit Risk

628.31 Mechanics for calculating risk-weighted assets for general 
credit risk.
628.32 General risk weights.
628.33 Off-balance sheet exposures.
628.34 OTC derivative contracts.
628.35 Cleared transactions.
628.36 Guarantees and credit derivatives: substitution treatment.
628.37 Collateralized transactions.

Risk-Weighted Assets for Unsettled Transactions

628.38 Unsettled transactions.
628.39 through 628.40 [Reserved]

Risk-Weighted Assets for Securitization Exposures

628.41 Operational requirements for securitization exposures.
628.42 Risk-weighted assets for securitization exposures.
628.43 Simplified supervisory formula approach (SSFA) and the gross-
up approach.
628.44 Securitization exposures to which the SSFA and gross-up 
approach do not apply.
628.45 Recognition of credit risk mitigants for securitization 
exposures.

Risk-Weighted Assets for Equity Exposures

628.51 Introduction and exposure measurement.
628.52 Simple risk-weight approach (SRWA).
628.53 Equity exposures to investment funds.
628.54 through 628.60 [Reserved]

Disclosures

628.61 Purpose and scope.
628.62 Disclosure requirements.
628.63 Disclosures.
628.64 through 628.99 [Reserved]
Subpart E--[Reserved]
Subpart F--[Reserved]
Subpart G--Transition Provisions
628.300 Transitions.
628.301 Initial compliance and reporting requirements.

    Authority:  Secs. 1.5, 1.7, 1.10, 1.11, 1.12, 2.2, 2.3, 2.4, 
2.5, 2.12, 3.1, 3.7, 3.11, 3.25, 4.3, 4.3A, 4.9, 4.14B, 4.25, 5.9, 
5.17, 6.20, 6.26, 8.0, 8.3, 8.4, 8.6, 8.7, 8.8, 8.10, 8.12 of the 
Farm Credit Act (12 U.S.C. 2013, 2015, 2018, 2019, 2020, 2073, 2074, 
2075, 2076, 2093, 2122, 2128, 2132, 2146, 2154, 2154a, 2160, 2202b, 
2211, 2243, 2252, 2278b, 2278b-6, 2279aa, 2279aa-3, 2279aa-4, 
2279aa-6, 2279aa-7, 2279aa-8, 2279aa-10, 2279aa-12); sec. 301(a), 
Pub. L. 100-233, 101 Stat. 1568, 1608; sec. 939A, Pub. L. 111-203, 
124 Stat. 1326, 1887 (15 U.S.C. 78o-7 note).

Subpart A--General Provisions


Sec.  628.1  Purpose, applicability, and reservations of authority.

    (a) Purpose. This part establishes minimum capital requirements and 
overall capital adequacy standards for System institutions. This part 
includes methodologies for calculating minimum capital requirements, 
public disclosure requirements related to the capital requirements, and 
transition provisions for the application of this part.
    (b) Limitation of authority. Nothing in this part limits the 
authority of FCA to take action under other provisions of law, 
including action to address unsafe or unsound practices or conditions, 
deficient capital levels, or violations of law or regulation, under 
part C of title V of the Farm Credit Act.
    (c) Applicability. Subject to the requirements in paragraph (d) of 
this section:
    (1) Minimum capital requirements and overall capital adequacy 
standards. Each System institution must calculate its minimum capital 
requirements and meet the overall capital adequacy standards in subpart 
B of this part.
    (2) Regulatory capital. Each System institution must calculate its 
regulatory capital in accordance with subpart C of this part.
    (3) Risk-weighted assets. (i) Each System institution must use the

[[Page 52876]]

methodologies in subpart D of this part to calculate total risk-
weighted assets.
    (ii) [Reserved]
    (4) Disclosures. (i) All System banks must make the public 
disclosures described in subpart D of this part.
    (ii) [Reserved]
    (iii) [Reserved]
    (d) Reservation of authority--(1) Additional capital in the 
aggregate. FCA may require a System institution to hold an amount of 
regulatory capital greater than otherwise required under this part if 
FCA determines that the System institution's capital requirements under 
this part are not commensurate with the System institution's credit, 
market, operational, or other risks according to part 615, subparts L 
and M of this chapter.
    (2) Regulatory capital elements. (i) If FCA determines that a 
particular common equity tier 1 (CET1), additional tier 1 (AT1), or 
tier 2 capital element has characteristics or terms that diminish its 
permanence or its ability to absorb losses, or otherwise present safety 
and soundness concerns, FCA may require the System institution to 
exclude all or a portion of such element from CET1 capital, AT1 
capital, or tier 2 capital, as appropriate.
    (ii) Notwithstanding the criteria for regulatory capital 
instruments set forth in subpart C of this part, FCA may find that a 
capital element may be included in a System institution's CET1 capital, 
AT1 capital, or tier 2 capital on a permanent or temporary basis 
consistent with the loss absorption capacity of the element and in 
accordance with Sec.  628.20(e).
    (3) Risk-weighted asset amounts. If FCA determines that the risk-
weighted asset amount calculated under this part by the System 
institution for one or more exposures is not commensurate with the 
risks associated with those exposures, FCA may require the System 
institution to assign a different risk-weighted asset amount to the 
exposure(s) or to deduct the amount of the exposure(s) from its 
regulatory capital.
    (4) Total leverage. If FCA determines that the leverage exposure 
amount, or the amount reflected in the System institution's reported 
average total consolidated assets, for a balance sheet exposure 
calculated by a System institution under Sec.  628.10 is inappropriate 
for the exposure(s) or the circumstances of the System institution, FCA 
may require the System institution to adjust this exposure amount in 
the numerator and the denominator for purposes of the leverage ratio 
calculations.
    (5) [Reserved]
    (6) Other reservation of authority. With respect to any deduction 
or limitation required under this part, FCA may require a different 
deduction or limitation, provided that such alternative deduction or 
limitation is commensurate with the System institution's risk and 
consistent with safety and soundness.
    (e) Notice and response procedures. In making a determination under 
this section, FCA will apply notice and response procedures in the same 
manner as the notice and response procedures in Sec.  615.5352 of this 
chapter.
    (f) [Reserved]


Sec.  628.2  Definitions.

    As used in this part:
    Additional tier 1 capital (AT1) is defined in Sec.  628.20(c).
    Allocated equities (stock or surplus) means a retained patronage 
refund that a System institution has distributed to a borrower.\1\
---------------------------------------------------------------------------

    \1\ System institutions as cooperatives are required to send 
borrowers a written notice of allocation specifying the amount of 
patronage refunds retained as equity pursuant to the Internal 
Revenue Code section 1388. There are two types of allocated 
equities: Qualified allocated equities and nonqualified allocated 
equities. Allocated equities are redeemable at the System 
institution board's discretion. Allocated equities contain no voting 
rights and are generally subordinated to borrow stock in 
receivership, insolvency, liquidation, or similar proceeding.
---------------------------------------------------------------------------

    Allocated investment means earnings allocated but not paid in cash 
by a System bank to an association or other recipient.
    Allowances for loan losses (ALL) means valuation allowances that 
have been established through a charge against earnings to cover 
estimated credit losses on loans, lease financing receivables, or other 
extensions of credit as determined in accordance with generally 
accepted accounting principles (GAAP). For purposes of this part, ALL 
includes allowances that have been established through a charge against 
earnings to cover estimated credit losses associated with off-balance 
sheet credit exposures as determined in accordance with GAAP.
    Bank holding company means a bank holding company as defined in 
section 2 of the Bank Holding Company Act.
    Bank Holding Company Act means the Bank Holding Company Act of 
1956, as amended (12 U.S.C. 1841 et seq.).
    Bankruptcy remote means, with respect to an entity or asset, that 
the entity or asset would be excluded from an insolvent entity's estate 
in receivership, insolvency, liquidation, or similar proceeding.
    Borrower stock means the capital investment a borrower holds in a 
System institution in connection with a loan.
    Call Report means reports of condition and performance, as 
described in subpart D of part 621 of this chapter.
    Carrying value means, with respect to an asset, the value of the 
asset on the balance sheet of the System institution, determined in 
accordance with GAAP.
    Central counterparty (CCP) means a counterparty (for example, a 
clearinghouse) that facilitates trades between counterparties in one or 
more financial markets by either guaranteeing trades or novating 
contracts.
    CFTC means the U.S. Commodity Futures Trading Commission.
    Clean-up call means a contractual provision that permits an 
originating System institution or servicer to call securitization 
exposures before their stated maturity or call date.
    Cleared transaction means an exposure associated with an 
outstanding derivative contract or repo-style transaction that a System 
institution or clearing member has entered into with a central 
counterparty (that is, a transaction that a central counterparty has 
accepted).
    (1) The following transactions are cleared transactions:
    (i) [Reserved]
    (ii) [Reserved]
    (iii) A transaction between a clearing member client System 
institution and a clearing member where the clearing member acts as a 
financial intermediary on behalf of the clearing member client and 
enters into an offsetting transaction with a CCP, provided that the 
requirements set forth in Sec.  628.3(a) are met; or
    (iv) A transaction between a clearing member client System 
institution and a CCP where a clearing member guarantees the 
performance of the clearing member client System institution to the CCP 
and the transaction meets the requirements of Sec.  628.3(a)(2) and 
(a)(3).
    (2) [Reserved]
    Clearing member means a member of, or direct participant in, a CCP 
that is entitled to enter into transactions with the CCP.
    Clearing member client means a party to a cleared transaction 
associated with a CCP in which a clearing member either acts as a 
financial intermediary with respect to the party or guarantees the 
performance of the party to the CCP.
    Collateral agreement means a legal contract that specifies the time 
when, and circumstances under which, a counterparty is required to 
pledge collateral to a System institution for a single financial 
contract or for all

[[Page 52877]]

financial contracts in a netting set and confers upon the System 
institution a perfected, first-priority security interest 
(notwithstanding the prior security interest of any custodial agent), 
or the legal equivalent thereof, in the collateral posted by the 
counterparty under the agreement. This security interest must provide 
the System institution with a right to close out the financial 
positions and liquidate the collateral upon an event of default of, or 
failure to perform by, the counterparty under the collateral agreement. 
A contract would not satisfy this requirement if the System 
institution's exercise of rights under the agreement may be stayed or 
avoided under applicable law in the relevant jurisdictions, other than 
in receivership, conservatorship, resolution under the Federal Deposit 
Insurance Act, title II of the Dodd-Frank Act, under any similar 
insolvency law applicable to GSEs, or under the Farm Credit Act.
    Commitment means any legally binding arrangement that obligates a 
System institution to extend credit or to purchase assets.
    Commodity derivative contract means a commodity-linked swap, 
purchased commodity-linked option, forward commodity-linked contract, 
or any other instrument linked to commodities that gives rise to 
similar counterparty credit risks.
    Commodity Exchange Act means the Commodity Exchange Act of 1936 (7 
U.S.C. 1 et seq.).
    Common cooperative equity or equities means borrower stock, 
participation certificates, and allocated equities issued or allocated 
by a System institution to its members.
    Common equity tier 1 capital (CET1) is defined in Sec.  628.20(b).
    Company means a corporation, partnership, limited liability 
company, depository institution, business trust, special purpose 
entity, System institution, association, or similar organization.
    Corporate exposure means an exposure to a company that is not:
    (1) An exposure to a sovereign, the Bank for International 
Settlements, the European Central Bank, the European Commission, the 
International Monetary Fund, a multi-lateral development bank (MDB), a 
depository institution, a foreign bank, a credit union, or a public 
sector entity (PSE);
    (2) An exposure to a GSE;
    (3) A residential mortgage exposure;
    (4) [Reserved];
    (5) [Reserved];
    (6) A high volatility commercial real estate (HVCRE) exposure;
    (7) A cleared transaction;
    (8) [Reserved];
    (9) A securitization exposure;
    (10) An equity exposure;
    (11) An unsettled transaction; or
    (12) An exposure to another System institution.
    Country risk classification (CRC) with respect to a sovereign, 
means the most recent consensus CRC published by the Organization for 
Economic Cooperation and Development (OECD) as of December 31st of the 
prior calendar year that provides a view of the likelihood that the 
sovereign will service its external debt.
    Credit derivative means a financial contract executed under 
standard industry credit derivative documentation that allows one party 
(the protection purchaser) to transfer the credit risk of one or more 
exposures (reference exposure(s)) to another party (the protection 
provider) for a certain period of time.
    Credit-enhancing interest-only strip (CEIO) means an on-balance 
sheet asset that, in form or in substance:
    (1) Represents a contractual right to receive some or all of the 
interest and no more than a minimal amount of principal due on the 
underlying exposures of a securitization; and
    (2) Exposes the holder of the CEIO to credit risk directly or 
indirectly associated with the underlying exposures that exceeds a pro 
rata share of the holder's claim on the underlying exposures, whether 
through subordination provisions or other credit-enhancement 
techniques.
    Credit-enhancing representations and warranties means 
representations and warranties that are made or assumed in connection 
with a transfer of underlying exposures (including loan servicing 
assets) and that obligate a System institution to protect another party 
from losses arising from the credit risk of the underlying exposures. 
Credit-enhancing representations and warranties include provisions to 
protect a party from losses resulting from the default or 
nonperformance of the counterparties of the underlying exposures or 
from an insufficiency in the value of the collateral backing the 
underlying exposures. Credit-enhancing representations and warranties 
do not include:
    (1) Early default clauses and similar warranties that permit the 
return of, or premium refund clauses covering, 1-4 family residential 
first mortgage loans that qualify for a 50-percent risk weight for a 
period not to exceed 120 days from the date of transfer. These 
warranties may cover only those loans that were originated within 1 
year of the date of transfer;
    (2) Premium refund clauses that cover assets guaranteed, in whole 
or in part, by the U.S. Government, a U.S. Government agency or a 
Government-sponsored enterprise (GSE), provided the premium refund 
clauses are for a period not to exceed 120 days from the date of 
transfer; or
    (3) Warranties that permit the return of underlying exposures in 
instances of misrepresentation, fraud, or incomplete documentation.
    Credit risk mitigant means collateral, a credit derivative, or a 
guarantee.
    Credit union means an insured credit union as defined under the 
Federal Credit Union Act (12 U.S.C. 1752 et seq.).
    Current exposure means, with respect to a netting set, the larger 
of 0 or the fair value of a transaction or portfolio of transactions 
within the netting set that would be lost upon default of the 
counterparty, assuming no recovery on the value of the transactions. 
Current exposure is also called replacement cost.
    Current exposure methodology means the method of calculating the 
exposure amount for over-the-counter derivative contracts in Sec.  
628.34(a).
    Custodian means a company that has legal custody of collateral 
provided to a CCP.
    Depository institution means a depository institution as defined in 
section 3 of the Federal Deposit Insurance Act.
    Depository institution holding company means a bank holding company 
or savings and loan holding company.
    Derivative contract means a financial contract whose value is 
derived from the values of one or more underlying assets, reference 
rates, or indices of asset values or reference rates. Derivative 
contracts include interest rate derivative contracts, exchange rate 
derivative contracts, equity derivative contracts, commodity derivative 
contracts, credit derivative contracts, and any other instrument that 
poses similar counterparty credit risks. Derivative contracts also 
include unsettled securities, commodities, and foreign exchange 
transactions with a contractual settlement or delivery lag that is 
longer than the lesser of the market standard for the particular 
instrument or 5 business days.
    Discretionary bonus payment means a payment made to a senior 
officer of a System institution, where:
    (1) The System institution retains discretion as to whether to 
make, and the amount of, the payment until the payment is awarded to 
the senior officer;

[[Page 52878]]

    (2) The amount paid is determined by the System institution without 
prior promise to, or agreement with, the senior officer; and
    (3) The senior officer has no contractual right, whether express or 
implied, to the bonus payment.
    Dodd-Frank Act means the Dodd-Frank Wall Street Reform and Consumer 
Protection Act of 2010 (Pub. L. 111-203, 124 Stat. 1376).
    Early amortization provision means a provision in the documentation 
governing a securitization that, when triggered, causes investors in 
the securitization exposures to be repaid before the original stated 
maturity of the securitization exposures, unless the provision:
    (1) Is triggered solely by events not directly related to the 
performance of the underlying exposures or the originating System 
institution (such as material changes in tax laws or regulations); or
    (2) Leaves investors fully exposed to future draws by borrowers on 
the underlying exposures even after the provision is triggered.
    Effective notional amount means, for an eligible guarantee or 
eligible credit derivative, the lesser of the contractual notional 
amount of the credit risk mitigant and the exposure amount of the 
hedged exposure, multiplied by the percentage coverage of the credit 
risk mitigant.
    Eligible clean-up call means a clean-up call that:
    (1) Is exercisable solely at the discretion of the originating 
System institution or servicer;
    (2) Is not structured to avoid allocating losses to securitization 
exposures held by investors or otherwise structured to provide credit 
enhancement to the securitization; and
    (3)(i) For a traditional securitization, is only exercisable when 
10 percent or less of the principal amount of the underlying exposures 
or securitization exposures (determined as of the inception of the 
securitization) is outstanding; or
    (ii) For a synthetic securitization, is only exercisable when 10 
percent or less of the principal amount of the reference portfolio of 
underlying exposures (determined as of the inception of the 
securitization) is outstanding.
    Eligible credit derivative means a credit derivative in the form of 
a credit default swap, nth-to-default swap, total return swap, or any 
other form of credit derivative approved by the FCA, provided that:
    (1) The contract meets the requirements of an eligible guarantee 
and has been confirmed by the protection purchaser and the protection 
provider;
    (2) Any assignment of the contract has been confirmed by all 
relevant parties;
    (3) If the credit derivative is a credit default swap or nth-to-
default swap, the contract includes the following credit events:
    (i) Failure to pay any amount due under the terms of the reference 
exposure, subject to any applicable minimal payment threshold that is 
consistent with standard market practice and with a grace period that 
is closely in line with the grace period of the reference exposure; and
    (ii) Receivership, insolvency, liquidation, conservatorship or 
inability of the reference exposure issuer to pay its debts, or its 
failure or admission in writing of its inability generally to pay its 
debts as they become due, and similar events;
    (4) The terms and conditions dictating the manner in which the 
contract is to be settled are incorporated into the contract;
    (5) If the contract allows for cash settlement, the contract 
incorporates a robust valuation process to estimate loss reliably and 
specifies a reasonable period for obtaining post-credit event 
valuations of the reference exposure;
    (6) If the contract requires the protection purchaser to transfer 
an exposure to the protection provider at settlement, the terms of at 
least one of the exposures that is permitted to be transferred under 
the contract provide that any required consent to transfer may not be 
unreasonably withheld;
    (7) If the credit derivative is a credit default swap or nth-to-
default swap, the contract clearly identifies the parties responsible 
for determining whether a credit event has occurred, specifies that 
this determination is not the sole responsibility of the protection 
provider, and gives the protection purchaser the right to notify the 
protection provider of the occurrence of a credit event; and
    (8) If the credit derivative is a total return swap and the System 
institution records net payments received on the swap as net income, 
the System institution records offsetting deterioration in the value of 
the hedged exposure (either through reductions in fair value or by an 
addition to reserves).
    Eligible guarantee means a guarantee from an eligible guarantor 
that:
    (1) Is written;
    (2) Is either:
    (i) Unconditional, or
    (ii) A contingent obligation of the U.S. Government or its 
agencies, the enforceability of which is dependent upon some 
affirmative action on the part of the beneficiary of the guarantee or a 
third party (for example, meeting servicing requirements);
    (3) Covers all or a pro rata portion of all contractual payments of 
the obligated party on the reference exposure;
    (4) Gives the beneficiary a direct claim against the protection 
provider;
    (5) Is not unilaterally cancelable by the protection provider for 
reasons other than the breach of the contract by the beneficiary;
    (6) Except for a guarantee by a sovereign, is legally enforceable 
against the protection provider in a jurisdiction where the protection 
provider has sufficient assets against which a judgment may be attached 
and enforced;
    (7) Requires the protection provider to make payment to the 
beneficiary on the occurrence of a default (as defined in the 
guarantee) of the obligated party on the reference exposure in a timely 
manner without the beneficiary first having to take legal actions to 
pursue the obligor for payment; and
    (8) Does not increase the beneficiary's cost of credit protection 
on the guarantee in response to deterioration in the credit quality of 
the reference exposure.
    Eligible guarantor means:
    (1) A sovereign, the Bank for International Settlements, the 
International Monetary Fund, the European Central Bank, the European 
Commission, a Federal Home Loan Bank, Federal Agricultural Mortgage 
Corporation (Farmer Mac), a multilateral development bank (MDB), a 
depository institution, a bank holding company, a savings and loan 
holding company, a credit union, a foreign bank, or a qualifying 
central counterparty; or
    (2) An entity (other than a special purpose entity):
    (i) That at the time the guarantee is issued or anytime thereafter, 
has issued and outstanding an unsecured debt security without credit 
enhancement that is investment grade;
    (ii) Whose creditworthiness is not positively correlated with the 
credit risk of the exposures for which it has provided guarantees; and
    (iii) That is not an insurance company engaged predominately in the 
business of providing credit protection (such as a monoline bond 
insurer or re-insurer).
    Eligible margin loan means:
    (1) An extension of credit where:
    (i) The extension of credit is collateralized exclusively by liquid 
and readily marketable debt or equity securities, or gold;
    (ii) The collateral is marked-to-fair value daily, and the 
transaction is subject to daily margin maintenance requirements; and

[[Page 52879]]

    (iii) The extension of credit is conducted under an agreement that 
provides the System institution the right to accelerate and terminate 
the extension of credit and to liquidate or set-off collateral promptly 
upon an event of default, including upon an event of receivership, 
insolvency, liquidation, conservatorship, or similar proceeding, of the 
counterparty, provided that, in any such case, any exercise of rights 
under the agreement will not be stayed or avoided under applicable law 
in the relevant jurisdictions, other than in receivership, 
conservatorship, resolution under the Federal Deposit Insurance Act, 
Title II of the Dodd-Frank Act, under any similar insolvency law 
applicable to GSEs, or under the Farm Credit Act.\2\
---------------------------------------------------------------------------

    \2\ This requirement is met where all transactions under the 
agreement are (i) executed under U.S. law and (ii) constitute 
``securities contracts'' under section 555 of the Bankruptcy Code 
(11 U.S.C. 555) or qualified financial contracts under section 
11(e)(8) of the Federal Deposit Insurance Act.
---------------------------------------------------------------------------

    (2) In order to recognize an exposure as an eligible margin loan 
for purposes of this subpart, a System institution must comply with the 
requirements of Sec.  628.3(b) with respect to that exposure.
    Eligible servicer cash advance facility means a servicer cash 
advance facility in which:
    (1) The servicer is entitled to full reimbursement of advances, 
except that a servicer may be obligated to make non-reimbursable 
advances for a particular underlying exposure if any such advance is 
contractually limited to an insignificant amount of the outstanding 
principal balance of that exposure;
    (2) The servicer's right to reimbursement is senior in right of 
payment to all other claims on the cash flows from the underlying 
exposures of the securitization; and
    (3) The servicer has no legal obligation to, and does not make 
advances to the securitization if the servicer concludes the advances 
are unlikely to be repaid.
    Equity derivative contract means an equity-linked swap, purchased 
equity-linked option, forward equity-linked contract, or any other 
instrument linked to equities that gives rise to similar counterparty 
credit risks.
    Equity exposure means:
    (1) A security or instrument (whether voting or non-voting) that 
represents a direct or an indirect ownership interest in, and is a 
residual claim on, the assets and income of a company, unless:
    (i) The issuing company is consolidated with the System institution 
under GAAP;
    (ii) The System institution is required to deduct the ownership 
interest from tier 1 or tier 2 capital under this part;
    (iii) The ownership interest incorporates a payment or other 
similar obligation on the part of the issuing company (such as an 
obligation to make periodic payments); or
    (iv) The ownership interest is a securitization exposure;
    (2) A security or instrument that is mandatorily convertible into a 
security or instrument described in paragraph (1) of this definition;
    (3) An option or warrant that is exercisable for a security or 
instrument described in paragraph (1) of this definition; or
    (4) Any other security or instrument (other than a securitization 
exposure) to the extent the return on the security or instrument is 
based on the performance of a security or instrument described in 
paragraph (1) of this definition.
    ERISA means the Employee Retirement Income and Security Act of 1974 
(29 U.S.C. 1001 et seq.).
    Exchange rate derivative contract means a cross-currency interest 
rate swap, forward foreign-exchange contract, currency option 
purchased, or any other instrument linked to exchange rates that gives 
rise to similar counterparty credit risks.
    Exposure means an amount at risk.
    Exposure amount means:
    (1) For the on-balance sheet component of an exposure (other than 
an available-for-sale or held-to-maturity security; an OTC derivative 
contract; a repo-style transaction or an eligible margin loan for which 
the System institution determines the exposure amount under Sec.  
628.37; a cleared transaction; or a securitization exposure), the 
System institution's carrying value of the exposure.
    (2) For a security (that is not a securitization exposure, equity 
exposure, or preferred stock classified as an equity security under 
GAAP) classified as available-for-sale or held-to-maturity, the System 
institution's carrying value (including net accrued but unpaid interest 
and fees) for the exposure less any net unrealized gains on the 
exposure and plus any net unrealized losses on the exposure.
    (3) For available-for-sale preferred stock classified as an equity 
security under GAAP, the System institution's carrying value of the 
exposure less any net unrealized gains on the exposure that are 
reflected in such carrying value but excluded from the System 
institution's regulatory capital components.
    (4) For the off-balance sheet component of an exposure (other than 
an OTC derivative contract; a repo-style transaction or an eligible 
margin loan for which the System institution calculates the exposure 
amount under Sec.  628.37; a cleared transaction; or a securitization 
exposure), the notional amount of the off-balance sheet component 
multiplied by the appropriate credit conversion factor (CCF) in Sec.  
628.33.
    (5) For an exposure that is an OTC derivative contract, the 
exposure amount determined under Sec.  628.34.
    (6) For an exposure that is a cleared transaction, the exposure 
amount determined under Sec.  628.35.
    (7) For an exposure that is an eligible margin loan or repo-style 
transaction for which the bank calculates the exposure amount as 
provided in Sec.  628.37, the exposure amount determined under Sec.  
628.37.
    (8) For an exposure that is a securitization exposure, the exposure 
amount determined under Sec.  628.42.
    Farm Credit Act means the Farm Credit Act of 1971, as amended (12 
U.S.C. 2001 et seq.).
    Federal Deposit Insurance Act means the Federal Deposit Insurance 
Act (12 U.S.C. 1813).
    Federal Deposit Insurance Corporation Improvement Act means the 
Federal Deposit Insurance Corporation Improvement Act of 1991 (12 
U.S.C. 4401).
    Financial collateral means collateral:
    (1) In the form of:
    (i) Cash on deposit at a depository institution or Federal Reserve 
Bank (including cash held for the System institution by a third-party 
custodian or trustee);
    (ii) Gold bullion;
    (iii) Long-term debt securities that are not resecuritization 
exposures and that are investment grade;
    (iv) Short-term debt instruments that are not resecuritization 
exposures and that are investment grade;
    (v) Equity securities that are publicly traded;
    (vi) Convertible bonds that are publicly traded; or
    (vii) Money market fund shares and other mutual fund shares if a 
price for the shares is publicly quoted daily; and
    (2) In which the System institution has a perfected, first-priority 
security interest or, outside of the United States, the legal 
equivalent thereof (with the exception of cash on deposit at a 
depository institution or Federal Reserve Bank and notwithstanding the 
prior security interest of any custodial agent).
    First-lien residential mortgage exposure means a residential 
mortgage exposure secured by a first lien.

[[Page 52880]]

    Foreign bank means a foreign bank as defined in Sec.  211.2 of the 
Federal Reserve Board's Regulation K (12 CFR 211.2) (other than a 
depository institution).
    Forward agreement means a legally binding contractual obligation to 
purchase assets with certain drawdown at a specified future date, not 
including commitments to make residential mortgage loans or forward 
foreign exchange contracts.
    GAAP means generally accepted accounting principles as used in the 
United States.
    Gain-on-sale means an increase in the equity capital of a System 
institution (as reported on the Call Report) resulting from a 
traditional securitization (other than an increase in equity capital 
resulting from the System institution's receipt of cash in connection 
with the securitization or reporting of a mortgage servicing asset on 
the Call Report).
    General obligation means a bond or similar obligation that is 
backed by the full faith and credit of a public sector entity (PSE).
    Government-sponsored enterprise (GSE) means an entity established 
or chartered by the U.S. Government to serve public purposes specified 
by the U.S. Congress but whose debt obligations are not explicitly 
guaranteed by the full faith and credit of the U.S. Government. For 
purposes of part 628, this definition excludes System institutions.
    Guarantee means a financial guarantee, letter of credit, insurance, 
or other similar financial instrument (other than a credit derivative) 
that allows one party (beneficiary) to transfer the credit risk of one 
or more specific exposures (reference exposure) to another party 
(protection provider).
    High volatility commercial real estate (HVCRE) exposure means a 
credit facility that, prior to conversion to permanent financing, 
finances or has financed the acquisition, development, or construction 
(ADC) of real property, unless the facility finances:
    (1) One- to four-family residential properties;
    (2) Real property that:
    (i) The FCA has authorized as an investment pursuant to Sec.  
615.5140(e) of this chapter; and
    (ii) [Reserved];
    (3) The purchase or development of agricultural land, which 
includes all land known to be used or usable for agricultural purposes 
(such as crop and livestock production), provided that the valuation of 
the agricultural land is based on its value for agricultural purposes 
and the valuation does not take into consideration any potential use of 
the land for non-agricultural commercial development or residential 
development; or
    (4) Commercial real estate projects in which:
    (i) The loan-to-value ratio is less than or equal to the maximum 
loan-to-value ratio set forth in Sec.  614.4200(b) of this chapter;
    (ii) The borrower has contributed capital to the project in the 
form of cash or unencumbered readily marketable assets (or has paid 
development expenses out-of-pocket) of at least 15 percent of the real 
estate's appraised ``as completed'' value; and
    (iii) The borrower contributed the amount of capital required by 
paragraph (4)(ii) of this definition before the System institution 
advances funds under the credit facility, and the capital contributed 
by the borrower, or internally generated by the project, is 
contractually required to remain in the project throughout the life of 
the project. The life of a project concludes only when the credit 
facility is converted to permanent financing or is sold or paid in 
full. Permanent financing may be provided by the System institution 
that provided the ADC facility as long as the permanent financing is 
subject to the System institution's underwriting criteria for long-term 
mortgage loans.
    Home country means the country where an entity is incorporated, 
chartered, or similarly established.
    Insurance company means an insurance company as defined in section 
201 of the Dodd-Frank Act (12 U.S.C. 5381).
    Insurance underwriting company means an insurance company as 
defined in section 201 of the Dodd-Frank Act (12 U.S.C. 5381) that 
engages in insurance underwriting activities.
    Insured depository institution means an insured depository 
institution as defined in section 3 of the Federal Deposit Insurance 
Act.
    Interest rate derivative contract means a single-currency interest 
rate swap, basis swap, forward rate agreement, purchased interest rate 
option, when-issued securities, or any other instrument linked to 
interest rates that gives rise to similar counterparty credit risks.
    International Lending Supervision Act means the International 
Lending Supervision Act of 1983 (12 U.S.C. 3907).
    Investment fund means a company:
    (1) Where all or substantially all of the assets of the company are 
financial assets; and
    (2) That has no material liabilities.
    Investment grade means that the entity to which the System 
institution is exposed through a loan or security, or the reference 
entity with respect to a credit derivative, has adequate capacity to 
meet financial commitments for the projected life of the asset or 
exposure. Such an entity or reference entity has adequate capacity to 
meet financial commitments if the risk of its default is low and the 
full and timely repayment of principal and interest is expected.
    Junior-lien residential mortgage exposure means a residential 
mortgage exposure that is not a first-lien residential mortgage 
exposure.
    Member means a borrower or former borrower from a System 
institution that holds voting or nonvoting common cooperative equities 
of the institution.
    Money market fund means an investment fund that is subject to 17 
CFR 270.2a-7 or any foreign equivalent thereof.
    Mortgage servicing assets (MSAs) means the contractual rights owned 
by a System institution to service for a fee mortgage loans that are 
owned by others.
    Multilateral development bank (MDB) means the International Bank 
for Reconstruction and Development, the Multilateral Investment 
Guarantee Agency, the International Finance Corporation, the Inter-
American Development Bank, the Asian Development Bank, the African 
Development Bank, the European Bank for Reconstruction and Development, 
the European Investment Bank, the European Investment Fund, the Nordic 
Investment Bank, the Caribbean Development Bank, the Islamic 
Development Bank, the Council of Europe Development Bank, and any other 
multilateral lending institution or regional development bank in which 
the U.S. Government is a shareholder or contributing member or which 
the FCA determines poses comparable credit risk.
    National Bank Act means the National Bank Act (12 U.S.C. 24).
    Netting set means a group of transactions with a single 
counterparty that are subject to a qualifying master netting agreement 
or a qualifying cross-product master netting agreement. For purposes of 
calculating risk-based capital requirements using the internal models 
methodology in subpart E of this part, this term does not cover a 
transaction:
    (1) That is not subject to such a master netting agreement; or
    (2) Where the System institution has identified specific wrong-way 
risk.
    Nonqualified allocated equities means retained patronage refunds 
paid in the form of stock or surplus that are distributed to a borrower 
and that a System institution does not deduct from

[[Page 52881]]

its taxable income according to the Internal Revenue Code Sec. Sec.  
1382(b) and 1383.\3\
---------------------------------------------------------------------------

    \3\ Nonqualified allocated equities also include surplus in a 
tax-exempt institution or subsidiary. When a System institution 
redeems a nonqualified allocation, the System institution deducts 
the allocation from its taxable income, if any, and the borrower 
generally recognizes the tax liability, if any, as ordinary income. 
System institutions distribute two types of nonqualified allocated 
equities through written notices of allocation to the borrowers: (1) 
Those subject to redemption and (2) those not subject to redemption. 
The second type for GAAP purposes is considered an equivalent of 
unallocated surplus and consolidated with unallocated surplus on 
externally prepared shareholder reports.
---------------------------------------------------------------------------

    N\th\-to-default credit derivative means a credit derivative that 
provides credit protection only for the n\th\-defaulting reference 
exposure in a group of reference exposures.
    Operating entity means a company established to conduct business 
with clients with the intention of earning a profit in its own right 
and that generally produces goods or provides services beyond the 
business of investing, reinvesting, holding, or trading in financial 
assets. All System banks, associations, and service corporations, and 
all UBEs, are operating entities.
    Original maturity with respect to an off-balance sheet commitment 
means the length of time between the date a commitment is issued and:
    (1) For a commitment that is not subject to extension or renewal, 
the stated expiration date of the commitment; or
    (2) For a commitment that is subject to extension or renewal, the 
earliest date on which the System institution can, at its option, 
unconditionally cancel the commitment.
    Originating System institution, with respect to a securitization, 
means a System institution that:
    (1) Directly or indirectly originated the underlying exposures 
included in the securitization; or
    (2)[Reserved]
    Other financing institution (OFI) means any entity referred to in 
section 1.7(b)(1)(B) of the Farm Credit Act.
    Over-the-counter (OTC) derivative contract means a derivative 
contract that is not a cleared transaction.
    Participation certificates means borrower stock held by a borrower 
that does not have voting rights.
    Patronage refund means a declared distribution of capital to 
borrowers based on a System institution's net income and allocated to 
borrowers based on business conducted with the cooperative pursuant to 
the Internal Revenue Code section 1381(a). Patronage refunds may be 
distributed as cash, allocated equity (stock or surplus), or a 
combination of cash and allocated equity.
    Performance standby letter of credit (or performance bond) means an 
irrevocable obligation of a System institution to pay a third-party 
beneficiary when a customer (account party) fails to perform on any 
contractual nonfinancial or commercial obligation. To the extent 
permitted by law or regulation, performance standby letters of credit 
include arrangements backing, among other things; subcontractors' and 
suppliers' performance, labor; and materials contracts, and 
construction bids.
    Protection amount (P) means, with respect to an exposure hedged by 
an eligible guarantee or eligible credit derivative, the effective 
notional amount of the guarantee or credit derivative, reduced to 
reflect any currency mismatch, maturity mismatch, or lack of 
restructuring coverage (as provided in Sec.  628.36).
    Publicly traded means traded on:
    (1) Any exchange registered with the Securities and Exchange 
Commission (SEC) as a national securities exchange under section 6 of 
the Securities Exchange Act; or
    (2) Any non-U.S.-based securities exchange that:
    (i) Is registered with, or approved by, a national securities 
regulatory authority; and
    (ii) Provides a liquid, two-way market for the instrument in 
question.
    Public sector entity (PSE) means a state, local authority, or other 
governmental subdivision below the sovereign level.
    Qualified allocated equities means patronage refunds distributed to 
a borrower, in the form of stock or surplus, that a System institution 
can exclude from its taxable income and that the borrower has agreed to 
include in its taxable income.\4\
---------------------------------------------------------------------------

    \4\ A System institution must pay at least 20 percent of a 
qualified patronage refund in cash to borrowers. A System 
institution must provide the borrowers with a qualified written 
notice of allocation when they distribute qualified patronage 
refunds pursuant to the Internal Revenue Code Sec. Sec.  1381(b) and 
1388(c). A System institution redeems qualified allocated equities 
according to a board-approved plan.
---------------------------------------------------------------------------

    Qualifying central counterparty (QCCP) means a central counterparty 
that:
    (1)(i) Is a designated financial market utility (FMU), as defined 
in section 803 of the Dodd-Frank Act;
    (ii) If not located in the United States, is regulated and 
supervised in a manner equivalent to a designated FMU; or
    (iii) Meets the following standards:
    (A) The central counterparty requires all parties to contracts 
cleared by the counterparty to be fully collateralized on a daily 
basis;
    (B) The System institution demonstrates to the satisfaction of the 
FCA that the central counterparty:
    (1) Is in sound financial condition;
    (2) Is subject to supervision by the Board, the CFTC, or the 
Securities Exchange Commission (SEC), or, if the central counterparty 
is not located in the United States, is subject to effective oversight 
by a national supervisory authority in its home country; and
    (3) Meets or exceeds the risk-management standards for central 
counterparties set forth in regulations established by the Board, the 
CFTC, or the SEC under title VII or title VIII of the Dodd-Frank Act; 
or if the central counterparty is not located in the United States, 
meets or exceeds similar risk-management standards established under 
the law of its home country that are consistent with international 
standards for central counterparty risk management as established by 
the relevant standard setting body of the Bank of International 
Settlements; and
    (2)(i) Provides the System institution with the central 
counterparty's hypothetical capital requirement or the information 
necessary to calculate such hypothetical capital requirement, and other 
information the System institution is required to obtain under Sec.  
628.35(d)(3);
    (ii) Makes available to the FCA and the CCP's regulator the 
information described in paragraph (2)(i) of this definition; and
    (iii) Has not otherwise been determined by the FCA to not be a QCCP 
due to its financial condition, risk profile, failure to meet 
supervisory risk management standards, or other weaknesses or 
supervisory concerns that are inconsistent with the risk weight 
assigned to qualifying central counterparties under Sec.  628.35.
    (3) A QCCP that fails to meet the requirements of a QCCP in the 
future may still be treated as a QCCP under the conditions specified in 
Sec.  628.3(f).
    Qualifying master netting agreement means a written, legally 
enforceable agreement provided that:
    (1) The agreement creates a single legal obligation for all 
individual transactions covered by the agreement upon an event of 
default, including upon an event of receivership, insolvency, 
liquidation, or similar proceeding, of the counterparty;
    (2) The agreement provides the System institution the right to 
accelerate, terminate, and close-out on a net basis all transactions 
under the agreement and to liquidate or set-off collateral promptly 
upon an event of

[[Page 52882]]

default, including upon an event of receivership, insolvency, 
liquidation, or similar proceeding, of the counterparty, provided that, 
in any such case, any exercise of rights under the agreement will not 
be stayed or avoided under applicable law in the relevant 
jurisdictions, other than in receivership, conservatorship, resolution 
under the Federal Deposit Insurance Act, title II of the Dodd-Frank 
Act, under any similar insolvency law applicable to GSEs, or under the 
Farm Credit Act;
    (3) The agreement does not contain a walkaway clause (that is, a 
provision that permits a non-defaulting counterparty to make a lower 
payment than it otherwise would make under the agreement, or no payment 
at all, to a defaulter or the estate of a defaulter, even if the 
defaulter or the estate of the defaulter is a net creditor under the 
agreement); and
    (4) In order to recognize an agreement as a qualifying master 
netting agreement for purposes of this subpart, a System institution 
must comply with the requirements of Sec.  628.3(d) with respect to 
that agreement.
    Repo-style transaction means a repurchase or reverse repurchase 
transaction, or a securities borrowing or securities lending 
transaction, including a transaction in which the System institution 
acts as agent for a customer and indemnifies the customer against loss, 
provided that:
    (1) The transaction is based solely on liquid and readily 
marketable securities, cash, or gold;
    (2) The transaction is marked-to-fair value daily and subject to 
daily margin maintenance requirements;
    (3)(i) The transaction is a ``securities contract'' or ``repurchase 
agreement'' under section 555 or 559, respectively, of the Bankruptcy 
Code (11 U.S.C. 555 or 559) or a qualified financial contract under 
section 11(e)(8) of the Federal Deposit Insurance Act; or
    (ii) If the transaction does not meet the criteria set forth in 
paragraph (3)(i) of this definition, then either:
    (A) The transaction is executed under an agreement that provides 
the System institution the right to accelerate, terminate, and close-
out the transaction on a net basis and to liquidate or set-off 
collateral promptly upon an event of default, including upon an event 
of receivership, insolvency, liquidation, or similar proceeding, of the 
counterparty, provided that, in any such case, any exercise of rights 
under the agreement will not be stayed or avoided under applicable law 
in the relevant jurisdictions, other than in receivership, 
conservatorship, resolution under the Federal Deposit Insurance Act, 
title II of the Dodd-Frank Act, under any similar insolvency law 
applicable to GSEs, or under the Farm Credit Act; or
    (B) The transaction is:
    (1) Either overnight or unconditionally cancelable at any time by 
the System institution; and
    (2) Executed under an agreement that provides the System 
institution the right to accelerate, terminate, and close-out the 
transaction on a net basis and to liquidate or set-off collateral 
promptly upon an event of counterparty default; and
    (4) In order to recognize an exposure as a repo-style transaction 
for purposes of this subpart, a System institution must comply with the 
requirements of Sec.  628.3(e) of this part with respect to that 
exposure.
    Resecuritization means a securitization which has more than one 
underlying exposure and in which one or more of the underlying 
exposures is a securitization exposure.
    Resecuritization exposure means:
    (1) An on- or off-balance sheet exposure to a resecuritization; or
    (2) An exposure that directly or indirectly references a 
resecuritization exposure.
    Residential mortgage exposure means an exposure (other than a 
securitization exposure or equity exposure) that is:
    (1) An exposure that is primarily secured by a first or subsequent 
lien on one-to-four family residential property, provided that the 
dwelling (including attached components such as garages, porches, and 
decks) represents at least 50 percent of the total appraised value of 
the collateral secured by the first or subsequent lien; or
    (2)[Reserved]
    Revenue obligation means a bond or similar obligation that is an 
obligation of a PSE, but which the PSE is committed to repay with 
revenues from the specific project financed rather than general tax 
funds.
    Savings and loan holding company means a savings and loan holding 
company as defined in section 10 of the Home Owners' Loan Act (12 
U.S.C. 1467a).
    Securities and Exchange Commission (SEC) means the U.S. Securities 
and Exchange Commission.
    Securities Exchange Act means the Securities Exchange Act of 1934 
(15 U.S.C. 78).
    Securitization exposure means:
    (1) An on-balance sheet or off-balance sheet credit exposure 
(including credit-enhancing representations and warranties) that arises 
from a traditional securitization or synthetic securitization 
(including a resecuritization); or
    (2) An exposure that directly or indirectly references a 
securitization exposure described in paragraph (1) of this definition.
    Securitization special purpose entity (securitization SPE) means a 
corporation, trust, or other entity organized for the specific purpose 
of holding underlying exposures of a securitization, the activities of 
which are limited to those appropriate to accomplish this purpose, and 
the structure of which is intended to isolate the underlying exposures 
held by the entity from the credit risk of the seller of the underlying 
exposures to the entity.
    Senior officer means the Chief Executive Officer, the Chief 
Operations Officer, the Chief Financial Officer, the Chief Credit 
Officer, and the General Counsel, or persons in similar positions; and 
any other person responsible for a major policy-making function.
    Servicer cash advance facility means a facility under which the 
servicer of the underlying exposures of a securitization may advance 
cash to ensure an uninterrupted flow of payments to investors in the 
securitization, including advances made to cover foreclosure costs or 
other expenses to facilitate the timely collection of the underlying 
exposures.
    Small Business Act means the Small Business Act (15 U.S.C. 632).
    Small Business Investment Act means the Small Business Investment 
Act of 1958 (15 U.S.C. 682).
    Sovereign means a central government (including the U.S. 
Government) or an agency, department, ministry, or central bank of a 
central government.
    Sovereign default means noncompliance by a sovereign with its 
external debt service obligations or the inability or unwillingness of 
a sovereign government to service an existing loan according to its 
original terms, as evidenced by failure to pay principal and interest 
timely and fully, arrearages, or restructuring.
    Sovereign exposure means:
    (1) A direct exposure to a sovereign; or
    (2) An exposure directly and unconditionally backed by the full 
faith and credit of a sovereign.
    Standardized total risk-weighted assets means:
    (1) The sum of:
    (i) Total risk-weighted assets for general credit risk as 
calculated under Sec.  628.31;
    (ii) Total risk-weighted assets for cleared transactions as 
calculated under Sec.  628.35;
    (iii) Total risk-weighted assets for unsettled transactions as 
calculated under Sec.  628.38;

[[Page 52883]]

    (iv) Total risk-weighted assets for securitization exposures as 
calculated under Sec.  628.42;
    (v) Total risk-weighted assets for equity exposures as calculated 
under Sec. Sec.  628.52 and 628.53; and
    (vi) [Reserved]; minus
    (2) Any amount of the System institution's allowance for loan 
losses that is not included in tier 2 capital.
    Subsidiary means, with respect to a company, a company controlled 
by that company.
    System bank means a Farm Credit bank as defined in Sec.  619.9140 
of this chapter, which includes Farm Credit Banks, agricultural credit 
banks, and banks for cooperatives.
    System institution means a System bank, an association of the Farm 
Credit System, Farm Credit Leasing Services Corporation, and their 
successors, and any other institution chartered by the FCA that the FCA 
determines should be considered a System institution for the purposes 
of this part. Synthetic exposure means an exposure whose value is 
linked to the value of an investment in the System institution's own 
capital instrument.
    Synthetic securitization means a transaction in which:
    (1) All or a portion of the credit risk of one or more underlying 
exposures is retained or transferred to one or more third parties 
through the use of one or more credit derivatives or guarantees (other 
than a guarantee that transfers only the credit risk of an individual 
retail exposure);
    (2) The credit risk associated with the underlying exposures has 
been separated into at least two tranches reflecting different levels 
of seniority;
    (3) Performance of the securitization exposures depends upon the 
performance of the underlying exposures; and
    (4) All or substantially all of the underlying exposures are 
financial exposures (such as loans, commitments, credit derivatives, 
guarantees, receivables, asset-backed securities, mortgage-backed 
securities, other debt securities, or equity securities).
    Tier 1 capital means the sum of common equity tier 1 capital and 
additional tier 1 capital.
    Tier 2 capital is defined in Sec.  628.20(d).
    Total capital means the sum of tier 1 capital and tier 2 capital.
    Traditional securitization means a transaction in which:
    (1) All or a portion of the credit risk of one or more underlying 
exposures is transferred to one or more third parties other than 
through the use of credit derivatives or guarantees;
    (2) The credit risk associated with the underlying exposures has 
been separated into at least two tranches reflecting different levels 
of seniority;
    (3) Performance of the securitization exposures depends upon the 
performance of the underlying exposures;
    (4) All or substantially all of the underlying exposures are 
financial exposures (such as loans, commitments, credit derivatives, 
guarantees, receivables, asset-backed securities, mortgage-backed 
securities, other debt securities, or equity securities);
    (5) The underlying exposures are not owned by an operating entity;
    (6) The underlying exposures are not owned by a rural business 
investment company described in 7 U.S.C. 2009cc et seq.;
    (7) The underlying exposures are not owned by a firm an investment 
in which is authorized by the FCA under Sec.  615.5140(e)of this 
chapter;
    (8) The FCA may determine that a transaction in which the 
underlying exposures are owned by an investment firm that exercises 
substantially unfettered control over the size and composition of its 
assets, liabilities, and off-balance sheet exposures is not a 
traditional securitization based on the transaction's leverage, risk 
profile, or economic substance;
    (9) The FCA may deem a transaction that meets the definition of a 
traditional securitization, notwithstanding paragraph (5), (6), or (7) 
of this definition, to be a traditional securitization based on the 
transaction's leverage, risk profile, or economic substance; and
    (10) The transaction is not:
    (i) An investment fund;
    (ii) A collective investment fund (as defined in [12 CFR 9.18 
(national bank) and 12 CFR 151.40 (Federal saving association) (OCC); 
12 CFR 208.34 (Board)];
    (iii) An employee benefit plan (as defined in paragraphs (3) and 
(32) of section 3 of ERISA), a ``governmental plan'' (as defined in 29 
U.S.C. 1002(32)) that complies with the tax deferral qualification 
requirements provided in the Internal Revenue Code, or any similar 
employee benefit plan established under the laws of a foreign 
jurisdiction;
    (iv) A synthetic exposure to the capital of a System institution to 
the extent deducted from capital under Sec.  628.22; or
    (v) Registered with the SEC under the Investment Company Act of 
1940 (15 U.S.C. 80a-1) or foreign equivalents thereof.
    Tranche means all securitization exposures associated with a 
securitization that have the same seniority level.
    Two-way market means a market where there are 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 within 1 day and settled at that price within a 
relatively short timeframe conforming to trade custom.
    Unallocated retained earnings (URE) means accumulated net income 
that a System institution has not allocated as patronage refunds.
    Unallocated retained earnings (URE) equivalents means nonqualified 
allocated surplus not subject to retirement except upon dissolution or 
liquidation. URE equivalents does not include equities allocated by a 
System institution to other System institutions.
    Unconditionally cancelable means, with respect to a commitment that 
a System institution may, at any time, with or without cause, refuse to 
extend credit under the commitment (to the extent permitted under 
applicable law).
    Underlying exposures means one or more exposures that have been 
securitized in a securitization transaction.
    U.S. Government agency means an instrumentality of the U.S. 
Government whose obligations are fully guaranteed as to the timely 
payment of principal and interest by the full faith and credit of the 
U.S. Government.


Sec.  628.3  Operational requirements for certain exposures.

    For purposes of calculating risk-weighted assets under subpart D of 
this part:
    (a) Cleared transaction. In order to recognize certain exposures as 
cleared transactions pursuant to paragraph (1)(ii), (1)(iii) or (1)(iv) 
of the definition of ``cleared transaction'' in Sec.  628.2, the 
exposures must meet all of the requirements set forth in this 
paragraph.
    (1) The offsetting transaction must be identified by the CCP as a 
transaction for the clearing member client.
    (2) The collateral supporting the transaction must be held in a 
manner that prevents the System institution from facing any loss due to 
an event of default, including from a liquidation, receivership, 
insolvency, or similar proceeding of either the clearing member or the 
clearing member's other clients. Omnibus accounts established under 17 
CFR parts 190 and 300 satisfy the requirements of this paragraph.
    (3) The System institution must conduct sufficient legal review to

[[Page 52884]]

conclude with a well-founded basis (and maintain sufficient written 
documentation of that legal review) that in the event of a legal 
challenge (including one resulting from a default or receivership, 
insolvency, liquidation, or similar proceeding) the relevant court and 
administrative authorities would find the arrangements of paragraph 
(a)(2) of this section to be legal, valid, binding and enforceable 
under the law of the relevant jurisdictions.
    (4) The offsetting transaction with a clearing member must be 
transferable under the transaction documents and applicable laws in the 
relevant jurisdiction(s) to another clearing member should the clearing 
member default, become insolvent, or enter receivership, insolvency, 
liquidation, or similar proceedings.
    (b) Eligible margin loan. In order to recognize an exposure as an 
eligible margin loan as defined in Sec.  628.2, a System institution 
must conduct sufficient legal review to conclude with a well-founded 
basis (and maintain sufficient written documentation of that legal 
review) that the agreement underlying the exposure:
    (1) Meets the requirements of paragraph (1)(iii) of the definition 
of ``eligible margin loan'' in Sec.  628.2, and
    (2) Is legal, valid, binding, and enforceable under applicable law 
in the relevant jurisdictions.
    (c) [Reserved]
    (d) Qualifying master netting agreement. In order to recognize an 
agreement as a qualifying master netting agreement as defined in Sec.  
628.2, a System institution must:
    (1) Conduct sufficient legal review to conclude with a well-founded 
basis (and maintain sufficient written documentation of that legal 
review) that:
    (i) The agreement meets the requirements of paragraph (2) of the 
definition of ``qualifying master netting agreement'' in Sec.  628.2; 
and
    (ii) In the event of a legal challenge (including one resulting 
from default or from receivership, insolvency, liquidation, or similar 
proceeding) the relevant court and administrative authorities would 
find the agreement to be legal, valid, binding, and enforceable under 
the law of the relevant jurisdictions; and
    (2) Establish and maintain written procedures to monitor possible 
changes in relevant law and to ensure that the agreement continues to 
satisfy the requirements of the definition of ``qualifying master 
netting agreement'' in Sec.  628.2.
    (e) Repo-style transaction. In order to recognize an exposure as a 
repo-style transaction as defined in Sec.  628.2, a System institution 
must conduct sufficient legal review to conclude with a well-founded 
basis (and maintain sufficient written documentation of that legal 
review) that the agreement underlying the exposure:
    (1) Meets the requirements of paragraph (3) of the definition of 
``repo-style transaction'' in Sec.  628.2, and
    (2) Is legal, valid, binding, and enforceable under applicable law 
in the relevant jurisdictions.
    (f) Failure of a QCCP to satisfy the rule's requirements. If a 
System institution determines that a CCP ceases to be a QCCP due to the 
failure of the CCP to satisfy one or more of the requirements set forth 
in paragraph (2)(i) through (2)(iii) of the definition of a ``QCCP'' in 
Sec.  628.2, the System institution may continue to treat the CCP as a 
QCCP for up to 3 months following the determination. If the CCP fails 
to remedy the relevant deficiency within 3 months after the initial 
determination, or the CCP fails to satisfy the requirements set forth 
in paragraph (2)(i) through (2)(iii) of the definition of a QCCP 
continuously for a 3-month period after remedying the relevant 
deficiency, a System institution may not treat the CCP as a QCCP for 
the purposes of this part until after the System institution has 
determined that the CCP has satisfied the requirements in paragraph 
(2)(i) through (2)(iii) of the definition of a QCCP for 3 continuous 
months.


Sec. Sec.  628.4--628.9  [Reserved]

Subpart B--Capital Ratio Requirements and Buffers


Sec.  628.10  Minimum capital requirements.

    (a) Computation of regulatory capital ratios. A System 
institution's regulatory capital ratios are determined on the basis of 
the financial statements of the institution prepared in accordance with 
GAAP using average daily balances for the most recent 3 months.
    (b) Minimum capital requirements. A System institution must 
maintain the following minimum capital ratios:
    (1) A common equity tier 1 (CET1) capital ratio of 4.5 percent.
    (2) A tier 1 capital ratio of 6 percent.
    (3) A total capital ratio of 8 percent.
    (4) A tier 1 leverage ratio of 5 percent, of which at least 1.5 
percent must be composed of URE and URE equivalents.
    (5) [Reserved]
    (6) A permanent capital ratio of 7 percent.
    (c) Capital ratio calculations. A System institution's regulatory 
capital ratios are as follows:
    (1) CET1 capital ratio. A System institution's CET1 capital ratio 
is the ratio of the System institution's CET1 capital to total risk-
weighted assets;
    (2) Tier 1 capital ratio. A System institution's tier 1 capital 
ratio is the ratio of the System institution's tier 1 capital to total 
risk-weighted assets;
    (3) Total capital ratio. A System institution's total capital ratio 
is the ratio of the System institution's total (tier 1 and tier 2) 
capital to total risk-weighted assets; and
    (4) Tier 1 leverage ratio. A System institution's leverage ratio is 
the ratio of the institution's tier 1 capital to the institution's 
average total consolidated assets as reported on the institution's Call 
Report minus amounts deducted from tier 1 capital under Sec. Sec.  
628.22(a), (c) and (d), and 628.23.
    (5) Permanent capital ratio. A System institution's permanent 
capital ratio must be calculated in accordance with the regulations in 
part 615, subpart H, of this chapter.
    (d) [Reserved]
    (e) Capital adequacy. (1) Notwithstanding the minimum requirements 
in this part, a System institution must maintain capital commensurate 
with the level and nature of all risks to which the System institution 
is exposed. FCA may evaluate a System institution's capital adequacy 
and require that institution to maintain higher minimum regulatory 
capital ratios using the factors listed in Sec.  615.5350 of this 
chapter.
    (2) A System institution must have a process for assessing its 
overall capital adequacy in relation to its risk profile and a 
comprehensive strategy for maintaining an appropriate level of capital 
under Sec.  615.5200 of this chapter.


Sec.  628.11  Capital conservation buffer amount.

    (a) Capital conservation buffer--(1) Composition of the capital 
conservation buffer. The capital conservation buffer is composed solely 
of CET1 capital.
    (2) Definitions. For purposes of this section, the following 
definitions apply:
    (i) Eligible retained income. The eligible retained income of a 
System institution is the System institution's net income for the 4 
calendar quarters preceding the current calendar quarter, based on the 
System institution's quarterly Call Reports, net of any capital 
distributions and associated tax effects not already reflected in net 
income.
    (ii) Maximum payout ratio. The maximum payout ratio is the 
percentage of eligible retained income that a System institution can 
pay out in the form of capital distributions and discretionary bonus 
payments during the current calendar quarter. The maximum payout ratio 
is based on the

[[Page 52885]]

System institution's capital conservation buffer, calculated as of the 
last day of the previous calendar quarter, as set forth in Table 1 to 
Sec.  628.11.
    (iii) Maximum payout amount. A System institution's maximum payout 
amount for the current calendar quarter is equal to the System 
institution's eligible retained income, multiplied by the applicable 
maximum payout ratio, as set forth in Table 1 to Sec.  628.11.
    (iv) [Reserved]
    (v) Capital distribution means:
    (A) A reduction of tier 1 capital through the repurchase or 
redemption of a tier 1 capital instrument or by other means, except 
when a System institution, within the same quarter when the repurchase 
is announced, fully replaces a tier 1 capital instrument it has 
repurchased by issuing another capital instrument that meets the 
eligibility criteria for:
    (1) A CET1 capital instrument if the instrument being repurchased 
was part of the System institution's CET1 capital; or
    (2) A CET1 or AT1 capital instrument if the instrument being 
repurchased was part of the System institution's tier 1 capital;
    (B) A reduction of tier 2 capital through the repurchase, or 
redemption prior to maturity, of a tier 2 capital instrument or by 
other means, except when a System institution, within the same quarter 
when the repurchase or redemption is announced, fully replaces a tier 2 
capital instrument it has repurchased by issuing another capital 
instrument that meets the eligibility criteria for a tier 1 or tier 2 
capital instrument;
    (C) A dividend declaration or payment on any tier 1 capital 
instrument;
    (D) A dividend declaration or interest payment on any tier 2 
capital instrument if the System institution has full discretion to 
permanently or temporarily suspend such payments without triggering an 
event of default;
    (E) A cash patronage refund declaration or payment;
    (F) A patronage refund declaration in the form of allocated 
equities that did not qualify as tier 1 or tier 2 capital;\5\ or
---------------------------------------------------------------------------

    \5\ A patronage refund declaration or payment in the form of 
allocated equities that qualifies as tier 1 capital is not a 
reduction in tier 1 capital. It is just a reclassification from one 
tier 1 capital element into a different tier 1 capital element.
---------------------------------------------------------------------------

    (G) Any similar transaction that the FCA determines to be in 
substance a distribution of capital.
    (3) Calculation of capital conservation buffer. (i) A System 
institution's capital conservation buffer is equal to the lowest of the 
following ratios, calculated as of the last day of the previous 
calendar quarter based on the System institution's most recent Call 
Report:
    (A) The System institution's CET1 capital ratio minus the System 
institution's minimum CET1 capital ratio requirement under Sec.  
628.10;
    (B) The System institution's tier 1 capital ratio minus the System 
institution's minimum tier 1 capital ratio requirement under Sec.  
628.10; and
    (C) The System institution's total capital ratio minus the System 
institution's minimum total capital ratio requirement under Sec.  
628.10; or
    (ii) Notwithstanding paragraphs (a)(3)(i)(A) through (C) of this 
section, if the System institution's CET1, tier 1 or total capital 
ratio is less than or equal to the System institution's minimum CET1, 
tier 1 or total capital ratio requirement under Sec.  628.10, 
respectively, the System institution's capital conservation buffer is 
zero.
    (4) Limits on capital distributions and discretionary bonus 
payments. (i) A System institution must not make capital distributions 
or discretionary bonus payments or create an obligation to make such 
capital distributions or payments during the current calendar quarter 
that, in the aggregate, exceed the maximum payout amount.
    (ii) A System institution with a capital conservation buffer that 
is greater than 2.5 percent is not subject to a maximum payout amount 
under this section.
    (iii) Negative eligible retained income. Except as provided in 
paragraph (a)(4)(iv) of this section, a System institution may not make 
capital distributions or discretionary bonus payments during the 
current calendar quarter if the System institution's:
    (A) Eligible retained income is negative; and
    (B) Capital conservation buffer was less than 2.5 percent as of the 
end of the previous calendar quarter.
    (iv) Prior approval. Notwithstanding the limitations in paragraphs 
(a)(4)(i) through (a)(4)(iii) of this section, FCA may permit a System 
institution to make a capital distribution or discretionary bonus 
payment upon a request of the System institution, if FCA determines 
that the capital distribution or discretionary bonus payment would not 
be contrary to the purposes of this section, or to the safety and 
soundness of the System institution. In making such a determination, 
FCA will consider the nature and extent of the request and the 
particular circumstances giving rise to the request.

     Table 1 to Sec.   628.11--Calculation of Maximum Payout Amount
------------------------------------------------------------------------
                                                          Maximum payout
                                                           ratio  (as a
                                                           percentage of
               Capital conservation buffer                   eligible
                                                             retained
                                                              income)
------------------------------------------------------------------------
> 2.500 percent.........................................   No limitation
<= 2.500 percent, and > 1.875 percent...................              60
<= 1.875 percent, and > 1.250 percent...................              40
<= 1.250 percent, and > 0.625 percent...................              20
<= 0.625 percent........................................               0
------------------------------------------------------------------------

    (v) Other limitations on capital distributions. Additional 
limitations on capital distributions may apply to a System institution 
under subpart C of this part and under part 615, subparts L and M.
    (b) [Reserved]


Sec. Sec.  628.12--628.19  [Reserved]

Subpart C--Definition of Capital


Sec.  628.20  Capital components and eligibility criteria for 
regulatory capital instruments other than permanent capital.

    (a) Regulatory capital components. A System institution's 
regulatory capital components are:
    (1) CET1 capital;
    (2) AT1 capital; and
    (3) Tier 2 capital.
    (b) CET1 capital. CET1 capital is the sum of the CET1 capital 
elements in paragraph (b) of this section, minus regulatory adjustments 
and deductions in Sec.  628.22. The CET1 capital elements are:
    (1) Any common cooperative equity instrument issued by a System 
institution that meets all of the following criteria:
    (i) The instrument is issued directly by the System institution and 
represents a claim subordinated to general creditors, subordinated debt 
holders, and preferred stock holders in a receivership, insolvency, 
liquidation, or similar proceeding of the System institution;
    (ii) The holder of the instrument is entitled to a claim on the 
residual assets of the System institution, the claim will be paid only 
after all creditors, subordinated debt holders, and preferred stock 
claims have been satisfied in a receivership, insolvency, liquidation, 
or similar proceeding;
    (iii) The instrument has no maturity date, can be redeemed only at 
the discretion of the System institution and with the prior approval of 
FCA, and

[[Page 52886]]

does not contain any term or feature that creates an incentive to 
redeem;
    (iv) The System institution did not create, through any action or 
communication, an expectation that it will buy back, cancel, revolve, 
or redeem the instrument, and the instrument does not include any term 
or feature that might give rise to such an expectation, except that the 
establishment of a revolvement period of 10 years or more, or the 
practice of revolving or redeeming the instrument no less than 10 years 
after issuance or allocation, will not be considered to create such an 
expectation;
    (v) Any cash dividend payments on the instrument are paid out of 
the System institution's net income or unallocated retained earnings, 
and are not subject to a limit imposed by the contractual terms 
governing the instrument;
    (vi) The System institution has full discretion at all times to 
refrain from paying any dividends without triggering an event of 
default, a requirement to make a payment-in-kind, or an imposition of 
any other restrictions on the System institution;
    (vii) Dividend payments and other distributions related to the 
instrument may be paid only after all legal and contractual obligations 
of the System institution have been satisfied, including payments due 
on more senior claims;
    (viii) The holders of the instrument bear losses as they occur 
before any losses are borne by holders of preferred stock claims on the 
System institution and holders of any other claims with priority over 
common cooperative equity instruments in a receivership, insolvency, 
liquidation, or similar proceeding;
    (ix) The instrument is classified as equity under GAAP;
    (x) The System institution, or an entity that the System 
institution controls, did not purchase or directly or indirectly fund 
the purchase of the instrument, except that where there is an 
obligation for a member of the institution to hold an instrument in 
order to receive a loan or service from the System institution, an 
amount of that loan equal to the minimum borrower stock requirement 
under section 4.3A of the Act will not be considered as a direct or 
indirect funding where:
    (A) The purpose of the loan is not the purchase of capital 
instruments of the System institution providing the loan; and
    (B) The purchase or acquisition of one or more member equities of 
the institution is necessary in order for the beneficiary of the loan 
to become a member of the System institution;
    (xi) The instrument is not secured, not covered by a guarantee of 
the System institution, and is not subject to any other arrangement 
that legally or economically enhances the seniority of the instrument;
    (xii) The instrument is issued in accordance with applicable laws 
and regulations and with the institution's capitalization bylaws;
    (xiii) The instrument is reported on the System institution's 
regulatory financial statements separately from other capital 
instruments; and
    (xiv) The System institution's capitalization bylaws provide that 
it will not offset the instrument against a member's loan in default, 
that it will not redeem the instrument for a period of at least 10 
years after issuance, or if allocated equities at least 10 years after 
allocation to a member, or reduce the original revolvement period to 
less than 10 years without the prior approval of the FCA, except that 
the minimum statutory borrower stock described under paragraph 
(b)(1)(x) of this section may be redeemed without a minimum period 
outstanding after issuance and without the prior approval of the FCA.
    (2) Unallocated retained earnings.
    (3) [Reserved]
    (4) [Reserved]
    (5) [Reserved]
    (c) AT1 capital. AT1 capital is the sum of additional tier 1 
capital elements and related surplus, minus the regulatory adjustments 
and deductions in Sec. Sec.  628.22 and 628.23. AT1 capital elements 
are:
    (1) Instruments and related surplus, other than common cooperative 
equities, that meet the following criteria:
    (i) The instrument is issued and paid-in;
    (ii) The instrument is subordinated to general creditors and 
subordinated debt holders of the System institution in a receivership, 
insolvency, liquidation, or similar proceeding;
    (iii) The instrument is not secured, not covered by a guarantee of 
the System institution and not subject to any other arrangement that 
legally or economically enhances the seniority of the instrument;
    (iv) The instrument has no maturity date and does not contain a 
dividend step-up or any other term or feature that creates an incentive 
to redeem;
    (v) If callable by its terms, the instrument may be called by the 
System institution only after a minimum of 5 years following issuance, 
except that the terms of the instrument may allow it to be called 
earlier than 5 years upon the occurrence of a regulatory event that 
precludes the instrument from being included in AT1 capital, or a tax 
event. In addition:
    (A) The System institution must receive prior approval from FCA to 
exercise a call option on the instrument.
    (B) The System institution does not create at issuance of the 
instrument, through any action or communication, an expectation that 
the call option will be exercised.
    (C) Prior to exercising the call option, or immediately thereafter, 
the System institution must either replace the instrument to be called 
with an equal amount of instruments that meet the criteria under 
paragraph (b) of this section or this paragraph (c),\6\ or demonstrate 
to the satisfaction of FCA that following redemption, the System 
institution will continue to hold capital commensurate with its risk;
---------------------------------------------------------------------------

    \6\ Replacement can be concurrent with redemption of existing 
AT1 capital instruments.
---------------------------------------------------------------------------

    (vi) Redemption or repurchase of the instrument requires prior 
approval from FCA;
    (vii) The System institution has full discretion at all times to 
cancel dividends or other distributions on the instrument without 
triggering an event of default, a requirement to make a payment-in-
kind, or an imposition of other restrictions on the System institution 
except in relation to any distributions to holders of common 
cooperative equity instruments or other instruments that are pari passu 
with the instrument;
    (viii) Any distributions on the instrument are paid out of the 
System institution's net income, unallocated retained earnings, or 
surplus related to other AT1 capital instruments and are not subject to 
a limit imposed by the contractual terms governing the instrument;
    (ix) The instrument does not have a credit-sensitive feature, such 
as a dividend rate that is reset periodically based in whole or in part 
on the System institution's credit quality, but may have a dividend 
rate that is adjusted periodically independent of the System 
institution's credit quality, in relation to general market interest 
rates or similar adjustments;
    (x) The paid-in amount is classified as equity under GAAP;
    (xi) The System institution did not purchase or directly or 
indirectly fund the purchase of the instrument;
    (xii) The instrument does not have any features that would limit or 
discourage additional issuance of capital by the System institution, 
such as provisions that require the System institution to compensate 
holders of the

[[Page 52887]]

instrument if a new instrument is issued at a lower price during a 
specified timeframe;
    (xiii) [Reserved]; and
    (xiv) The System institution's capitalization bylaws provide that 
it will not redeem the instrument without the prior approval of the 
FCA;
    (2) [Reserved];
    (3) [Reserved];
    (4) Notwithstanding the criteria for AT1 capital instruments 
referenced above:
    (i) [Reserved];
    (ii) An instrument with terms that provide that the instrument may 
be called earlier than 5 years upon the occurrence of a rating agency 
event does not violate the criterion in paragraph (c)(1)(v) of this 
section provided that the instrument was issued and included in a 
System institution's core surplus capital prior to the effective date 
of the final rule, and that such instrument satisfies all other 
criteria under this Sec.  628.20(c).
    (d) Tier 2 Capital. Tier 2 capital is the sum of tier 2 capital 
elements and any related surplus minus regulatory adjustments and 
deductions in Sec. Sec.  628.22 and 628.23. Tier 2 capital elements 
are:
    (1) Instruments (plus related surplus) that meet the following 
criteria:
    (i) The instrument is issued and paid-in, is a common cooperative 
equity, or is member equity purchased in accordance with paragraph 
(d)(1)(viii) of this section;
    (ii) The instrument is subordinated to general creditors of the 
System institution;
    (iii) The instrument is not secured, not covered by a guarantee of 
the System institution and not subject to any other arrangement that 
legally or economically enhances the seniority of the instrument in 
relation to more senior claims;
    (iv) The instrument has a minimum original maturity of at least 5 
years. At the beginning of each of the last 5 years of the life of the 
instrument, the amount that is eligible to be included in tier 2 
capital is reduced by 20 percent of the original amount of the 
instrument (net of redemptions) and is excluded from regulatory capital 
when the remaining maturity is less than 1 year. In addition, the 
instrument must not have any terms or features that require, or create 
significant incentives for, the System institution to redeem the 
instrument prior to maturity; \7\
---------------------------------------------------------------------------

    \7\ An instrument that by its terms automatically converts into 
a tier 1 capital instrument prior to 5 years after issuance complies 
with the 5-year maturity requirement of this criterion.
---------------------------------------------------------------------------

    (v) The instrument, by its terms, may be called by the System 
institution only after a minimum of 5 years following issuance, except 
that the terms of the instrument may allow it to be called sooner upon 
the occurrence of an event that would preclude the instrument from 
being included in tier 2 capital, or a tax event. In addition:
    (A) The System institution must receive the prior approval of FCA 
to exercise a call option on the instrument.
    (B) The System institution does not create at issuance, through 
action or communication, an expectation the call option will be 
exercised.
    (C) Prior to exercising the call option, or immediately thereafter, 
the System institution must either: replace any amount called with an 
equivalent amount of an instrument that meets the criteria for 
regulatory capital under this section; \8\ or demonstrate to the 
satisfaction of FCA that following redemption, the System institution 
would continue to hold an amount of capital that is commensurate with 
its risk;
---------------------------------------------------------------------------

    \8\ A System institution may replace tier 2 capital instruments 
concurrent with the redemption of existing tier 2 capital 
instruments.
---------------------------------------------------------------------------

    (vi) The holder of the instrument must have no contractual right to 
accelerate payment of principal, dividends, or interest on the 
instrument, except in the event of a receivership, insolvency, 
liquidation, or similar proceeding of the System institution;
    (vii) The instrument has no credit-sensitive feature, such as a 
dividend or interest rate that is reset periodically based in whole or 
in part on the System institution's credit standing, but may have a 
dividend rate that is adjusted periodically independent of the System 
institution's credit standing, in relation to general market interest 
rates or similar adjustments;
    (viii) The System institution has not purchased and has not 
directly or indirectly funded the purchase of the instrument, except 
that where common cooperative equity instruments are held by a member 
of the institution in connection with a loan, and the institution funds 
the acquisition of such instruments, that loan shall not be considered 
as a direct or indirect funding where:
    (A) The purpose of the loan is not the purchase of capital 
instruments of the System institution providing the loan;
    (B) The purchase or acquisition of one or more capital instruments 
of the institution is necessary in order for the beneficiary of the 
loan to become a member of the System institution; and
    (C) The capital instruments are in excess of the statutory minimum 
stock purchase amount.
    (ix) [Reserved]
    (x) Redemption of the instrument prior to maturity or repurchase is 
at the discretion of the System institution and requires the prior 
approval of the FCA;
    (xi) If the instrument is a common cooperative equity, the System 
institution's capitalization bylaws provide that it will not, except 
with the prior approval of the FCA, redeem such equity included in tier 
2 capital for a period of at least 5 years after allocating it to a 
member.
    (2) [Reserved]
    (3) ALL up to 1.25 percent of the System institution's total risk-
weighted assets not including any amount of the ALL.
    (4) [Reserved]
    (5) [Reserved]
    (6) [Reserved]
    (e) FCA approval of a capital element. (1) A System institution 
must receive FCA prior approval to include a capital element (as listed 
in this section) in its CET1 capital, AT1 capital, or tier 2 capital 
unless the element is equivalent, in terms of capital quality and 
ability to absorb losses with respect to all material terms, to a 
regulatory capital element FCA determined may be included in regulatory 
capital pursuant to paragraph (e)(3) of this section.
    (i) [Reserved]
    (ii) [Reserved]
    (2) [Reserved]
    (3) After determining that a regulatory capital element may be 
included in a System institution's CET1 capital, AT1 capital, or tier 2 
capital, FCA will make its decision publicly available.
    (f) FCA prior approval of capital redemptions and dividends 
included in tier 1 and tier 2 capital. (1) Subject to the provisions of 
paragraph (f)(5) of this section, a System institution must obtain the 
prior approval of the FCA before paying cash dividends or patronage 
refunds or redeeming equities included in tier 1 or tier 2 capital, 
other than term equities redeemed on their maturity date.
    (2) At least 30 days prior to the intended action, the System 
institution must submit a request for approval to the FCA. The FCA's 
30-day review period begins on the date on which the FCA receives the 
request.
    (3) The request is deemed to be granted if the FCA does not notify 
the System institution to the contrary before the end of the 30-day 
review period.
    (4)(i) A System institution may request advance approval to cover 
several anticipated redemptions and dividend and patronage payments,

[[Page 52888]]

provided that the institution projects sufficient current net income 
during those periods to support the amount of the dividends declared, 
patronage refunds and redemptions. In determining whether to grant 
advance approval, the FCA will consider:
    (A) The reasonableness of the institution's request, including its 
historical and projected patronage refunds, redemptions and dividend 
payments;
    (B) The institution's historical trends and current projections for 
capital growth through earnings retention;
    (C) The overall condition of the institution, with particular 
emphasis on current and projected capital adequacy as described in 
Sec.  628.10(e); and
    (D) Any other information that the FCA deems pertinent to reviewing 
the institution's request.
    (ii) After considering these standards, the FCA may grant prior 
approval for an institution's patronage refunds, redemptions and 
dividends request in advance of the periods in which the patronage 
refunds, redemptions and dividends will be declared. Notwithstanding 
any such approval, an institution may not declare or pay a patronage 
refund, redeem equities or declare or pay a dividend if, after making 
the patronage refunds, redemptions or dividend payments, the 
institution would not meet its regulatory capital requirements set 
forth in parts 615 and 628.
    (5) Subject to any capital distribution restrictions specified in 
Sec.  628.11, a System institution is deemed to have FCA prior approval 
for cash payments of dividends, patronage refunds, or revolvements and 
redemptions of common cooperative equities provided that:
    (i) For revolvements or redemptions of common cooperative equities 
included in CET1 capital other than a member's statutory minimum 
borrower stock purchase requirement described in Sec.  628.20(b)(1)(x), 
the institution issued or allocated such equities at least 10 years 
ago;
    (ii) For revolvements or redemptions of common cooperative equities 
included in Tier 2 capital, the institution issued or allocated such 
equities at least 5 years ago;
    (iii) After such cash distributions the dollar amount of the System 
institution's CET1 capital equals or exceeds the dollar amount of CET1 
capital on the same date in the previous calendar year; and
    (B) The System institution continues to comply with all regulatory 
capital requirements and supervisory or enforcement actions.


Sec.  628.21  [Reserved]


Sec.  628.22  Regulatory capital adjustments and deductions.

    (a) Regulatory capital deductions from CET1 capital. A System 
institution must deduct from the sum of its CET1 capital elements the 
items set forth in this paragraph:
    (1) Goodwill, net of associated deferred tax liabilities (DTLs) in 
accordance with paragraph (e) of this section;
    (2) Intangible assets, other than mortgage servicing assets (MSAs), 
net of associated DTLs in accordance with paragraph (e) of this 
section;
    (3) Deferred tax assets (DTAs) that arise from net operating loss 
and tax credit carryforwards net of any related valuation allowances 
and net of DTLs in accordance with paragraph (e) of this section; \9\
---------------------------------------------------------------------------

    \9\ See Sec.  628.30(a) for DTAs arising from temporary 
differences that a System institution could not realize through net 
operating loss carrybacks.
---------------------------------------------------------------------------

    (4) Any gain-on-sale in connection with a securitization exposure;
    (5) Any defined benefit pension fund net asset, net of any 
associated DTL in accordance with paragraph (e) of this section;
    (6) The System institution's allocated equity investment in another 
System institution;
    (7) [Reserved]; and
    (8) If, without the required prior FCA approval, during the 12 
previous quarters, the System institution redeemed or revolved 
allocated equities included in its CET1 capital that it had allocated 
during the previous 10 years or retired purchased stock that it had 
issued in the previous 10 years, the institution must deduct 30 percent 
of its purchased and allocated equities for 3 years otherwise 
includable in CET1 capital. However, no deduction will be made of 
allocated equities that are URE equivalents unless the institution 
redeemed or revolved URE equivalents.
    (b) [Reserved]
    (c) Deductions from regulatory capital.\10\
---------------------------------------------------------------------------

    \10\ The System institution must calculate amounts deducted 
under Sec. Sec.  628.22(c) through (f) and 628.23 after it 
calculates the amount of ALL includable in tier 2 capital under 
Sec.  628.20(d)(3).
---------------------------------------------------------------------------

    (1) [Reserved]
    (2) Corresponding deduction approach. For purposes of subpart C of 
this part, the corresponding deduction approach is the methodology used 
for the deductions from regulatory capital related to purchased equity 
investments in another System institution (as described in paragraph 
(c)(5) of this section). Under the corresponding deduction approach, a 
System institution must make deductions from the component of capital 
for which the underlying instrument would qualify if it were issued by 
the System institution itself. If the System institution does not have 
a sufficient amount of a specific component of capital to effect the 
required deduction, the shortfall must be deducted according to 
paragraph (f) of this section.
    (i) [Reserved]
    (ii) [Reserved]
    (iii) [Reserved]
    (3) [Reserved]
    (4) [Reserved]
    (5) Purchased equity investments in another System institution. 
System institutions must deduct all purchased equity investments in 
another System institution, service corporation, or the Funding 
Corporation by applying the corresponding deduction approach. \11\ The 
deductions described in this section are net of associated DTLs in 
accordance with paragraph (e) of this section.
---------------------------------------------------------------------------

    \11\ With prior written approval of FCA, for the period 
stipulated by FCA, a System institution is not required to deduct an 
investment in the capital of another institution in distress if such 
investment is made to provide financial support to the System 
institution as determined by FCA.
---------------------------------------------------------------------------

    (d) [Reserved]
    (e) Netting of DTLs against assets subject to deduction. (1) The 
netting of DTLs against assets that are subject to deduction under 
Sec.  628.22 is required, if the following conditions are met:
    (i) The DTL is associated with the asset; and
    (ii) The DTL would be extinguished if the associated asset becomes 
impaired or is derecognized under GAAP.
    (2) A DTL may only be netted against a single asset.
    (3) [Reserved]
    (4) [Reserved]
    (5) [Reserved]
    (f) Insufficient amounts of a specific regulatory capital component 
to effect deductions. Under the corresponding deduction approach, if a 
System institution does not have a sufficient amount of a specific 
component of capital to effect the required deduction after completing 
the deductions required under Sec.  628.22(c), the System institution 
must deduct the shortfall from the next higher (that is, more 
subordinated) component of regulatory capital.
    (g) Treatment of assets that are deducted. A System institution 
must exclude from total risk-weighted assets any item deducted from 
regulatory capital under paragraphs (a) and (c) of this section.
    (h) [Reserved]

[[Page 52889]]

Sec.  628.23  Limits on third-party capital.

    (a) Limit on inclusion of third-party capital in tier 1 capital. 
The combined amount of third-party capital instruments that a System 
institution may include in tier 1 capital is equal to the greater of 
the following:
    (1) The then existing limit, if any, or
    (2) One third of the average of the previous 4 quarters for the 
previous year of the tier 1 capital reported on its Call Report filed 
with FCA less any amounts of third-party capital reported in tier 1 
capital.
    (b) Limit on inclusion of third-party capital in total (tier 1 and 
tier 2) capital. The combined amount of third-party capital instruments 
that a System institution may include in its total (tier 1 and tier 2) 
capital is equal to the lesser of the following:
    (1) An amount equal to 40 percent of its total capital outstanding, 
or
    (2) An amount equal to 100 percent of its tier 1 capital 
outstanding.
    (c) Treatment of assets that are deducted. A System institution 
must exclude from total risk-weighted assets any item deducted from 
regulatory capital under this section.


Sec. Sec.  628.24-628.29  [Reserved]

Subpart D--Risk-Weighted Assets--Standardized Approach


Sec.  628.30  Applicability.

    (a) This subpart sets forth methodologies for determining risk-
weighted assets for purposes of the generally applicable risk-based 
capital requirements for all System institutions.
    (b) [Reserved]

Risk-Weighted Assets for General Credit Risk


Sec.  628.31  Mechanics for calculating risk-weighted assets for 
general credit risk.

    (a) General risk-weighting requirements. A System institution must 
apply risk weights to its exposures as follows:
    (1) A System institution must determine the exposure amount of each 
on-balance sheet exposure, each OTC derivative contract, and each off-
balance sheet commitment, trade and transaction-related contingency, 
guarantee, repo-style transaction, financial standby letter of credit, 
forward agreement, or other similar transaction that is not:
    (i) An unsettled transaction subject to Sec.  628.38;
    (ii) A cleared transaction subject to Sec.  628.35;
    (iii) [Reserved];
    (iv) A securitization exposure subject to Sec. Sec.  628.41 through 
628.45; or
    (v) An equity exposure (other than an equity OTC derivative 
contract) subject to Sec. Sec.  628.51 through 628.53.
    (2) The System institution must multiply each exposure amount by 
the risk weight appropriate to the exposure based on the exposure type 
or counterparty, eligible guarantor, or financial collateral to 
determine the risk-weighted asset amount for each exposure.
    (b) Total risk-weighted assets for general credit risk equals the 
sum of the risk-weighted asset amounts calculated under this section.


Sec.  628.32  General risk weights.

    (a) Sovereign exposures--(1) Exposures to the U.S. Government. (i) 
Notwithstanding any other requirement in this subpart, a System 
institution must assign a 0-percent risk weight to:
    (A) An exposure to the U.S. Government, its central bank, or a U.S. 
Government agency; and
    (B) The portion of an exposure that is directly and unconditionally 
guaranteed by the U.S. Government, its central bank, or a U.S. 
Government agency. This includes a deposit or other exposure, or the 
portion of a deposit or other exposure, that is insured or otherwise 
unconditionally guaranteed by the Federal Deposit Insurance Corporation 
or National Credit Union Administration.
    (ii) A System institution must assign a 20-percent risk weight to 
the portion of an exposure that is conditionally guaranteed by the U.S. 
Government, its central bank, or a U.S. Government agency. This 
includes an exposure, or the portion of an exposure, that is 
conditionally guaranteed by the Federal Deposit Insurance Corporation 
or National Credit Union Administration.
    (2) Other sovereign exposures. In accordance with Table 1 to Sec.  
628.32, a System institution must assign a risk weight to a sovereign 
exposure based on the Country Risk Classification (CRC) applicable to 
the sovereign or the sovereign's Organization for Economic Cooperation 
and Development (OECD) membership status if there is no CRC applicable 
to the sovereign.

     Table 1 to Sec.   628.32--Risk Weights for Sovereign Exposures
------------------------------------------------------------------------
                                                            Risk weight
                                                           (in percent)
------------------------------------------------------------------------
CRC:
    0-1.................................................               0
    2...................................................              20
    3...................................................              50
    4-6.................................................             100
    7...................................................             150
OECD Member with no CRC.................................               0
Non-OECD Member with no CRC.............................             100
Sovereign Default.......................................             150
------------------------------------------------------------------------

    (3) Certain sovereign exposures. Notwithstanding paragraph (a)(2) 
of this section, a System institution may assign to a sovereign 
exposure a risk weight that is lower than the applicable risk weight in 
Table 1 to Sec.  628.32 if:
    (i) The exposure is denominated in the sovereign's currency;
    (ii) The System institution has at least an equivalent amount of 
liabilities in that currency; and
    (iii) The risk weight is not lower than the risk weight that the 
sovereign allows banking organizations under its jurisdiction to assign 
to the same exposures to the sovereign.
    (4) Exposures to a non-OECD member sovereign with no CRC. Except as 
provided in paragraph (a)(3), (a)(5), and (a)(6) of this section, a 
System institution must assign a 100-percent risk weight to a sovereign 
exposure if the sovereign does not have a CRC.
    (5) Exposures to an OECD member sovereign with no CRC. Except as 
provided in paragraph (a)(6) of this section, a System institution must 
assign a 0-percent risk weight to an exposure to a sovereign that is a 
member of the OECD if the sovereign does not have a CRC.
    (6) Sovereign default. A System institution must assign a 150-
percent risk weight to a sovereign exposure immediately upon 
determining that an event of sovereign default has occurred, or if an 
event of sovereign default has occurred during the previous 5 years.
    (b) Certain supranational entities and multilateral development 
banks (MDBs). A System institution must assign a 0-percent risk weight 
to an exposure to the Bank for International Settlements, the European 
Central Bank, the European Commission, the International Monetary Fund, 
or an MDB.
    (c) Exposures to Government-sponsored enterprises (GSEs). (1) A 
System institution must assign a 20-percent risk weight to an exposure 
to a GSE other than an equity exposure or preferred stock.
    (2) A System institution must assign a 100-percent risk weight to 
preferred stock issued by a GSE.
    (d) Exposures to depository institutions, foreign banks, and credit 
unions--(1) Exposures to U.S.

[[Page 52890]]

depository institutions and credit unions. A System institution must 
assign a 20-percent risk weight to an exposure to a depository 
institution or credit union that is organized under the laws of the 
United States or any state thereof, except as otherwise provided in 
this paragraph. This risk weight applies to an exposure a System bank 
has to an other financing institution (OFI) that is a depository 
institution or credit union organized under the laws of the United 
States or any state thereof or owned and controlled by such an entity 
that guarantees the exposure. If the OFI exposure does not satisfy 
these requirements, it must be assigned a risk weight as a corporate 
exposure pursuant to paragraph (f)(2) of this section.
    (2) Exposures to foreign banks. (i) Except as otherwise provided 
under paragraphs (d)(2)(iv) of this section, a System institution must 
assign a risk weight to an exposure to a foreign bank, in accordance 
with Table 2 to Sec.  628.32, based on the CRC rating that corresponds 
to the foreign bank's home country or the OECD membership status of the 
foreign bank's home country if there is no CRC applicable to the 
foreign bank's home country.

  Table 2 to Sec.   628.32--Risk Weights for Exposures to Foreign Banks
------------------------------------------------------------------------
                                                            Risk weight
                                                           (in percent)
------------------------------------------------------------------------
CRC:....................................................
    0-1.................................................              20
    2...................................................              50
    3...................................................             100
    4-7.................................................             150
OECD Member with No CRC.................................              20
Non-OECD with No CRC....................................             100
Sovereign Default.......................................             150
------------------------------------------------------------------------

    (ii) A System institution must assign a 20-percent risk weight to 
an exposure to a foreign bank whose home country is a member of the 
OECD and does not have a CRC.
    (iii) A System institution must assign a 100-percent risk weight to 
an exposure to a foreign bank whose home country is not a member of the 
OECD and does not have a CRC, with the exception of self-liquidating, 
trade-related contingent items that arise from the movement of goods, 
and that have a maturity of 3 months or less, which may be assigned a 
20-percent risk weight.
    (iv) A System institution must assign a 150-percent risk weight to 
an exposure to a foreign bank immediately upon determining that an 
event of sovereign default has occurred in the bank's home country, or 
if an event of sovereign default has occurred in the foreign bank's 
home country during the previous 5 years.
    (3) [Reserved]
    (e) Exposures to public sector entities (PSEs).--(1) Exposures to 
U.S. PSEs. (i) A System institution must assign a 20-percent risk 
weight to a general obligation exposure to a PSE that is organized 
under the laws of the United States or any state or political 
subdivision thereof.
    (ii) A System institution must assign a 50-percent risk weight to a 
revenue obligation exposure to a PSE that is organized under the laws 
of the United States or any state or political subdivision thereof.
    (2) Exposures to foreign PSEs. (i) Except as provided in paragraphs 
(e)(1) and (e)(3) of this section, a System institution must assign a 
risk weight to a general obligation exposure to a foreign PSE, in 
accordance with Table 3 to Sec.  628.32, based on the CRC that 
corresponds to the PSE's home country or the OECD membership status of 
the PSE's home country if there is no CRC applicable to the PSE's home 
country.
    (ii) Except as provided in paragraphs (e)(1) and (e)(3) of this 
section, a System institution must assign a risk weight to a revenue 
obligation exposure to a foreign PSE, in accordance with Table 4 to 
Sec.  628.32, based on the CRC that corresponds to the PSE's home 
country; or the OECD membership status of the PSE's home country if 
there is no CRC applicable to the PSE's home country.
    (3) A System institution may assign a lower risk weight than would 
otherwise apply under Tables 3 and 4 to Sec.  628.32 to an exposure to 
a foreign PSE if:
    (i) The PSE's home country supervisor allows banks under its 
jurisdiction to assign a lower risk weight to such exposures; and
    (ii) The risk weight is not lower than the risk weight that 
corresponds to the PSE's home country in accordance with Table 1 to 
Sec.  628.32.

     Table 3 to Sec.   628.32--Risk Weights for Non-U.S. PSE General
                               Obligations
------------------------------------------------------------------------
                                                            Risk weight
                                                           (in percent)
------------------------------------------------------------------------
CRC:
    0-1.................................................              20
    2...................................................              50
    3...................................................             100
    4-7.................................................             150
OECD Member with No CRC.................................              20
Non-OECD Member with No CRC.............................             100
Sovereign Default.......................................             150
------------------------------------------------------------------------


     Table 4 to Sec.   628.32--Risk Weights for Non-U.S. PSE Revenue
                               Obligations
------------------------------------------------------------------------
                                                            Risk weight
                                                           (in percent)
------------------------------------------------------------------------
CRC:
    0-1.................................................              50
    2-3.................................................             100
    4-7.................................................             150
OECD Member with No CRC.................................              50
Non-OECD Member with No CRC.............................             100
Sovereign Default.......................................             150
------------------------------------------------------------------------

    (4) Exposures to PSEs from an OECD member sovereign with no CRC. 
(i) A System institution must assign a 20-percent risk weight to a 
general obligation exposure to a PSE whose home country is a OECD 
member sovereign with no CRC.
    (ii) A System institution must assign a 50-percent risk weight to a 
revenue obligation exposure to a PSE whose country is an OECD member 
sovereign with no CRC.
    (5) Exposures to PSEs whose home country is not an OECD member 
sovereign with no CRC. A System institution must assign a 100-percent 
risk weight to an exposure to a PSE whose home country is not a member 
of the OECD and does not have a CRC.
    (6) A System institution must assign a 150-percent risk weight to a 
PSE exposure immediately upon determining that an event of sovereign 
default has occurred in a PSE's home country or if an event of 
sovereign default has occurred in the PSE's home country during the 
previous 5 years.
    (f) Corporate exposures. A System institution must assign a 100-
percent risk weight to all its corporate exposures. Assets assigned a 
risk weight under this provision include:
    (1) Borrower loans such as agricultural loans and consumer loans, 
regardless of the corporate form of the borrower, unless those loans 
qualify for different risk weights under other provisions of this 
subpart D;
    (2) System bank exposures to OFIs that do not satisfy the 
requirements for a 20-percent risk weight pursuant to paragraph (d)(1) 
of this section; and
    (3) Premises, fixed assets, and other real estate owned.
    (g) Residential mortgage exposures. (1) A System institution must 
assign a 50-percent risk weight to a first-lien residential mortgage 
exposure that:
    (i) Is secured by a property that is either owner-occupied or 
rented;
    (ii) Is made in accordance with prudent underwriting standards 
suitable for residential property, including standards relating to the 
loan amount as

[[Page 52891]]

a percent of the appraised value of the property;
    (iii) Is not 90 days or more past due or carried in nonaccrual 
status; and
    (iv) Is not restructured or modified.
    (2) A System institution must assign a 100-percent risk weight to a 
first-lien residential mortgage exposure that does not meet the 
criteria in paragraph (g)(1) of this section, and to junior-lien 
residential mortgage exposures.
    (3) For the purpose of this paragraph (g), if a System institution 
holds the first-lien and junior-lien(s) residential mortgage exposures, 
and no other party holds an intervening lien, the System institution 
must combine the exposures and treat them as a single first-lien 
residential mortgage exposure.
    (4) A loan modified or restructured solely pursuant to the U.S. 
Treasury's Home Affordable Mortgage Program is not modified or 
restructured for purposes of this section.
    (h) [Reserved]
    (i) [Reserved]
    (j) High-volatility commercial real estate (HVCRE) exposures. A 
System institution must assign a 150-percent risk weight to an HVCRE 
exposure.
    (k) Past due exposures. Except for a sovereign exposure or a 
residential mortgage exposure, a System institution must determine a 
risk weight for an exposure that is 90 days or more past due or in 
nonaccrual status according to the requirements set forth in this 
paragraph.
    (1) A System institution must assign a 150-percent risk weight to 
the portion of the exposure that is not guaranteed or that is not 
secured by financial collateral.
    (2) A System institution may assign a risk weight to the guaranteed 
portion of a past due exposure based on the risk weight that applies 
under Sec.  628.36 if the guarantee or credit derivative meets the 
requirements of that section.
    (3) A System institution may assign a risk weight to the portion of 
a past due exposure that is collateralized by financial collateral 
based on the risk weight that applies under Sec.  628.37 if the 
financial collateral meets the requirements of that section.
    (l) Other assets. (1) A System institution must assign a 0-percent 
risk weight to cash owned and held in all offices of the System 
institution, in transit, or in accounts at a depository institution or 
a Federal Reserve Bank; to gold bullion held in a depository 
institution's vaults on an allocated basis, to the extent the gold 
bullion assets are offset by gold bullion liabilities; and to exposures 
that arise from the settlement of cash transactions (such as equities, 
fixed income, spot foreign exchange (FX) and spot commodities) with a 
central counterparty where there is no assumption of ongoing 
counterparty credit risk by the central counterparty after settlement 
of the trade.
    (2) A System institution must assign a 20-percent risk weight to 
cash items in the process of collection.
    (3) A System institution must assign a 100-percent risk weight to 
deferred tax assets (DTAs) arising from temporary differences that the 
System institution could realize through net operating loss carrybacks.
    (4) A System institution must assign a 100-percent risk weight to 
all MSAs.
    (5) A System institution must assign a 100-percent risk weight to 
all assets that are not specifically assigned a different risk weight 
under this subpart and that are not deducted from tier 1 or tier 2 
capital pursuant to Sec.  628.22.
    (6) [Reserved]
    (m) System institution exposure to other System institutions. A 
System bank must assign a 20-percent risk weight to loans made to an 
association.


Sec.  628.33  Off-balance sheet exposures.

    (a) General. (1) A System institution must calculate the exposure 
amount of an off-balance sheet exposure using the credit conversion 
factors (CCFs) in paragraph (b) of this section.
    (2) Where a System institution commits to provide a commitment, the 
System institution may apply the lower of the two applicable CCFs.
    (3) Where a System institution provides a commitment structured as 
a syndication or participation, the System institution is only required 
to calculate the exposure amount for its pro rata share of the 
commitment.
    (4) Where a System institution provides a commitment, enters into a 
repurchase agreement, or provides a credit enhancing representation and 
warranty, and such commitment, repurchase agreement, or credit-
enhancing representation and warranty is not a securitization exposure, 
the exposure amount shall be no greater than the maximum contractual 
amount of the commitment, repurchase agreement, or credit-enhancing 
representation and warranty, as applicable.
    (5) The exposure amount of a System bank's commitment to an 
association is the difference between the association's maximum credit 
limit with the System bank (as established by the general financing 
agreement or promissory note, as required by Sec.  614.4125(d)) and the 
amount the association has borrowed from the System bank.
    (b) Credit conversion factors--(1) Zero-percent (0%) CCF. A System 
institution must apply a 0-percent CCF to the unused portion of a 
commitment that is unconditionally cancelable by the System 
institution.
    (2) Twenty-percent (20%) CCF. A System institution must apply a 20-
percent CCF to the amount of:
    (i) Commitments with an original maturity of 14 months or less that 
are not unconditionally cancelable by the System institution.
    (ii) Self-liquidating, trade-related contingent items that arise 
from the movement of goods, with an original maturity of 14 months or 
less.
    (3) Fifty-percent (50%) CCF. A System institution must apply a 50-
percent CCF to the amount of:
    (i) Commitments with an original maturity of more than 14 months 
that are not unconditionally cancelable by the System institution.
    (ii) Transaction-related contingent items, including performance 
bonds, bid bonds, warranties, and performance standby letters of 
credit.
    (4) One hundred-percent (100%) CCF. A System institution must apply 
a 100-percent CCF to the following off-balance sheet items and other 
similar transactions:
    (i) Guarantees;
    (ii) Repurchase agreements (the off-balance sheet component of 
which equals the sum of the current fair values of all positions the 
System institution has sold subject to repurchase);
    (iii) Credit-enhancing representations and warranties that are not 
securitization exposures;
    (iv) Off-balance sheet securities lending transactions (the off-
balance sheet component of which equals the sum of the current fair 
values of all positions the System institution has lent under the 
transaction);
    (v) Off-balance sheet securities borrowing transactions (the off-
balance sheet component of which equals the sum of the current fair 
values of all non-cash positions the System institution has posted as 
collateral under the transaction);
    (vi) Financial standby letters of credit; and
    (vii) Forward agreements.


Sec.  628.34  OTC derivative contracts.

    (a) Exposure amount--(1) Single OTC derivative contract. Except as 
modified by paragraph (b) of this section, the exposure amount for a 
single OTC derivative contract that is not subject to a qualifying 
master netting agreement is equal to the sum of the System 
institution's current credit exposure and potential future credit 
exposure (PFE) on the OTC derivative contract.

[[Page 52892]]

    (i) Current credit exposure. The current credit exposure for a 
single OTC derivative contract is the greater of the mark-to-fair value 
of the OTC derivative contract or 0.
    (ii) PFE. (A) The PFE for a single OTC derivative contract, 
including an OTC derivative contract with a negative mark-to-fair 
value, is calculated by multiplying the notional principal amount of 
the OTC derivative contract by the appropriate conversion factor in 
Table 1 to Sec.  628.34.
    (B) For purposes of calculating either the PFE under this paragraph 
or the gross PFE under paragraph (a)(2) of this section for exchange 
rate contracts and other similar contracts in which the notional 
principal amount is equivalent to the cash flows, notional principal 
amount is the net receipts to each party falling due on each value date 
in each currency.
    (C) For an OTC derivative contract that does not fall within one of 
the specified categories in Table 1 to Sec.  628.34, the PFE must be 
calculated using the appropriate ``other'' conversion factor.
    (D) A System institution must use an OTC derivative contract's 
effective notional principal amount (that is, the apparent or stated 
notional principal amount multiplied by any multiplier in the OTC 
derivative contract) rather than the apparent or stated notional 
principal amount in calculating PFE.
    (E) The PFE of the protection provider of a credit derivative is 
capped at the net present value of the amount of unpaid premiums.

                                     Table 1 to Sec.   628.34--Conversion Factor Matrix for Derivative Contracts \1\
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                              Credit       Credit (non-
                                                              Foreign       (investment     investment                       Precious
         Remaining maturity \2\           Interest  rate  exchange  rate       grade           grade          Equity          metals           Other
                                                             and  gold       reference       reference                    (except  gold)
                                                                            asset) \3\        asset)
--------------------------------------------------------------------------------------------------------------------------------------------------------
One (1) year or less....................            0.00            0.01            0.05            0.10            0.06            0.07            0.10
Greater than one (1) year and less than            0.005            0.05            0.05            0.10            0.08            0.07            0.12
 or equal to five (5) years.............
Greater than five (5) years.............           0.015           0.075            0.05            0.10            0.10            0.08            0.15
--------------------------------------------------------------------------------------------------------------------------------------------------------
\1\ For a derivative contract with multiple exchanges of principal, the conversion factor is multiplied by the number of remaining payments in the
  derivative contract.
\2\ For an OTC derivative contract that is structured such that on specified dates any outstanding exposure is settled and the terms are reset so that
  the fair value of the contract is 0, the remaining maturity equals the time until the next reset date. For an interest rate derivative contract with a
  remaining maturity of greater than 1 year that meets these criteria, the minimum conversion factor is 0.005.
\3\ A System institution must use the column labeled ``Credit (investment-grade reference asset)'' for a credit derivative whose reference asset is an
  outstanding unsecured long-term debt security without credit enhancement that is investment grade. A System institution must use the column labeled
  ``Credit (non-investment-grade reference asset)'' for all other credit derivatives.

    (2) Multiple OTC derivative contracts subject to a qualifying 
master netting agreement. Except as modified by paragraph (b) of this 
section, the exposure amount for multiple OTC derivative contracts 
subject to a qualifying master netting agreement is equal to the sum of 
the net current credit exposure and the adjusted sum of the PFE amounts 
for all OTC derivative contracts subject to the qualifying master 
netting agreement.
    (i) Net current credit exposure. The net current credit exposure is 
the greater of the net sum of all positive and negative mark-to-fair 
values of the individual OTC derivative contracts subject to the 
qualifying master netting agreement or 0.
    (ii) Adjusted sum of the PFE amounts. The adjusted sum of the PFE 
amounts, Anet, is calculated as

Anet = (0.4xAgross) + 
(0.6xNGRxAgross), where:

    (A) Agross = the gross PFE (that is, the sum of the PFE amounts 
(as determined under paragraph (a)(1)(ii) of this section for each 
individual derivative contract subject to the qualifying master 
netting agreement); and
    (B) Net-to-gross Ratio (NGR) = the ratio of the net current 
credit exposure to the gross current credit exposure. In calculating 
the NGR, the gross current credit exposure equals the sum of the 
positive current credit exposures (as determined under paragraph 
(a)(1)(i) of this section) of all individual derivative contracts 
subject to the qualifying master netting agreement.

    (b) Recognition of credit risk mitigation of collateralized OTC 
derivative contracts. (1) A System institution may recognize the credit 
risk mitigation benefits of financial collateral that secures an OTC 
derivative contract or multiple OTC derivative contracts subject to a 
qualifying master netting agreement (netting set) by using the simple 
approach in Sec.  628.37(b).
    (2) Alternatively, if the financial collateral securing a contract 
or netting set described in paragraph (b)(1) of this section is marked-
to-fair value on a daily basis and subject to a daily margin 
maintenance requirement, a System institution may recognize the credit 
risk mitigation benefits of financial collateral that secures the 
contract or netting set by using the collateral haircut approach in 
Sec.  628.37(c).
    (c) Counterparty credit risk for OTC credit derivatives--(1) 
Protection purchasers. A System institution that purchases an OTC 
credit derivative that is recognized under Sec.  628.36 as a credit 
risk mitigant is not required to compute a separate counterparty credit 
risk capital requirement under Sec.  628.32 provided that the System 
institution does so consistently for all such credit derivatives. The 
System institution must either include all or exclude all such credit 
derivatives that are subject to a qualifying master netting agreement 
from any measure used to determine counterparty credit risk exposure to 
all relevant counterparties for risk-based capital purposes.
    (2) Protection providers. (i) A System institution that is the 
protection provider under an OTC credit derivative must treat the OTC 
credit derivative as an exposure to the underlying reference asset. The 
System institution is not required to compute a counterparty credit 
risk capital requirement for the OTC credit derivative under Sec.  
628.32, provided that this treatment is applied consistently for all 
such OTC credit derivatives. The System institution must either include 
all or exclude all such OTC credit derivatives that are subject to a 
qualifying master netting agreement from any measure used to determine 
counterparty credit risk exposure.

[[Page 52893]]

    (ii) The provisions of paragraph (c)(2) of this section apply to 
all relevant counterparties for risk-based capital purposes.
    (d) Counterparty credit risk for OTC equity derivatives. (1) A 
System institution must treat an OTC equity derivative contract as an 
equity exposure and compute a risk-weighted asset amount for the OTC 
equity derivative contract under Sec. Sec.  628.51 through 628.53.
    (2) [Reserved]
    (3) If the System institution risk weights the contract under the 
Simple Risk-Weight Approach (SRWA) in Sec.  628.52, the System 
institution may choose not to hold risk-based capital against the 
counterparty credit risk of the OTC equity derivative contract, as long 
as it does so for all such contracts. Where the OTC equity derivative 
contracts are subject to a qualified master netting agreement, a System 
institution using the SRWA must either include all or exclude all of 
the contracts from any measure used to determine counterparty credit 
risk exposure.
    (e) [Reserved]


Sec.  628.35  Cleared transactions.

    (a) General requirements--(1) Clearing member clients. A System 
institution that is a clearing member client must use the methodologies 
described in paragraph (b) of this section to calculate risk-weighted 
assets for a cleared transaction.
    (2) [Reserved]
    (b) Clearing member client System institutions--(1) Risk-weighted 
assets for cleared transactions. (i) To determine the risk-weighted 
asset amount for a cleared transaction, a System institution that is a 
clearing member client must multiply the trade exposure amount for the 
cleared transaction, calculated in accordance with paragraph (b)(2) of 
this section, by the risk weight appropriate for the cleared 
transaction, determined in accordance with paragraph (b)(3) of this 
section.
    (ii) A clearing member client System institution's total risk-
weighted assets for cleared transactions is the sum of the risk-
weighted asset amounts for all its cleared transactions.
    (2) Trade exposure amount. (i) For a cleared transaction that is 
either a derivative contract or netting set of derivative contracts, 
the trade exposure amount equals:
    (A) The exposure amount for the derivative contract or netting set 
of derivative contracts, calculated using the current exposure method 
(CEM) for OTC derivative contracts under Sec.  628.34, plus
    (B) The fair value of the collateral posted by the clearing member 
client System institution and held by the central counterparty (CCP), 
clearing member, or custodian in a manner that is not bankruptcy 
remote.
    (ii) For a cleared transaction that is a repo-style transaction, 
the trade exposure amount equals:
    (A) The exposure amount for the repo-style transaction calculated 
using the collateral haircut methodology under Sec.  628.37(c), plus
    (B) The fair value of the collateral posted by the clearing member 
client System institution and held by the CCP or a clearing member in a 
manner that is not bankruptcy remote.
    (3) Cleared transaction risk weights. (i) For a cleared transaction 
with a qualifying CCP (QCCP), a clearing member client System 
institution must apply a risk weight of:
    (A) Two (2) percent if the collateral posted by the System 
institution to the QCCP or clearing member is subject to an arrangement 
that prevents any losses to the clearing member client System 
institution due to the joint default or a concurrent insolvency, 
liquidation, or receivership proceeding of the clearing member and any 
other clearing member clients of the clearing member; and the clearing 
member client System institution has conducted sufficient legal review 
to conclude with a well-founded basis (and maintains sufficient written 
documentation of that legal review) that in the event of a legal 
challenge (including one resulting from default or from liquidation, 
insolvency, or receivership proceeding) the relevant court and 
administrative authorities would find the arrangements to be legal, 
valid, binding and enforceable under the law of the relevant 
jurisdictions; or
    (B) Four (4) percent if the requirements of paragraph (b)(3)(i)(A) 
of this section are not met.
    (ii) For a cleared transaction with a CCP that is not a QCCP, a 
clearing member client System institution must apply the risk weight 
appropriate for the CCP according to Sec.  628.32.
    (4) Collateral. (i) Notwithstanding any other requirements in this 
section, collateral posted by a clearing member client System 
institution that is held by a custodian (in its capacity as custodian) 
in a manner that is bankruptcy remote from the CCP, the custodian, 
clearing member and other clearing member clients of the clearing 
member, is not subject to a capital requirement under this section.
    (ii) A clearing member client System institution must calculate a 
risk-weighted asset amount for any collateral provided to a CCP, 
clearing member, or custodian in connection with a cleared transaction 
in accordance with the requirements under Sec.  628.32.
    (c) [Reserved]
    (d) [Reserved]


Sec.  628.36  Guarantees and credit derivatives: substitution 
treatment.

    (a) Scope--(1) General. A System institution may recognize the 
credit risk mitigation benefits of an eligible guarantee or eligible 
credit derivative by substituting the risk weight associated with the 
protection provider for the risk weight assigned to an exposure, as 
provided under this section.
    (2) This section applies to exposures for which:
    (i) Credit risk is fully covered by an eligible guarantee or 
eligible credit derivative; or
    (ii) Credit risk is covered on a pro rata basis (that is, on a 
basis in which the System institution and the protection provider share 
losses proportionately) by an eligible guarantee or eligible credit 
derivative.
    (3) Exposures on which there is a tranching of credit risk 
(reflecting at least two different levels of seniority) generally are 
securitization exposures subject to Sec. Sec.  628.41 through 628.45.
    (4) If multiple eligible guarantees or eligible credit derivatives 
cover a single exposure described in this section, a System institution 
may treat the hedged exposure as multiple separate exposures each 
covered by a single eligible guarantee or eligible credit derivative 
and may calculate a separate risk-weighted asset amount for each 
separate exposure as described in paragraph (c) of this section.
    (5) If a single eligible guarantee or eligible credit derivative 
covers multiple hedged exposures described in paragraph (a)(2) of this 
section, a System institution must treat each hedged exposure as 
covered by a separate eligible guarantee or eligible credit derivative 
and must calculate a separate risk-weighted asset amount for each 
exposure as described in paragraph (c) of this section.
    (b) Rules of recognition. (1) A System institution may only 
recognize the credit risk mitigation benefits of eligible guarantees 
and eligible credit derivatives.
    (2) A System institution may only recognize the credit risk 
mitigation benefits of an eligible credit derivative to hedge an 
exposure that is different from the credit derivative's reference 
exposure used for determining the derivative's cash settlement value,

[[Page 52894]]

deliverable obligation, or occurrence of a credit event if:
    (i) The reference exposure ranks pari passu with, or is 
subordinated to, the hedged exposure; and
    (ii) The reference exposure and the hedged exposure are to the same 
legal entity, and legally enforceable cross-default or cross-
acceleration clauses are in place to ensure payments under the credit 
derivative are triggered when the obligated party of the hedged 
exposure fails to pay under the terms of the hedged exposure.
    (c) Substitution approach--(1) Full coverage. If an eligible 
guarantee or eligible credit derivative meets the conditions in 
paragraphs (a) and (b) of this section and the protection amount (P) of 
the guarantee or credit derivative is greater than or equal to the 
exposure amount of the hedged exposure, a System institution may 
recognize the guarantee or credit derivative in determining the risk-
weighted asset amount for the hedged exposure by substituting the risk 
weight applicable to the guarantor or credit derivative protection 
provider under Sec.  628.32 for the risk weight assigned to the 
exposure.
    (2) Partial coverage. If an eligible guarantee or eligible credit 
derivative meets the conditions in Sec. Sec.  628.36(a) and 628.37(b) 
and the protection amount (P) of the guarantee or credit derivative is 
less than the exposure amount of the hedged exposure, the System 
institution must treat the hedged exposure as two separate exposures 
(protected and unprotected) in order to recognize the credit risk 
mitigation benefit of the guarantee or credit derivative.
    (i) The System institution may calculate the risk-weighted asset 
amount for the protected exposure under Sec.  628.32, where the 
applicable risk weight is the risk weight applicable to the guarantor 
or credit derivative protection provider.
    (ii) The System institution must calculate the risk-weighted asset 
amount for the unprotected exposure under Sec.  628.32, where the 
applicable risk weight is that of the unprotected portion of the hedged 
exposure.
    (iii) The treatment provided in this section is applicable when the 
credit risk of an exposure is covered on a partial pro rata basis and 
may be applicable when an adjustment is made to the effective notional 
amount of the guarantee or credit derivative under paragraphs (d), (e), 
or (f) of this section.
    (d) Maturity mismatch adjustment. (1) A System institution that 
recognizes an eligible guarantee or eligible credit derivative in 
determining the risk-weighted asset amount for a hedged exposure must 
adjust the effective notional amount of the credit risk mitigant to 
reflect any maturity mismatch between the hedged exposure and the 
credit risk mitigant.
    (2) A maturity mismatch occurs when the residual maturity of a 
credit risk mitigant is less than that of the hedged exposure(s).
    (3) The residual maturity of a hedged exposure is the longest 
possible remaining time before the obligated party of the hedged 
exposure is scheduled to fulfill its obligation on the hedged exposure. 
If a credit risk mitigant has embedded options that may reduce its 
term, the System institution (protection purchaser) must use the 
shortest possible residual maturity for the credit risk mitigant. If a 
call is at the discretion of the protection provider, the residual 
maturity of the credit risk mitigant is at the first call date. If the 
call is at the discretion of the System institution (protection 
purchaser), but the terms of the arrangement at origination of the 
credit risk mitigant contain a positive incentive for the System 
institution to call the transaction before contractual maturity, the 
remaining time to the first call date is the residual maturity of the 
credit risk mitigant.
    (4) A credit risk mitigant with a maturity mismatch may be 
recognized only if its original maturity is greater than or equal to 1 
year and its residual maturity is greater than 3 months.
    (5) When a maturity mismatch exists, the System institution must 
apply the following adjustment to reduce the effective notional amount 
of the credit risk mitigant: Pm = E x [(t-0.25)/(T-0.25)],

where:

(i) Pm = effective notional amount of the credit risk mitigant, 
adjusted for maturity mismatch;
(ii) E = effective notional amount of the credit risk mitigant;
(iii) t = the lesser of T or the residual maturity of the credit 
risk mitigant, expressed in years; and
(iv) T = the lesser of 5 or the residual maturity of the hedged 
exposure, expressed in years.

    (e) Adjustment for credit derivatives without restructuring as a 
credit event. If a System institution recognizes an eligible credit 
derivative that does not include as a credit event a restructuring of 
the hedged exposure involving forgiveness or postponement of principal, 
interest, or fees that results in a credit loss event (that is, a 
charge-off, specific provision, or other similar debit to the profit 
and loss account), the System institution must apply the following 
adjustment to reduce the effective notional amount of the credit 
derivative: Pr = Pm x 0.60,

where:

(1) Pr = effective notional amount of the credit risk mitigant, 
adjusted for lack of restructuring event (and maturity mismatch, if 
applicable); and
    (2) Pm = effective notional amount of the credit risk mitigant 
(adjusted for maturity mismatch, if applicable).

    (f) Currency mismatch adjustment. (1) If a System institution 
recognizes an eligible guarantee or eligible credit derivative that is 
denominated in a currency different from that in which the hedged 
exposure is denominated, the System institution must apply the 
following formula to the effective notional amount of the guarantee or 
credit derivative: Pc = Pr x (1-Hfx),

where:

(i) Pc = effective notional amount of the credit risk mitigant, 
adjusted for currency mismatch (and maturity mismatch and lack of 
restructuring event, if applicable);
(ii) Pr = effective notional amount of the credit risk mitigant 
(adjusted for maturity mismatch and lack of restructuring event, if 
applicable); and
(iii) Hfx = haircut appropriate for the currency mismatch between 
the credit risk mitigant and the hedged exposure.

    (2) A System institution must set Hfx equal to 8 percent.
    (3) A System institution must adjust Hfx calculated in paragraph 
(f)(2) of this section upward if the System institution revalues the 
guarantee or credit derivative less frequently than once every 10 
business days using the following square root of time formula:

[GRAPHIC] [TIFF OMITTED] TP04SE14.011



where TM equals the greater of 10 or the number of days between 
revaluation.


Sec.  628.37  Collateralized transactions.

    (a) General. (1) To recognize the risk-mitigating effects of 
financial collateral, a System institution may use:
    (i) The simple approach in paragraph (b) of this section for any 
exposure.
    (ii) The collateral haircut approach in paragraph (c) of this 
section for repo-style transactions, eligible margin loans, 
collateralized derivative contracts, and single-product netting sets of 
such transactions.
    (2) A System institution may use any approach described in this 
section that is valid for a particular type of exposure or transaction; 
however, it must use the same approach for similar exposures or 
transactions.

[[Page 52895]]

    (b) The simple approach--(1) General requirements.
    (i) A System institution may recognize the credit risk mitigation 
benefits of financial collateral that secures any exposure.
    (ii) To qualify for the simple approach, the financial collateral 
must meet the following requirements:
    (A) The collateral must be subject to a collateral agreement for at 
least the life of the exposure;
    (B) The collateral must be revalued at least every 6 months; and
    (C) The collateral (other than gold) and the exposure must be 
denominated in the same currency.
    (2) Risk-weight substitution. (i) A System institution may apply a 
risk weight to the portion of an exposure that is secured by the fair 
value of financial collateral (that meets the requirements of paragraph 
(b)(1) of this section) based on the risk weight assigned to the 
collateral under Sec.  628.32. For repurchase agreements, reverse 
repurchase agreements, and securities lending and borrowing 
transactions, the collateral is the instruments, gold, and cash the 
System institution has borrowed, purchased subject to resale, or taken 
as collateral from the counterparty under the transaction. Except as 
provided in paragraph (b)(3) of this section, the risk weight assigned 
to the collateralized portion of the exposure may not be less than 20 
percent.
    (ii) A System institution must apply a risk weight to the unsecured 
portion of the exposure based on the risk weight assigned to the 
exposure under this subpart.
    (3) Exceptions to the 20-percent risk-weight floor and other 
requirements. Notwithstanding paragraph (b)(2)(i) of this section:
    (i) A System institution may assign a 0-percent risk weight to an 
exposure to an OTC derivative contract that is marked-to-fair on a 
daily basis and subject to a daily margin maintenance requirement, to 
the extent the contract is collateralized by cash on deposit.
    (ii) A System institution may assign a 10-percent risk weight to an 
exposure to an OTC derivative contract that is marked-to-fair value 
daily and subject to a daily margin maintenance requirement, to the 
extent that the contract is collateralized by an exposure to a 
sovereign that qualifies for a 0-percent risk weight under Sec.  
628.32.
    (iii) A System institution may assign a 0-percent risk weight to 
the collateralized portion of an exposure where:
    (A) The financial collateral is cash on deposit; or
    (B) The financial collateral is an exposure to a sovereign that 
qualifies for a 0-percent risk weight under Sec.  628.32, and the 
System institution has discounted the fair value of the collateral by 
20 percent.
    (c) Collateral haircut approach -- (1) General. A System 
institution may recognize the credit risk mitigation benefits of 
financial collateral that secures an eligible margin loan, repo-style 
transaction, collateralized derivative contract, or single-product 
netting set of such transactions by using the standard supervisory 
haircuts in paragraph (c)(3) of this section.
    (2) Exposure amount equation. A System institution must determine 
the exposure amount for an eligible margin loan, repo-style 
transaction, collateralized derivative contract, or a single-product 
netting set of such transactions by setting the exposure amount equal 
to max {0, [([Sigma]E--[Sigma]C) + [Sigma](Es x 
Hs) + [Sigma](Efx x Hfx)]{time} ,

where:
(i)(A) For eligible margin loans and repo-style transactions and 
netting sets thereof, [Sigma]E equals the value of the exposure (the 
sum of the current fair values of all instruments, gold, and cash 
the System institution has lent, sold subject to repurchase, or 
posted as collateral to the counterparty under the transaction (or 
netting set)); and
(B) For collateralized derivative contracts and netting sets 
thereof, [Sigma]E equals the exposure amount of the OTC derivative 
contract (or netting set) calculated under Sec.  628.34(c) or (d).
(ii) [Sigma]C equals the value of the collateral (the sum of the 
current fair values of all instruments, gold and cash the System 
institution has borrowed, purchased subject to resale, or taken as 
collateral from the counterparty under the transaction (or netting 
set));
(iii) Es equals the absolute value of the net position in 
a given instrument or in gold (where the net position in the 
instrument or gold equals the sum of the current fair values of the 
instrument or gold the System institution has lent, sold subject to 
repurchase, or posted as collateral to the counterparty minus the 
sum of the current fair values of that same instrument or gold the 
System institution has borrowed, purchased subject to resale, or 
taken as collateral from the counterparty);
(iv) Hs equals the fair value price volatility haircut 
appropriate to the instrument or gold referenced in Es;
(v) Efx equals the absolute value of the net position of 
instruments and cash in a currency that is different from the 
settlement currency (where the net position in a given currency 
equals the sum of the current fair values of any instruments or cash 
in the currency the System institution has lent, sold subject to 
repurchase, or posted as collateral to the counterparty minus the 
sum of the current fair values of any instruments or cash in the 
currency the System institution has borrowed, purchased subject to 
resale, or taken as collateral from the counterparty); and
(vi) Hfx equals the haircut appropriate to the mismatch 
between the currency referenced in Efx and the settlement currency.

    (3) Standard supervisory haircuts. (i) A System institution must 
use the haircuts for fair value price volatility (Hs) provided in Table 
1 to Sec.  628.37, as adjusted in certain circumstances in accordance 
with the requirements of paragraphs (c)(3)(iii) and (iv) of this 
section:

                                    Table 1 to Sec.   628.37--Standard Supervisory Market Price Volatility Haircut 1
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                 Haircut (in percent) assigned based on
                                                             ------------------------------------------------------------------------------  Investment
                                                               Sovereign issuers risk weight under     Non-sovereign issuers risk weight        grade
                      Residual maturity                                  Sec.   628.3 \2\                     under Sec.   628.32           securization
                                                             ------------------------------------------------------------------------------   exposures
                                                                  Zero     20% or -50%      100%         20%          50%          100%     (in percent)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Less than or equal to 1 year................................          0.5          1.0         15.0          1.0          2.0         25.0            4%
Greater than 1 years and less than and equal to 5 years.....          2.0          3.0         15.0          4.0          6.0         25.0           12%
Greater than 5 years........................................          4.0          6.0         15.0          8.0         12.0         25.0           24%
                                                             -------------------------------------------------------------------------------------------
Main index equities (including convertible bonds) and gold                            15%
Other publically traded equities (including convertible bonds)                        25%

[[Page 52896]]

 
Mutual funds                                                     Highest haircut applicable to any security in
                                                                           which the fund can invest
Cash collateral                                                                       0%
--------------------------------------------------------------------------------------------------------------------------------------------------------
\1\ The market price volatility haircut in Table 1 to Sec.   628.37 are based on 10-day holding period.
\2\ Includes a foreign PSE that receives a 0-percent risk weight.

    (ii) For currency mismatches, a System institution must use a 
haircut for foreign exchange rate volatility (Hfx) of 8 percent, as 
adjusted in certain circumstances under paragraphs (c)(3)(iii) and (iv) 
of this section.
    (iii) For repo-style transactions, a System institution may 
multiply the standard supervisory haircuts provided in paragraphs 
(c)(3)(i) and (ii) of this section by the square root of \1/2\ (which 
equals 0.707107).
    (iv) If the number of trades in a netting set exceeds 5,000 at any 
time during a quarter, a System institution must adjust the supervisory 
haircuts provided in paragraphs (c)(3)(i) and (ii) of this section 
upward on the basis of a holding period of 20 business days for the 
following quarter except in the calculation of the exposure amount for 
purposes of Sec.  628.35. If a netting set contains one or more trades 
involving illiquid collateral or an OTC derivative that cannot be 
easily replaced, a System institution must adjust the supervisory 
haircuts upward on the basis of a holding period of 20 business days. 
If over the 2 previous quarters more than two margin disputes on a 
netting set have occurred that lasted more than the holding period, 
then the System institution must adjust the supervisory haircuts upward 
for that netting set on the basis of a holding period that is at least 
two times the minimum holding period for that netting set. A System 
institution must adjust the standard supervisory haircuts upward using 
the following formula:
[GRAPHIC] [TIFF OMITTED] TP04SE14.016


where

(A) TM equals a holding period of longer than 10 business days for 
eligible margin loans and derivative contracts or longer than 5 
business days for repo-style transactions;
    (B) HS equals the standard supervisory haircut; and
    (C) TS equals 10 business days for eligible margin loans and 
derivative contracts or 5 business days for repo-style transactions.

    (v) If the instrument a System institution has lent, sold subject 
to repurchase, or posted as collateral does not meet the definition of 
financial collateral in Sec.  628.2, the System institution must use a 
25-percent haircut for fair value price volatility (Hs).
    (4) [Reserved]

Risk-Weighted Assets for Unsettled Transactions


Sec.  628.38   Unsettled transactions.

    (a) Definitions. For purposes of this section:
    (1) Delivery-versus-payment (DvP) transaction means a securities or 
commodities transaction in which the buyer is obligated to make payment 
only if the seller has made delivery of the securities or commodities 
and the seller is obligated to deliver the securities or commodities 
only if the buyer has made payment.
    (2) Payment-versus-payment (PvP) transaction means a foreign 
exchange transaction in which each counterparty is obligated to make a 
final transfer of one or more currencies only if the other counterparty 
has made a final transfer of one or more currencies.
    (3) A transaction has a normal settlement period if the contractual 
settlement period for the transaction is equal to or less than the fair 
value standard for the instrument underlying the transaction and equal 
to or less than 5 business days.
    (4) Positive current exposure of a System institution for a 
transaction is the difference between the transaction value at the 
agreed settlement price and the current fair value price of the 
transaction, if the difference results in a credit exposure of the 
System institution to the counterparty.
    (b) Scope. This section applies to all transactions involving 
securities, foreign exchange instruments, and commodities that have a 
risk of delayed settlement or delivery. This section does not apply to:
    (1) Cleared transactions that are marked-to-fair value daily and 
subject to daily receipt and payment of variation margin;
    (2) Repo-style transactions, including unsettled repo-style 
transactions;
    (3) One-way cash payments on OTC derivative contracts; or
    (4) Transactions with a contractual settlement period that is 
longer than the normal settlement period (which are treated as OTC 
derivative contracts as provided in Sec.  628.34).
    (c) System-wide failures. In the case of a system-wide failure of a 
settlement, clearing system or central counterparty, the FCA may waive 
risk-based capital requirements for unsettled and failed transactions 
until the situation is rectified.
    (d) Delivery-versus-payment (DvP) and payment-versus-payment (PvP) 
transactions. A System institution must hold risk-based capital against 
any DvP or PvP transaction with a normal settlement period if the 
System institution's counterparty has not made delivery or payment 
within 5 business days after the settlement date. The System 
institution must determine its risk-weighted asset amount for such a 
transaction by multiplying the positive current exposure of the 
transaction for the System institution by the appropriate risk weight 
in Table 1 to Sec.  628.38.

    Table 1 to Sec.   628.38--Risk Weights for Unsettled DvP and PvP
                              Transactions
------------------------------------------------------------------------
                                                             Risk weight
                                                                to be
                                                              applied to
                                                               positive
 Number of business days after contractual settlement date     current
                                                               exposure
                                                                 (in
                                                               percent)
------------------------------------------------------------------------
From 5 to 15...............................................        100.0
From 16 to 30..............................................        625.0
From 31 to 45..............................................        937.5

[[Page 52897]]

 
46 or more.................................................      1,250.0
------------------------------------------------------------------------

    (e) Non-DvP/non-PvP (non-delivery-versus-payment/non-payment-
versus-payment) transactions. (1) A System institution must hold risk-
based capital against any non-DvP/non-PvP transaction with a normal 
settlement period if the System institution has delivered cash, 
securities, commodities, or currencies to its counterparty but has not 
received its corresponding deliverables by the end of the same business 
day. The System institution must continue to hold risk-based capital 
against the transaction until the System institution has received its 
corresponding deliverables.
    (2) From the business day after the System institution has made its 
delivery until 5 business days after the counterparty delivery is due, 
the System institution must calculate the risk-weighted asset amount 
for the transaction by treating the current fair value of the 
deliverables owed to the System institution as an exposure to the 
counterparty and using the applicable counterparty risk weight under 
Sec.  628.32.
    (3) If the System institution has not received its deliverables by 
the 5th business day after counterparty delivery was due, the System 
institution must assign a 1,250-percent risk weight to the current fair 
value of the deliverables owed to the System institution.
    (f) Total risk-weighted assets for unsettled transactions. Total 
risk-weighted assets for unsettled transactions is the sum of the risk-
weighted asset amounts of all DvP, PvP, and non- DvP/non-PvP 
transactions. >Sec. Sec.  628.39 through 628.40 [Reserved]

Risk-Weighted Assets for Securitization Exposures


Sec.  628.41  Operational requirements for securitization exposures.

    (a) Operational criteria for traditional securitizations. A System 
institution that transfers exposures it has originated or purchased to 
a third party in connection with a traditional securitization may 
exclude the exposures from the calculation of its risk-weighted assets 
only if each condition in this section is satisfied. A System 
institution that meets these conditions must hold risk-based capital 
against any credit risk it retains in connection with the 
securitization. A System institution that fails to meet these 
conditions must hold risk-based capital against the transferred 
exposures as if they had not been securitized and must deduct from CET1 
capital, pursuant to Sec.  628.22, any after-tax gain-on-sale resulting 
from the transaction. The conditions are:
    (1) The exposures are not reported on the System institution's 
consolidated balance sheet under GAAP;
    (2) The System institution has transferred to one or more third 
parties credit risk associated with the underlying exposures;
    (3) Any clean-up calls relating to the securitization are eligible 
clean-up calls; and
    (4) The securitization does not:
    (i) Include one or more underlying exposures in which the borrower 
is permitted to vary the drawn amount within an agreed limit under a 
line of credit; and
    (ii) Contain an early amortization provision.
    (b) Operational criteria for synthetic securitizations. For 
synthetic securitizations, a System institution may recognize for risk-
based capital purposes the use of a credit risk mitigant to hedge 
underlying exposures only if each condition in this paragraph is 
satisfied. A System institution that meets these conditions must hold 
risk-based capital against any credit risk of the exposures it retains 
in connection with the synthetic securitization. A System institution 
that fails to meet these conditions or chooses not to recognize the 
credit risk mitigant for purposes of this section must instead hold 
risk-based capital against the underlying exposures as if they had not 
been synthetically securitized. The conditions are:
    (1) The credit risk mitigant is:
    (i) Financial collateral;
    (ii) A guarantee that meets all criteria set forth in the 
definition of ``eligible guarantee'' in Sec.  628.2, except for the 
criteria in paragraph (3) of that definition; or
    (iii) A credit derivative that meets all criteria as set forth in 
the definition of ``eligible credit derivative'' in Sec.  628.2, except 
for the criteria in paragraph (3) of the definition of ``eligible 
guarantee'' in Sec.  628.2.
    (2) The System institution transfers credit risk associated with 
the underlying exposures to one or more third parties, and the terms 
and conditions in the credit risk mitigants employed do not include 
provisions that:
    (i) Allow for the termination of the credit protection due to 
deterioration in the credit quality of the underlying exposures;
    (ii) Require the System institution to alter or replace the 
underlying exposures to improve the credit quality of the pool of 
underlying exposures;
    (iii) Increase the System institution's cost of credit protection 
in response to deterioration in the credit quality of the underlying 
exposures;
    (iv) Increase the yield payable to parties other than the System 
institution in response to a deterioration in the credit quality of the 
underlying exposures; or
    (v) Provide for increases in a retained first loss position or 
credit enhancement provided by the System institution after the 
inception of the securitization;
    (3) The System institution obtains a well-reasoned opinion from 
legal counsel that confirms the enforceability of the credit risk 
mitigant in all relevant jurisdictions; and
    (4) Any clean-up calls relating to the securitization are eligible 
clean-up calls.
    (c) Due diligence requirements. (1) Except for exposures that are 
deducted from CET1 capital (pursuant to Sec.  628.22) and exposures 
subject to Sec.  628.42(h), if a System institution is unable to 
demonstrate to the satisfaction of the FCA a comprehensive 
understanding of the features of a securitization exposure that would 
materially affect the performance of the exposure, the System 
institution must assign the securitization exposure a risk weight of 
1,250 percent. The System institution's analysis must be commensurate 
with the complexity of the securitization exposure and the materiality 
of the exposure in relation to its capital.
    (2) A System institution must demonstrate its comprehensive 
understanding of a securitization exposure under paragraph (c)(1) of 
this section for each securitization exposure by:
    (i) Conducting an analysis of the risk characteristics of a 
securitization exposure prior to acquiring the exposure, and 
documenting such analysis within 3 business days after acquiring the 
exposure, considering:
    (A) Structural features of the securitization that would materially 
impact the performance of the exposure, for example, the contractual 
cash flow waterfall, waterfall-related triggers, credit enhancements, 
liquidity enhancements, fair value triggers, the performance of 
organizations that service the exposure, and deal-specific definitions 
of default;
    (B) Relevant information regarding the performance of the 
underlying credit

[[Page 52898]]

exposure(s), for example, the percentage of loans 30, 60, and 90 days 
past due; default rates; prepayment rates; loans in foreclosure; 
property types; occupancy; average credit score or other measures of 
creditworthiness; average loan-to-value (LTV) ratio; and industry and 
geographic diversification data on the underlying exposure(s);
    (C) Relevant market data of the securitization, for example, bid-
ask spread, most recent sales price and historic price volatility, 
trading volume, implied market rating, and size, depth and 
concentration level of the market for the securitization; and
    (D) For resecuritization exposures, performance information on the 
underlying securitization exposures, for example, the issuer name and 
credit quality, and the characteristics and performance of the 
exposures; and
    (ii) On an on-going basis (no less frequently than quarterly), 
evaluating, reviewing, and updating as appropriate the analysis 
required under paragraph (c)(1) of this section for each securitization 
exposure.


Sec.  628.42  Risk-weighted assets for securitization exposures.

    (a) Securitization risk weight approaches. Except as provided 
elsewhere in this section or in Sec.  628.41:
    (1) A System institution must deduct from CET1 capital any after-
tax gain-on-sale resulting from a securitization (as provided in Sec.  
628.22) and must apply a 1,250-percent risk weight to the portion of a 
credit-enhancing interest-only strip (CEIO) that does not constitute 
after-tax gain-on-sale.
    (2) If a securitization exposure does not require deduction under 
paragraph (a)(1) of this section, a System institution may assign a 
risk weight to the securitization exposure using the simplified 
supervisory formula approach (SSFA) in accordance with Sec.  628.43(a) 
through (d) and subject to the limitation under Sec.  628.42(e). 
Alternatively, a System institution may assign a risk weight to the 
purchased securitization exposure using the gross-up approach in 
accordance with Sec.  628.43(e), provided however, that such System 
institution must apply either the SSFA or the gross-up approach 
consistently across all of its securitization exposures, except as 
provided in paragraphs (a)(1), (a)(3), and (a)(4) of this section.
    (3) If a securitization exposure does not require deduction under 
paragraph (a)(1) of this section and the System institution cannot or 
chooses not to apply the SSFA or the gross-up approach to the exposure, 
the System institution must assign a risk weight to the exposure as 
described in Sec.  628.44.
    (4) If a securitization exposure is a derivative contract (other 
than protection provided by a System institution in the form of a 
credit derivative) that has a first priority claim on the cash flows 
from the underlying exposures (notwithstanding amounts due under 
interest rate or currency derivative contracts, fees due, or other 
similar payments), a System institution may choose to set the risk-
weighted asset amount of the exposure equal to the amount of the 
exposure as determined in paragraph (c) of this section.
    (b) Total risk-weighted assets for securitization exposures. A 
System institution's total risk-weighted assets for securitization 
exposures equals the sum of the risk-weighted asset amount for 
securitization exposures that the System institution risk weights under 
Sec. Sec.  628.41(c), 628.42(a)(1), and 628.43, 628.44, or 628.45, 
except as provided in Sec.  628.42(e) through (j) of this section, as 
applicable.
    (c) Exposure amount of a securitization exposure.
    (1) [Reserved]
    (2) On-balance sheet securitization exposures (available-for-sale 
or held-to-maturity securities). The exposure amount of an on-balance 
sheet securitization exposure that is an available-for-sale or held-to-
maturity security is the System institution's carrying value (including 
net accrued but unpaid interest and fees), less any net unrealized 
gains on the exposure and plus any net unrealized losses on the 
exposure.
    (3) Off-balance sheet securitization exposures. (i) Except as 
provided in paragraph (j) of this section, the exposure amount of an 
off-balance sheet securitization that is not a repo-style transaction, 
an eligible margin loan, a cleared transaction (other than a credit 
derivative), or an OTC derivative contract (other than a credit 
derivative) is the notional amount of the exposure.
    (ii) [Reserved]
    (iii) [Reserved]
    (4) Repo-style transactions, eligible margin loans, and derivative 
contracts. The exposure amount of a securitization exposure that is a 
repo-style transaction, an eligible margin loan, or a derivative 
contract (other than a credit derivative) is the exposure amount of the 
transaction as calculated under Sec.  628.34 or Sec.  628.37 as 
applicable.
    (d) Overlapping exposures. If a System institution has multiple 
securitization exposures that provide duplicative coverage to the 
underlying exposures of a securitization, the System institution is not 
required to hold duplicative risk-based capital against the overlapping 
position. Instead, the System institution may apply to the overlapping 
position the applicable risk-based capital treatment that results in 
the highest risk-based capital requirement.
    (e) Implicit support. If a System institution provides support to a 
securitization in excess of the System institution's contractual 
obligation to provide credit support to the securitization (implicit 
support):
    (1) The System institution must include in risk-weighted assets all 
of the underlying exposures associated with the securitization as if 
the exposures had not been securitized and must deduct from CET1 
capital (pursuant to Sec.  628.22) any after-tax gain-on-sale resulting 
from the securitization; and
    (2) The System institution must disclose publicly:
    (i) That it has provided implicit support to the securitization; 
and
    (ii) The risk-based capital impact to the System institution of 
providing such implicit support.
    (f) Undrawn portion of an eligible servicer cash advance facility. 
(1) Notwithstanding any other provision of this subpart, a System 
institution that is a servicer under an eligible servicer cash advance 
facility is not required to hold risk-based capital against potential 
future cash advance payments that it may be required to provide under 
the contract governing the facility.
    (2) For a System institution that acts as a servicer, the exposure 
amount for a servicer cash advance facility that is not an eligible 
cash advance facility is equal to the amount of all potential future 
cash payments that the System institution may be contractually required 
to provide during the subsequent 12-month period under the governing 
facility.
    (g) Interest-only mortgage-backed securities. Regardless of any 
other provisions of this subpart, the risk weight for a non-credit-
enhancing interest-only mortgage-backed security may not be less than 
100 percent.
    (h) Small-business loans and leases on personal property 
transferred with retained contractual exposure. (1) Regardless of any 
other provisions of this subpart, a System institution that has 
transferred small-business loans and leases on personal property 
(small-business obligations) must include in risk-weighted assets only 
its contractual exposure to the small-business obligations if all the 
following conditions are met:
    (i) The transaction must be treated as a sale under GAAP.

[[Page 52899]]

    (ii) The System institution establishes and maintains, pursuant to 
GAAP, a non-capital reserve sufficient to meet the System institution's 
reasonably estimated liability under the contractual obligation.
    (iii) The small business obligations are to businesses that meet 
the criteria for a small-business concern established by the Small 
Business Administration under section 3(a) of the Small Business Act.
    (iv) [Reserved]
    (2) The total outstanding amount of contractual exposure retained 
by a System institution on transfers of small-business obligations 
receiving the capital treatment specified in paragraph (h)(1) of this 
section cannot exceed 15 percent of the System institution's total 
capital.
    (3) If a System institution exceeds the 15-percent capital 
limitation provided in paragraph (h)(2) of this section, the capital 
treatment under paragraph (h)(1) of this section will continue to apply 
to any transfers of small-business obligations with retained 
contractual exposure that occurred during the time that the System 
institution did not exceed the capital limit.
    (4) [Reserved]
    (i) [Reserved]; and
    (ii) [Reserved]
    (i) N\th\-to-default credit derivatives. (1) Protection provider. A 
System institution must assign a risk weight to an N\th\-to-default 
credit derivative in accordance with FCA guidance.
    (2) [Reserved]
    (3) [Reserved]
    (4) Protection purchaser -- (i) First-to-default credit 
derivatives. A System institution that obtains credit protection on a 
group of underlying exposures through a first-to-default credit 
derivative that meets the rules of recognition of Sec.  628.36(b) must 
determine its risk-based capital requirement for the underlying 
exposures as if the System institution synthetically securitized the 
underlying exposure with the smallest risk-weighted asset amount and 
had obtained no credit risk mitigant on the other underlying exposures. 
A System institution must calculate a risk-based capital requirement 
for counterparty credit risk according to Sec.  628.34 for a first-to-
default credit derivative that does not meet the rules of recognition 
of Sec.  628.36(b).
    (ii) Second-or-subsequent-to-default credit derivatives. (A) A 
System institution that obtains credit protection on a group of 
underlying exposures through a N\th\-to-default credit derivative that 
meets the rules of recognition of Sec.  628.36(b) (other than a first-
to-default credit derivative) may recognize the credit risk mitigation 
benefits of the derivative only if:
    (1) The System institution also has obtained credit protection on 
the same underlying exposures in the form of first-through-(n-1)-to-
default credit derivatives; or
    (2) If n-1 of the underlying exposures have already defaulted.
    (B) If a System institution satisfies the requirements of paragraph 
(i)(4)(ii)(A) of this section, the System institution must determine 
its risk-based capital requirement for the underlying exposures as if 
the System institution had only symetically securitized the underlying 
exposure with the N\th\ smallest risk-weighted asset amount and had 
obtained no credit risk mitigant on the underlying exposures.
    (C) A System institution must calculate a risk-based capital 
requirement for counterparty credit risk according to Sec.  628.34 for 
a N\th\ -to-default credit derivative that does not meet the rules of 
recognition of Sec.  628.36(b).
    (j) Guarantees and credit derivatives other than N\th\ - to-default 
credit derivatives -- (1) Protection provider. For a guarantee or 
credit derivative (other than an N\th\-to-default credit derivative) 
provided by a System institution that covers the full amount or a pro 
rata share of a securitization exposure's principal and interest, the 
System institution must risk weight the guarantee or credit derivative 
in accordance with FCA guidance.
    (2) Protection purchaser. (i) A System institution that purchases a 
guarantee or OTC credit derivative (other than an N\th\ -to-default 
credit derivative) that is recognized under Sec.  628.45 as a credit 
risk mitigant (including via collateral recognized under Sec.  628.37) 
is not required to compute a separate credit risk capital requirement 
under Sec.  628.31, in accordance with Sec.  628.34(c).
    (ii) If a System institution cannot, or chooses not to, recognize a 
purchased credit derivative as a credit risk mitigant under Sec.  
628.45, the System institution must determine the exposure amount of 
the credit derivative under Sec.  628.34.
    (A) If the System institution purchases credit protection from a 
counterparty that is not a securitization special purpose entity (SPE), 
the System institution must determine the risk weight for the exposure 
according to general risk weights under Sec.  628.32.
    (B) If the System institution purchases the credit protection from 
a counterparty that is a securitization SPE, the System institution 
must determine the risk weight for the exposure according to Sec.  
628.42, including Sec.  628.42(a)(4) for a credit derivative that has a 
first priority claim on the cash flows from the underlying exposures of 
the securitization SPE (notwithstanding amounts due under interest rate 
or currency derivative contracts, fees due, or other similar payments).


Sec.  628.43  Simplified supervisory formula approach (SSFA) and the 
gross-up approach.

    (a) General requirements for the SSFA. To use the SSFA to determine 
the risk weight for a securitization exposure, a System institution 
must have data that enables it to assign accurately the parameters 
described in paragraph (b) of this section. Data used to assign the 
parameters described in paragraph (b) of this section must be the most 
currently available data; if the contract governing the underlying 
exposures of the securitization require payment on a monthly or 
quarterly basis, the data used to assign the parameters described in 
paragraph (b) of this section must be no more than 91 calendar days 
old. A System institution that does not have the appropriate data to 
assign the parameters described in paragraph (b) of this section must 
assign a risk weight of 1,250 percent to the exposure.
    (b) SSFA parameters. To calculate the risk weight for a 
securitization exposure using the SSFA, a System institution must have 
accurate information on the following five inputs to the SSFA 
calculation:
    (1) KG is the weighted-average (with unpaid principal used as the 
weight for each exposure) total capital requirement of the underlying 
exposures calculated using this subpart. KG is expressed as a decimal 
value between 0 and 1 (that is, an average risk weight of 100 percent 
represents a value of KG equal to .08).
    (2) Parameter W is expressed as a decimal value between 0 and 1. 
Parameter W is the ratio of the sum of the dollar amounts of any 
underlying exposures within the securitized pool that meet any of the 
criteria as set forth in paragraphs (b)(2)(i) through (vi) of this 
section to the balance, measured in dollars, of underlying exposures:
    (i) Ninety (90) days or more past due;
    (ii) Subject to a bankruptcy or insolvency proceeding;
    (iii) In the process of foreclosure;
    (iv) Held as real estate owned;
    (v) Has contractually deferred interest payments for 90 days or 
more, other than principal or interest payments deferred on:
    (A) Federally guaranteed student loans, in accordance with the 
terms of those guarantee programs; or

[[Page 52900]]

    (B) Consumer loans, including non-federally guaranteed student 
loans, provided that such payments are deferred pursuant to provisions 
included in the contract at the time funds are disbursed that provide 
for periods(s) of deferral that are not initiated based on changes in 
the creditworthiness of the borrower; or
    (vi) Is in default.
    (3) Parameter A is the attachment point for the exposure, which 
represents the threshold at which credit losses will first be allocated 
to the exposure. Except as provided in Sec.  628.42(i) for 
nth -to-default credit derivatives, parameter A equals the 
ratio of the current dollar amount of underlying exposures that are 
subordinated to the exposure of the System institution to the current 
dollar amount of underlying exposures. Any reserve account funded by 
the accumulated cash flows from the underlying exposures that is 
subordinated to the System institution's securitization exposure may be 
included in the calculation of parameter A to the extent that cash is 
present in the account. Parameter A is expressed as a decimal value 
between 0 and 1.
    (4) Parameter D is the detachment point for the exposure, which 
represents the threshold at which credit losses of principal allocated 
to the exposure would result in a total loss of principal. Except as 
provided in Sec.  628.42(i) for nth-to-default credit 
derivatives, parameter D equals parameter A plus the ratio of the 
current dollar amount of the securitization exposures that are pari 
passu with the exposure (that is, have equal seniority with respect to 
credit risk) to the current dollar amount of the underlying exposures. 
Parameter D is expressed as a decimal value between 0 and 1.
    (5) A supervisory calibration parameter, p, is equal to 0.5 for 
securitization exposures that are not resecuritization exposures and 
equal to 1.5 for resecuritization exposures.
    (c) Mechanics of the SSFA. Kg and W are used to 
calculate KA, the augmented value of Kg, which reflects the 
observed credit quality of the underlying pool of exposures. KA is 
defined in paragraph (d) of this section. The values of parameters A 
and D, relative to KA determine the risk weight assigned to 
a securitization exposure as described in paragraph (d) of this 
section. The risk weight assigned to a securitization exposure, or 
portion of a exposure, as appropriate, is the larger of the risk weight 
determined in accordance with this paragraph (d) of this section and a 
risk weight of 20 percent.
    (1) When the detachment point, parameter D, for a securitization 
exposure is less than or equal to KA the exposure must be assigned a 
risk weight of 1,250 percent.
    (2) When the attachment point, parameter A, for a securitization 
exposure is greater than or equal to KA the System institution must 
calculate the risk weight in accordance with paragraph (d) of this 
section.
    (3) When A is less than KA and D is greater than KA, the risk 
weight is a weighted average of 1,250 percent and 1,250 percent times 
KSSFA calculated in accordance with paragraph (d) of this section. For 
the purpose of this weighted-average calculation:
[GRAPHIC] [TIFF OMITTED] TP04SE14.012


    (d) SSFA equation.
    (1) The System institution must define the following parameters:

    [GRAPHIC] [TIFF OMITTED] TP04SE14.013
    


[[Page 52901]]



e=2.71828 , the base of the natural logarithms.
    (2) Then the System institution must calculate KSSFA according to 
the following equation:


[GRAPHIC] [TIFF OMITTED] TP04SE14.014


    (3) The risk weight for the exposure (expressed as a percent) is 
equal to KSSFA x 1,250.
    (e) Gross-up approach -- (1) Applicability. A System institution 
may apply the gross-up approach set forth in this section instead of 
the SSFA to determine the risk weight of its securitization exposures, 
provided that it applies the gross-up approach to all of its 
securitization exposures, except as otherwise provided for certain 
securitization exposures in Sec. Sec.  628.44 and 628.45.
    (2) To use the gross-up approach, a System institution must 
calculate the following four inputs:
    (i) Pro rata share A, which is the par value of the System 
institution's securitization exposure X as a percent of the par value 
of the tranche in which the securitization exposure resides Y; A=\X/Y\ 
expressed as a percent;
    (ii) Enhanced amount B, which is the value of tranches that are 
more senior to the tranche in which the System institution's 
securitization resides; are more senior to the tranche in which the 
System institution's securitization resides;
    (iii) Exposure amount of the System institution's securitization 
exposure calculated under Sec.  628.42(c) C=carrying value of exposure; 
and
    (iv) Risk weight (RW) which is the weighted-average risk weight of 
underlying exposures in the securitization pool as calculated under 
this subpart. For example, RW for an asset-backed security with 
underlying car loans would be 100 percent.
    (3) Credit equivalent amount (CEA). The CEA of a securitization 
exposure under this section equals the sum of:
    (i) The exposure amount C of the System institution's 
securitization exposure, plus
    (ii) the pro rata share A multiplied by the enhanced amount B, each 
calculated in accordance with paragraph (e)(2) of this section.


CEA = C + (A x B)

    (4) Risk-weighted assets (RWA). To calculate RWA for a 
securitization exposure under the gross-up approach, a System 
institution must apply the RW calculated under paragraph (e)(2) of this 
section to the CEA calculated in paragraph (e)(3) of this section.


RWA = RW x CEA

    (f) Limitations. Notwithstanding any other provision of this 
section, a System institution must assign a risk weight of not less 
than 20 percent to a securitization exposure.


Sec.  628.44  Securitization exposures to which the SSFA and gross-up 
approach do not apply.

    (a) General requirement. A System institution must assign a 1,250-
percent risk weight to all securitization exposures to which the System 
institution does not apply the SSFA or the gross up approach under 
Sec.  628.43.
    (b) [Reserved]
    (c) [Reserved]


Sec.  628.45  Recognition of credit risk mitigants for securitization 
exposures.

    (a) General. (1) An originating System institution that has 
obtained a credit risk mitigant to hedge its exposure to a synthetic or 
traditional securitization that satisfies the operational criteria 
provided in Sec.  628.41 may recognize the credit risk mitigant under 
Sec. Sec.  628.36 or 628.37, but only as provided in this section.
    (2) An investing System institution that has obtained a credit risk 
mitigant to hedge a securitization exposure may recognize the credit 
risk mitigant under Sec. Sec.  628.36 or 628.37, but only as provided 
in this section.
    (b) Mismatches. A System institution must make any applicable 
adjustment to the protection amount of an eligible guarantee or credit 
derivative as required in Sec.  628.36(d), (e), and (f) for any hedged 
securitization exposure. In the context of a synthetic securitization, 
when an eligible guarantee or eligible credit derivative covers 
multiple hedged exposures that have different residual maturities, the 
System institution must use the longest residual maturity of any of the 
hedged exposures as the residual maturity of all hedged exposures.
    Sec. Sec.  628.46 through 628.50 [Reserved]
Risk-Weighted Assets for Equity Exposures


Sec.  628.51  Introduction and exposure measurement.

    (a) General. (1) To calculate its risk-weighted asset amounts for 
equity exposures that are not equity exposures to an investment fund, a 
System institution must use the Simple Risk-Weight Approach (SRWA) 
provided in Sec.  628.52. A System institution must use the look-
through approaches provided in Sec.  628.53 to calculate its risk-
weighted asset amounts for equity exposures to investment funds.
    (2) [Reserved]
    (3) [Reserved]
    (b) Adjusted carrying value. For purposes of Sec. Sec.  628.51 
through 628.53, the adjusted carrying value of an equity exposure is:
    (1) For the on-balance sheet component of an equity exposure (other 
than an equity exposure that is classified as available-for-sale), the 
System institution's carrying value of the exposure;
    (2) For the on-balance sheet component of an equity exposure that 
is classified as available-for-sale, the System institution's carrying 
value of the exposure less any net unrealized gains on the exposure 
that are reflected in such carrying value but excluded from the System 
institution's regulatory capital components;
    (3) For the off-balance sheet component of an equity exposure that 
is not an equity commitment, the effective notional principal amount of 
the exposure, the size of which is equivalent to a hypothetical on-
balance sheet position in the underlying equity instrument that would 
evidence the same change in fair value (measured in dollars) given a 
small change in the price of the underlying equity instrument, minus 
the adjusted carrying value of the on-balance sheet component of the 
exposure as calculated in paragraph (b)(1) of this section; and
    (4) For a commitment to acquire an equity exposure (an equity 
commitment), the effective notional principal amount of the exposure is 
multiplied by the following conversion factors (CFs):
    (i) Conditional equity commitments with an original maturity of 14 
months or less receive a CF of 20 percent.
    (ii) Conditional equity commitments with an original maturity of 
over 14 months receive a CF of 50 percent.
    (iii) Unconditional equity commitments receive a CF of 100 percent.


Sec.  628.52  Simple risk-weight approach (SRWA).

    (a) General. Under the SRWA, a System institution's total risk-
weighted assets for equity exposures equals the sum of the risk-
weighted asset amounts for each of the System institution's individual 
equity exposures (other than equity exposures to an investment fund) as 
determined under this section and the risk-weighted asset amounts for 
each of the System institution's individual equity exposures to an 
investment fund as determined under Sec.  628.53.
    (b) SRWA computation for individual equity exposures. A System 
institution must determine the risk-weighted asset amount for an 
individual equity

[[Page 52902]]

exposure (other than an equity exposure to an investment fund) by 
multiplying the adjusted carrying value of the equity exposure or the 
effective portion and ineffective portion of a hedge pair (as defined 
in paragraph (c) of this section) by the lowest applicable risk weight 
in this paragraph.
    (1) Zero-percent (0%) risk weight equity exposures. An equity 
exposure to a sovereign, the Bank for International Settlements, the 
European Central Bank, the European Commission, the International 
Monetary Fund, an MDB, and any other entity whose credit exposures 
receive a 0-percent risk weight under Sec.  628.32 may be assigned a 0-
percent risk weight.
    (2) Twenty-percent (20%) risk weight equity exposures. An equity 
exposure to a PSE or the Federal Agricultural Mortgage Corporation 
(Farmer Mac) must be assigned a 20-percent risk weight.
    (3) One hundred-percent (100%) risk weight equity exposures. The 
equity exposures set forth in this paragraph (b)(3) must be assigned a 
100-percent risk weight:
    (i) Certain equity exposures authorized under Sec.  615.5140(e) of 
this chapter. An equity exposure that the FCA has authorized pursuant 
to Sec.  615.5140(e) for a purpose other than those specified in Sec.  
615.5132(a) (for System banks) or Sec.  615.5142 (for associations) of 
this chapter, unless the equity exposure is assigned a different risk 
weight under this section.
    (ii) Effective portion of hedge pairs. The effective portion of a 
hedge pair.
    (iii) Non-significant equity exposures. Equity exposures, excluding 
exposures to an investment firm that would meet the definition of a 
traditional securitization in Sec.  628.2 were it not for the 
application of paragraph (8) of that definition and has greater than 
immaterial leverage, to the extent that aggregate adjusted carrying 
value of the exposures does not exceed 10 percent of the System 
institution's total capital.
    (A) Equity exposures subject to paragraph (b)(3)(iii) of this 
section include:
    (1) Equity exposures to unconsolidated unincorporated business 
entities and equity exposures held through consolidated unincorporated 
business entities, as authorized by subpart J of part 611 of this 
chapter;
    (2) Equity exposures that the FCA has authorized pursuant to Sec.  
615.5140(e) for a purpose specified in Sec.  615.5132(a) (for System 
banks) or Sec.  615.5142 (for associations) of this chapter, unless the 
equity exposures are assigned a different risk weight under this 
section; and
    (3) Equity exposures to an unconsolidated rural business investment 
company and equity exposures held through a consolidated rural business 
investment company described in 7 U.S.C. 2009cc et seq.
    (B) To compute the aggregate adjusted carrying value of a System 
institution's equity exposures for purposes of this section, the System 
institution may exclude equity exposures described in paragraphs 
(b)(1), (b)(2), (b)(3)(i), and (b)(3)(ii) of this section, the equity 
exposure in a hedge pair with the smaller adjusted carrying value, and 
a proportion of each equity exposure to an investment fund equal to the 
proportion of the assets of the investment fund that are not equity 
exposures or that meet the criterion of paragraph (b)(3)(i) of this 
section. If a System institution does not know the actual holdings of 
the investment fund, the System institution may calculate the 
proportion of the assets of the fund that are not equity exposures 
based on the terms of the prospectus, partnership agreement, or similar 
contract that defines the fund's permissible investments. If the sum of 
the investment limits for all exposure classes within the fund exceeds 
100 percent, the System institution must assume for purposes of this 
section that the investment fund invests to the maximum extent possible 
in equity exposures.
    (C) When determining which of a System institution's equity 
exposures qualify for a 100-percent risk weight under this paragraph, a 
System institution first must include equity exposures to 
unconsolidated rural business investment companies or held through 
consolidated rural business investment companies described in 7 U.S.C. 
2009cc et seq.; then must include equity exposures that the FCA has 
authorized pursuant to Sec.  615.5140(e) for a purpose specified in 
Sec.  615.5132(a) (for System banks) or Sec.  615.5142 (for 
associations) of this chapter (unless the equity exposures are assigned 
a different risk weight under this section); then must include equity 
exposures to unconsolidated unincorporated business entities and equity 
exposures held through consolidated unincorporated business entities, 
as authorized by subpart J of part 611 of this chapter; then must 
include publicly traded equity exposures (including those held 
indirectly through investment funds); and then must include non-
publicly traded equity exposures (including those held indirectly 
through investment funds).
    (4) Other equity exposures. The risk weight for any equity exposure 
that does not qualify for a risk weight under paragraph (b)(1), 
paragraph (b)(2), paragraph (b)(3), or paragraph (b)(7) of this section 
will be determined by the FCA.
    (5) [Reserved]
    (6) [Reserved]
    (7) Six hundred-percent (600%) risk weight equity exposures. An 
equity exposure to an investment firm must be assigned a 600-percent 
risk weight, provided that the investment firm:
    (i) Would meet the definition of a traditional securitization in 
Sec.  628.2 were it not for the application of paragraph (8) of that 
definition; and
    (ii) Has greater than immaterial leverage.
    (c) Hedge transactions--(1) Hedge pair. A hedge pair is two equity 
exposures that form an effective hedge so long as each equity exposure 
is publicly traded or has a return that is primarily based on a 
publicly traded equity exposure.
    (2) Effective hedge. Two equity exposures form an effective hedge 
if the exposures either have the same remaining maturity or each has a 
remaining maturity of at least 3 months; the hedge relationship is 
formally documented in a prospective manner (that is, before the System 
institution acquires at least one of the equity exposures); the 
documentation specifies the measure of effectiveness (E) the System 
institution will use for the hedge relationship throughout the life of 
the transaction; and the hedge relationship has an E greater than or 
equal to 0.8. A System institution must measure E at least quarterly 
and must use one of three alternative measures of E as set forth in 
this paragraph (c):
    (i) Under the dollar-offset method of measuring effectiveness, the 
System institution must determine the ratio of value change (RVC). The 
RVC is the ratio of the cumulative sum of the changes in value of one 
equity exposure to the cumulative sum of the changes in the value of 
the other equity exposure. If RVC is positive, the hedge is not 
effective and E equals 0. If RVC is negative and greater than or equal 
to -1 (that is, less than 0 and greater than or equal to -1), then E 
equals the absolute value of RVC. If RVC is negative and less than -1, 
then E equals 2 plus RVC.
    (ii) Under the variability-reduction method of measuring 
effectiveness:

[[Page 52903]]

[GRAPHIC] [TIFF OMITTED] TP04SE14.015


(A) Xt = At - Bt,
(B) At = the value at time t of one exposure in a hedge 
pair; and
(C) Bt = the value at time t of the other exposure in a hedge pair.

    (iii) Under the regression method of measuring effectiveness, E 
equals the coefficient of determination of a regression in which the 
change in value of one exposure in a hedge pair is the dependent 
variable and the change in value of the other exposure in a hedge pair 
is the independent variable. However, if the estimated regression 
coefficient is positive, then E equals 0.
    (3) The effective portion of a hedge pair is E multiplied by the 
greater of the adjusted carrying values of the equity exposures forming 
a hedge pair.
    (4) The ineffective portion of a hedge pair is (1-E) multiplied by 
the greater of the adjusted carrying values of the equity exposures 
forming a hedge pair.


Sec.  628.53  Equity exposures to investment funds.

    (a) Available approaches. (1) Unless the exposure meets the 
requirements for an equity exposure under Sec.  628.52(b)(3)(i), a 
System institution must determine the risk-weighted asset amount of an 
equity exposure to an investment fund under the full look-through 
approach described in paragraph (b) of this section, the simple 
modified look-through approach described in paragraph (c) of this 
section, or the alterative modified look-through approach described 
paragraph (d) of this section, provided, however, that the minimum risk 
weight that may be assigned to an equity exposure under this section is 
20 percent.
    (2) The risk-weighted asset amount of an equity exposure to an 
investment fund that meets the requirements for an equity exposure in 
Sec.  628.52(b)(3)(i) is its adjusted carrying value.
    (3) If an equity exposure to an investment fund is part of a hedge 
pair and the System institution does not use the full look-through 
approach, the System institution must use the ineffective portion of 
the hedge pair as determined under Sec.  628.52(c) as the adjusted 
carrying value for the equity exposure to the investment fund. The 
risk-weighted asset amount of the effective portion of the hedge pair 
is equal to its adjusted carrying value.
    (b) Full look-through approach. A System institution that is able 
to calculate a risk-weighted asset amount for its proportional 
ownership share of each exposure held by the investment fund (as 
calculated under this subpart as if the proportional ownership share of 
the adjusted carrying value of each exposure were held directly by the 
System institution) may set the risk-weighted asset amount of the 
System institution's exposure to the fund equal to the product of:
    (1) The aggregate risk-weighted asset amounts of the exposures held 
by the fund as if they were held directly by the System institution; 
and
    (2) The System institution's proportional ownership share of the 
fund.
    (c) Simple modified look-through approach. Under the simple 
modified look-through approach, the risk-weighted asset amount for a 
System institution's equity exposure to an investment fund equals the 
adjusted carrying value of the equity exposure multiplied by the 
highest risk weight that applies to any exposure the fund is permitted 
to hold under the prospectus, partnership agreement, or similar 
agreement that defines the fund's permissible investments (excluding 
derivative contracts that are used for hedging rather than speculative 
purposes and that do not constitute a material portion of the fund's 
exposures).
    (d) Alternative modified look-through approach. Under the 
alternative modified look-through approach, a System institution may 
assign the adjusted carrying value of an equity exposure to an 
investment fund on a pro rata basis to different risk weight categories 
under this subpart based on the investment limits in the fund's 
prospectus, partnership agreement, or similar contract that defines the 
fund's permissible investments. The risk-weighted asset amount for the 
System institution's equity exposure to the investment fund equals the 
sum of each portion of the adjusted carrying value assigned to an 
exposure type multiplied by the applicable risk weight under this 
subpart. If the sum of the investment limits for all exposure types 
within the fund exceeds 100 percent, the System institution must assume 
that the fund invests to the maximum extent permitted under its 
investment limits in the exposure type with the highest applicable risk 
weight under this subpart and continues to make investments in order of 
the exposure type with the next highest applicable risk weight under 
this subpart until the maximum total investment level is reached. If 
more than one exposure type applies to an exposure, the System 
institution must use the highest applicable risk weight. A System 
institution may exclude derivative contracts held by the fund that are 
used for hedging rather than for speculative purposes and do not 
constitute a material portion of the fund's exposures.


Sec. Sec.  628.54 through 628.60  [Reserved]

Disclosures.


Sec.  628.61  Purpose and scope.

    Sections 628.62 and 628.63 of this subpart establish public 
disclosure requirements for each System bank related to the capital 
requirements contained in this part.


Sec.  628.62  Disclosure requirements.

    (a) A System bank must provide timely public disclosures each 
calendar quarter of the information in the applicable tables in Sec.  
628.63. The System bank must make these disclosures in its quarterly 
and annual reports to shareholders required in part 620 of this 
chapter. The System bank need not make these disclosures in the format 
set out in the applicable tables or all in the same location in a 
report, as long as a summary table specifically indicating the 
location(s) of all such disclosures is provided. If a significant 
change occurs, such that the most recent reported amounts are no longer 
reflective of the System bank's capital adequacy and risk profile, then 
a brief discussion of this change and its likely impact must be 
disclosed as soon as practicable thereafter. This disclosure 
requirement may be satisfied by providing a notice under Sec.  620.15 
of this chapter. Qualitative disclosures that typically do not change 
each quarter (for example, a general summary of the System bank's risk 
management objectives and policies, reporting system, and definitions) 
may be disclosed annually after the end of the 4th calendar quarter, 
provided that any

[[Page 52904]]

significant changes are disclosed in the interim.
    (b) A System bank must have a formal disclosure policy approved by 
the board of directors that addresses its approach for determining the 
disclosures it makes. The policy must address the associated internal 
controls and disclosure controls and procedures. The board of directors 
and senior management are responsible for establishing and maintaining 
an effective internal control structure over financial reporting, 
including the disclosures required by this subpart, and must ensure 
that appropriate review of the disclosures takes place. The chief 
executive officer, the chief financial officer (CFO), and a designated 
board member must attest that the disclosures meet the requirements of 
this subpart.
    (c) If a System bank concludes that disclosure of specific 
proprietary or confidential commercial or financial information that it 
would otherwise be required to disclose under this section would 
compromise its position, then the System bank is not required to 
disclose that specific information pursuant to this section, but must 
disclose more general information about the subject matter of the 
requirement, together with the fact that, and the reason why, the 
specific items of information have not been disclosed.


Sec.  628.63  Disclosures.

    (a) Except as provided in Sec.  628.62, a System bank must make the 
disclosures described in Tables 1 through 10 of this section. The 
System bank must make these disclosures publicly available for each of 
the last 3 years (that is, 12 quarters) or such shorter period 
beginning on the effective date of this subpart D of this part.
    (b) A System bank must publicly disclose each quarter the 
following:
    (1) CET1 capital, AT1 capital, tier 2 capital, tier 1 and total 
capital ratios, including the regulatory capital elements and all the 
regulatory adjustments and deductions needed to calculate the numerator 
of such ratios;
    (2) Total risk-weighted assets, including the different regulatory 
adjustments and deductions needed to calculate total risk-weighted 
assets;
    (3) Regulatory capital ratios during the transition period, 
including a description of all the regulatory capital elements and all 
regulatory adjustments and deductions needed to calculate the numerator 
and denominator of each capital ratio during the transition period; and
    (4) A reconciliation of regulatory capital elements as they relate 
to its balance sheet in any audited consolidated financial statements.

             Table 1 to Sec.   628.63--Scope of Application
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Qualitative Disclosures..............  (a) The name of the top corporate
                                        entity in the group to which
                                        subpart D of this part
                                        applies.\1\
                                       (b) A brief description of the
                                        differences in the basis for
                                        consolidating entities \2\ for
                                        accounting and regulatory
                                        purposes, with a description of
                                        those entities:
                                          (1) That are fully
                                           consolidated;
                                          (2) That are deconsolidated
                                           and deducted from total
                                           capital;
                                          (3) For which the total
                                           capital requirement is
                                           deducted; and
                                          (4) That are neither
                                           consolidated nor deducted
                                           (for example, where the
                                           investment in the entity is
                                           assigned a risk weight in
                                           accordance with this
                                           subpart).
                                       (c) Any restrictions, or other
                                        major impediments, on transfer
                                        of funds or total capital within
                                        the group.
Quantitative Disclosures.............  (d) [Reserved]
                                       (e) The aggregate amount by which
                                        actual total capital is less
                                        than the minimum total capital
                                        requirement in all subsidiaries,
                                        with total capital requirements
                                        and the name(s) of the
                                        subsidiaries with such
                                        deficiencies.
------------------------------------------------------------------------
\1\ The System bank is the top corporate entity.
\2\ Entities include any subsidiaries authorized by the FCA, including
  operating subsidiaries, service corporations, and unincorporated
  business entities.


               Table 2 to Sec.   628.63--Capital Structure
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Qualitative Disclosures..............  (a) Summary information on the
                                        terms and conditions of the main
                                        features of all regulatory
                                        capital instruments.
Quantitative Disclosures.............  (b) The amount of common equity
                                        tier 1 capital, with separate
                                        disclosure of:
                                          (1) Common cooperative
                                           equities
                                            a. Statutory minimum
                                             borrower stock;
                                            b. Other required member
                                             stock;
                                            c. Allocated equity (stock
                                             or surplus);
                                          (2) Unallocated retained
                                           earnings (URE) and URE
                                           equivalents; and
                                          (3) Regulatory adjustments and
                                           deductions made to common
                                           equity tier 1 capital.
                                       (c) The amount of tier 1 capital,
                                        with separate disclosure of:
                                          (1) Additional tier 1 capital
                                           elements; and
                                          (2) Regulatory adjustments and
                                           deductions made to tier 1
                                           capital.
                                       (d) The amount of total capital,
                                        with separate disclosure of:
                                          (1) Common cooperative
                                           equities not included in
                                           common equity tier 1 capital
                                          (2) Tier 2 capital elements,
                                           including tier 2 apital
                                           instruments; and
                                          (3) Regulatory adjustments and
                                           deductions made to total
                                           capital.
------------------------------------------------------------------------


               Table 3 to Sec.   628.63--Capital Adequacy
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Qualitative disclosures..............  (a) A summary discussion of the
                                        System bank's approach to
                                        assessing the adequacy of its
                                        capital to support current and
                                        future activities.
Quantitative disclosures.............  (b) Risk-weighted assets for:
                                          (1) Exposures to sovereign
                                           entities;
                                          (2) Exposures to certain
                                           supranational entities and
                                           MDBs;
                                          (3) Exposures to GSEs;

[[Page 52905]]

 
                                          (4) Exposures to depository
                                           institutions, foreign banks,
                                           and credit unions, including
                                           OFI exposures that are risk
                                           weighted as exposures to U.S.
                                           depository institutions and
                                           credit unions;
                                          (5) Exposures to PSEs;
                                          (6) Corporate exposures,
                                           including borrower loans
                                           (including agricultural and
                                           consumer loans) and OFI
                                           exposures that are risk
                                           weighted as corporate
                                           exposures;
                                          (7) Residential mortgage
                                           exposures;
                                          (8) HVCRE exposures;
                                          (9) Past due exposures;
                                          (10) Exposures to other
                                           assets;
                                          (11) Loans from System banks
                                           to associations;
                                          (12) Cleared transactions;
                                          (13) Unsettled transactions;
                                          (14) Securitization exposures;
                                           and
                                          (15) Equity exposures.
                                       (c) [Reserved]
                                       (d) Common equity tier 1, tier 1
                                        and total risk-based capital
                                        ratios for the System bank.
                                       (e) Total standardized risk-
                                        weighted assets.
------------------------------------------------------------------------


          Table 4 to Sec.   628.63--Capital Conservation Buffer
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Quantitative Disclosures.............  (a) At least quarterly, the
                                        System bank must calculate and
                                        publicly disclose the capital
                                        conservation buffer as described
                                        under Sec.   628.11.
                                       (b) At least quarterly, the
                                        System bank must calculate and
                                        publicly disclose the eligible
                                        retained income of the System
                                        bank, as described under Sec.
                                        628.11.
                                       (c) At least quarterly, the
                                        System bank must calculate and
                                        publicly disclose any
                                        limitations it has on
                                        distributions and discretionary
                                        bonus payments resulting from
                                        the capital conservation buffer
                                        framework described under Sec.
                                        628.11, including the maximum
                                        payout amount for the quarter.
------------------------------------------------------------------------

    (c) General qualitative disclosure requirement. For each separate 
risk area described in Tables 5 through 10, the System bank must 
describe its risk management objectives and policies, including: 
Strategies and processes; the structure and organization of the 
relevant risk management function; the scope and nature of risk 
reporting and/or measurement systems; policies for hedging and/or 
mitigating risk and strategies and processes for monitoring the 
continuing effectiveness of hedges/mitigants.

      Table 5 to Sec.   628.63\1\--Credit Risk: General Disclosures
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Qualitative Disclosures..............  (a) The general qualitative
                                        disclosure requirement with
                                        respect to credit risk
                                        (excluding counterparty credit
                                        risk disclosed in accordance
                                        with Table 6), including the:
                                          (1) Policy for determining
                                           past due or delinquency
                                           status;
                                          (2) Policy for placing loans
                                           in nonaccrual status;
                                          (3) Policy for returning loans
                                           to accrual status;
                                          (4) Definition of and policy
                                           for identifying impaired
                                           loans (for financial
                                           accounting purposes);
                                          (5) Description of the
                                           methodology that the System
                                           bank uses to estimate its
                                           allowance for loan losses,
                                           including statistical methods
                                           used where applicable;
                                          (6) Policy for charging-off
                                           uncollectible amounts; and
                                          (7) Discussion of the System
                                           bank's credit risk management
                                           policy.
Quantitative Disclosures.............  (b) Total credit risk exposures
                                        and average credit risk
                                        exposures, after accounting
                                        offsets in accordance with GAAP,
                                        without taking into account the
                                        effects of credit risk
                                        mitigation techniques (for
                                        example, collateral and netting
                                        not permitted under GAAP), over
                                        the period categorized by major
                                        types of credit exposure. For
                                        example, System banks could use
                                        categories similar to that used
                                        for financial statement
                                        purposes. Such categories might
                                        include, for instance:
                                          (1) Loans, off-balance sheet
                                           commitments, and other non-
                                           derivative off-balance sheet
                                           exposures;
                                          (2) Debt securities; and
                                          (3) OTC derivatives.\2\
                                       (c) Geographic distribution of
                                        exposures, categorized in
                                        significant areas by major types
                                        of credit exposure.\3\
                                       (d) Industry or counterparty type
                                        distribution of exposures,
                                        categorized by major types of
                                        credit exposure.
                                       (e) By major industry or
                                        counterparty type:
                                          (1) Amount of impaired loans
                                           for which there was a related
                                           allowance under GAAP;
                                          (2) Amount of impaired loans
                                           for which there was no
                                           related allowance under GAAP;
                                          (3) Amount of loans past due
                                           90 days and in nonaccrual
                                           status;
                                          (4) Amount of loans past due
                                           90 days and still accruing;
                                           \4\
                                          (5) The balance in the
                                           allowance for loan losses at
                                           the end of each period
                                           according to GAAP; and
                                          (6) Charge-offs during the
                                           period.
                                       (f) Amount of impaired loans and,
                                        if available, the amount of past
                                        due loans categorized by
                                        significant geographic areas
                                        including, if practical, the
                                        amounts of allowances related to
                                        each geographical area,\5\
                                        further categorized as required
                                        by GAAP.
                                       (g) Reconciliation of changes in
                                        allowances for loan losses.\6\

[[Page 52906]]

 
                                       (h) Remaining contractual
                                        maturity delineation (for
                                        example, one year or less) of
                                        the whole portfolio, categorized
                                        by credit exposure.
------------------------------------------------------------------------
\1\ Table 5 does not cover equity exposures, which should be reported in
  Table 9.
\2\ See, for example, ASC Topic 815-10 and 210, as they may be amended
  from time to time.
\3\ A System bank can satisfy this requirement by describing the
  geographic distribution of its loan portfolio by State or other
  significant geographic division, if any.
\4\ A System bank is encouraged also to provide an analysis of the aging
  of past-due loans.
\5\ The portion of the general allowance that is not allocated to a
  geographical area should be disclosed separately.
\6\ The reconciliation should include the following: a description of
  the allowance; the opening balance of the allowance; charge-offs taken
  against the allowance during the period; amounts provided (or
  reversed) for estimated probable loan losses during the period; any
  other adjustments (for example, exchange rate differences, business
  combinations, acquisitions and disposals of subsidiaries), including
  transfers between allowances; and the closing balance of the
  allowance. Charge-offs and recoveries that have been recorded directly
  to the income statement should be disclosed separately.


  Table 6 to Sec.   628.63--General Disclosure for Counterparty Credit
                         Risk-Related Exposures
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Qualitative Disclosures..............  (a) The general qualitative
                                        disclosure requirement with
                                        respect to OTC derivatives,
                                        eligible margin loans, and repo-
                                        style transactions, including a
                                        discussion of:
                                          (1) The methodology used to
                                           assign credit limits for
                                           counterparty credit
                                           exposures;
                                          (2) Policies for securing
                                           collateral, valuing and
                                           managing collateral, and
                                           establishing credit reserves;
                                          (3) The primary types of
                                           collateral taken; and
                                          (4) The impact of the amount
                                           of collateral the System bank
                                           would have to provide given
                                           deterioration in the System
                                           bank's own creditworthiness.
Quantitative Disclosures.............  (b) Gross positive fair value of
                                        contracts, collateral held
                                        (including type, for example,
                                        cash, government securities),
                                        and net unsecured credit
                                        exposure.\1\ A System bank also
                                        must disclose the notional value
                                        of credit derivative hedges
                                        purchased for counterparty
                                        credit risk protection and the
                                        distribution of current credit
                                        exposure by exposure type.\2\
                                       (c) Notional amount of purchased
                                        credit derivatives used for the
                                        System bank's own credit
                                        portfolio.
------------------------------------------------------------------------
\1\ Net unsecured credit exposure is the credit exposure after
  considering both the benefits from legally enforceable netting
  agreements and collateral arrangements without taking into account
  haircuts for price volatility, liquidity, etc.
\2\ This may include interest rate derivative contracts, foreign
  exchange derivative contracts, equity derivative contracts, credit
  derivatives, commodity or other derivative contracts, repo-style
  transactions, and eligible margin loans.


        Table 7 to Sec.   628.63--Credit Risk Mitigation \1\ \2\
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Qualitative Disclosures..............  (a) The general qualitative
                                        disclosure requirement with
                                        respect to credit risk
                                        mitigation, including:
                                          (1) Policies and processes for
                                           collateral valuation and
                                           management;
                                          (2) A description of the main
                                           types of collateral taken by
                                           the System bank;
                                          (3) The main types of
                                           guarantors/credit derivative
                                           counterparties and their
                                           creditworthiness; and
                                          (4) Information about (market
                                           or credit) risk
                                           concentrations with respect
                                           to credit risk mitigation.
Quantitative Disclosures.............  (b) For each separately disclosed
                                        credit risk portfolio, the total
                                        exposure that is covered by
                                        eligible financial collateral,
                                        and after the application of
                                        haircuts.
                                       (c) For each separately disclosed
                                        portfolio, the total exposure
                                        that is covered by guarantees/
                                        credit derivatives and the risk-
                                        weighted asset amount associated
                                        with that exposure.
------------------------------------------------------------------------
\1\ At a minimum, a System bank must provide the disclosures in Table 7
  in relation to credit risk mitigation that has been recognized for the
  purposes of reducing capital requirements under this subpart. Where
  relevant, System banks are encouraged to give further information
  about mitigants that have not been recognized for that purpose.
\2\ Credit derivatives that are treated, for the purposes of this
  subpart, as synthetic securitization exposures should be excluded from
  the credit risk mitigation disclosures and included within those
  relating to securitization (Table 8).


              Table 8 to Sec.   628.63--Securitization \1\
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Qualitative Disclosures..............  (a) The general qualitative
                                        disclosure requirement with
                                        respect to a securitization
                                        (including synthetic
                                        securitizations), including a
                                        discussion of:
                                          (1) The System bank's
                                           objectives for securitizing
                                           assets, including the extent
                                           to which these activities
                                           transfer credit risk of the
                                           underlying exposures away
                                           from the System bank to other
                                           entities and including the
                                           type of risks assumed and
                                           retained with
                                           resecuritization activity;
                                           \2\
                                          (2) The nature of the risks
                                           (e.g. liquidity risk)
                                           inherent in the securitized
                                           assets;
                                          (3) The roles played by the
                                           System bank in the
                                           securitization process \3\
                                           and an indication of the
                                           extent of the System bank's
                                           involvement in each of them;
                                          (4) The processes in place to
                                           monitor changes in the credit
                                           and market risk of
                                           securitization exposures
                                           including how those processes
                                           differ for resecuritization
                                           exposures;
                                          (5) The System bank's policy
                                           for mitigating the credit
                                           risk retained through
                                           securitization and
                                           resecuritization exposures;
                                           and
                                          (6) The risk-based capital
                                           approaches that the System
                                           bank follows for its
                                           securitization exposures
                                           including the type of
                                           securitization exposure to
                                           which each approach applies.
                                       (b) [Reserved]
                                       (c) Summary of the System bank's
                                        accounting policies for
                                        securitization activities,
                                        including:
                                          (1) Whether the transactions
                                           are treated as sales or
                                           financings;
                                          (2) Recognition of gain-on-
                                           sale;
                                          (3) Methods and key
                                           assumptions applied in
                                           valuing retained or purchased
                                           interests;

[[Page 52907]]

 
                                          (4) Changes in methods and key
                                           assumptions from the previous
                                           period for valuing retained
                                           interests and impact of the
                                           changes;
                                          (5) Treatment of synthetic
                                           securitizations;
                                          (6) How exposures intended to
                                           be securitized are valued and
                                           whether they are recorded
                                           under subpart D of this part;
                                           and
                                          (7) Policies for recognizing
                                           liabilities on the balance
                                           sheet for arrangements that
                                           could require the System bank
                                           to provide financial support
                                           for securitized assets.
                                       (d) An explanation of significant
                                        changes to any quantitative
                                        information since the last
                                        reporting period.
Quantitative Disclosures.............  (e) The total outstanding
                                        exposures securitized by the
                                        System bank in securitizations
                                        that meet the operational
                                        criteria provided in Sec.
                                        628.41 (categorized into
                                        traditional and synthetic
                                        securitizations), by exposure
                                        type.4
                                       (f) For exposures securitized by
                                        the System bank in
                                        securitizations that meet the
                                        operational criteria in Sec.
                                        628.41:
                                          (1) Amount of securitized
                                           assets that are impaired/past
                                           due categorized by exposure
                                           type; \5\ and
                                          (2) Losses recognized by the
                                           System bank during the
                                           current period categorized by
                                           exposure type.\6\
                                       (g) The total amount of
                                        outstanding exposures intended
                                        to be securitized categorized by
                                        exposure type.
                                       (h) Aggregate amount of:
                                          (1) On-balance sheet
                                           securitization exposures
                                           retained or purchased
                                           categorized by exposure type;
                                           and
                                          (2) Off-balance sheet
                                           securitization exposures
                                           categorized by exposure type.
                                       (i)(1) Aggregate amount of
                                        securitization exposures
                                        retained or purchased and the
                                        associated capital requirements
                                        for these exposures, categorized
                                        between securitization and
                                        resecuritization exposures,
                                        further categorized into a
                                        meaningful number of risk weight
                                        bands and by risk-based capital
                                        approach (e.g., SSFA); and
                                          (2) Exposures that have been
                                           deducted entirely from tier 1
                                           capital, CEIOs deducted from
                                           total capital (as described
                                           in Sec.   628.42(a)(1)), and
                                           other exposures deducted from
                                           total capital should be
                                           disclosed separately by
                                           exposure type.
                                       (j) Summary of current year's
                                        securitization activity,
                                        including the amount of
                                        exposures securitized (by
                                        exposure type), and recognized
                                        gain or loss on sale by exposure
                                        type.
                                       (k) Aggregate amount of
                                        resecuritization exposures
                                        retained or purchased
                                        categorized according to:
                                          (1) Exposures to which credit
                                           risk mitigation is applied
                                           and those not applied; and
                                          (2) Exposures to guarantors
                                           categorized according to
                                           guarantor creditworthiness
                                           categories or guarantor name.
------------------------------------------------------------------------
\1\ A System bank is not authorized to perform every role in a
  securitization, and nothing in these capital rules authorizes a System
  bank to engage in activities relating to securitizations that are not
  otherwise authorized.
\2\ The System bank should describe the structure of resecuritizations
  in which it participates; this description should be provided for the
  main categories of resecuritization products in which the System bank
  is active.
\3\ Roles in securitizations generally could include originator,
  investor, servicer, provider of credit enhancement, sponsor, liquidity
  provider, or swap provider. As noted in footnote 1, however, a System
  bank is not authorized to perform all of these roles.
\4\ ``Exposures securitized'' include underlying exposures originated by
  the System bank, whether generated by them or purchased, and
  recognized in the balance sheet, from third parties, and third-party
  exposures included in sponsored transactions. Securitization
  transactions (including underlying exposures originally on the System
  bank's balance sheet and underlying exposures acquired by the System
  bank from third-party entities) in which the originating System bank
  (as an originating System institution) does not retain any
  securitization exposure should be shown separately but need only be
  reported for the year of inception. System banks are required to
  disclose exposures regardless of whether there is a capital charge
  under this part.
\5\ Include credit-related other than temporary impairment (OTTI).
\6\ For example, charge-offs/allowances (if the assets remain on the
  System bank's balance sheet) or credit-related OTTI of interest-only
  strips and other retained residual interests, as well as recognition
  of liabilities for probable future financial support required of the
  System bank with respect to securitized assets.


                   Table 9 to Sec.   628.63--Equities
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Qualitative Disclosures..............  (a) The general qualitative
                                        disclosure requirement with
                                        respect to equity risk:
                                       (1) Differentiation between
                                        holdings on which capital gains
                                        are expected and those taken
                                        under other objectives including
                                        for relationship and strategic
                                        reasons; and
                                          (2) Discussion of important
                                           policies covering the
                                           valuation of and accounting
                                           for equity. This includes the
                                           accounting techniques and
                                           valuation methodologies used,
                                           including key assumptions and
                                           practices affecting valuation
                                           as well as significant
                                           changes in these practices.
Quantitative Disclosures.............  (b) Value disclosed on the
                                        balance sheet of investments, as
                                        well as the fair value of those
                                        investments; for securities that
                                        are publicly traded, a
                                        comparison to publicly quoted
                                        share values where the share
                                        price is materially different
                                        from fair value.
                                       (c) The types and nature of
                                        investments, including the
                                        amount that is:
                                          (1) Publicly traded; and
                                          (2) Non-publicly traded.
                                       (d) The cumulative realized gains
                                        (losses) arising from sales and
                                        liquidations in the reporting
                                        period.
                                       (e)(1) Total unrealized gains
                                        (losses).\1\
                                          (2) Total latent revaluation
                                           gains (losses).\2\
                                          (3) Any amounts of the above
                                           included in tier 1 or tier 2
                                           capital.
                                       (f) [Reserved]
------------------------------------------------------------------------
\1\ Unrealized gains (losses) recognized on the balance sheet but not
  through earnings.
\2\ Unrealized gains (losses) not recognized either on the balance sheet
  or through earnings.


[[Page 52908]]


Table 10 to Sec.   628.63--Interest Rate Risk for Non-Trading Activities
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Qualitative disclosures..............  (a) The general qualitative
                                        disclosure requirement,
                                        including the nature of interest
                                        rate risk for non-trading
                                        activities and key assumptions,
                                        including assumptions regarding
                                        loan prepayments and behavior of
                                        non-maturity deposits, and
                                        frequency of measurement of
                                        interest rate risk for non-
                                        trading activities.
Quantitative disclosures.............  (b) The increase (decline) in
                                        earnings or economic value (or
                                        relevant measure used by
                                        management) for upward and
                                        downward rate shocks according
                                        to management's method for
                                        measuring interest rate risk for
                                        non-trading activities,
                                        categorized by currency (as
                                        appropriate).
------------------------------------------------------------------------

Sec. Sec.  628.64 through 628.99  [Reserved]

Subpart E--[Reserved]

Subpart F--[Reserved]

Subpart G--Transition Provisions


Sec.  628.300  Transitions.

    (a) Capital conservation buffer.
    (1) [Reserved]
    (2) Beginning January 1, 2016 through December 31, 2018 a System 
institution's maximum payout ratio must be determined as set forth in 
Table 1 to Sec.  628.300.

                        Table 1 to Sec.   628.300
------------------------------------------------------------------------
                                                         Maximum payout
                                                          ratio  (as a
       Transition period         Capital conservation     percentage of
                                        buffer              eligible
                                                        retained income)
------------------------------------------------------------------------
Calendar year 2016............  > 0.625 percent.......  No limitation.
                                <= 0.625 percent, and   60 percent.
                                 > 0.469 percent.
                                <= 0.469 percent, and   40 percent.
                                 > 0.313 percent.
                                <= 0.313 percent, and   20 percent.
                                 > 0.156 percent.
                                <= 0.156 percent......  0 percent.
Calendar year 2017............  > 1.25 percent........  No limitation.
                                <= 1.25 percent, and >  60 percent.
                                 0.938 percent.
                                <= 0.938 percent, and   40 percent.
                                 > 0.625 percent.
                                <= 0.625 percent, and   20 percent.
                                 > 0.313 percent.
                                <= 0.313 percent......  0 percent.
Calendar year 2018............  > 1.875 percent.......  No limitation
                                <= 1.875 percent, and   60 percent.
                                 > 1.406 percent.
                                <= 1.406 percent, and   40 percent.
                                 > 0.938 percent.
                                <= 0.938 percent, and   20 percent.
                                 > 0.469 percent.
                                <= 0.469 percent......  0 percent.
------------------------------------------------------------------------

    (b) through (e) [Reserved]


Sec.  628.301  Initial compliance and reporting requirements.

    (a) A System institution that fails to satisfy one or more of its 
minimum applicable CET1, AT1, tier 1, tier 2, or total capital ratios 
at the end of the quarter in which these regulations become effective 
shall report its initial noncompliance to the FCA within 20 days 
following such quarterend and shall also submit a capital restoration 
plan for achieving and maintaining the standards, demonstrating 
appropriate annual progress toward meeting the goal, to the FCA within 
60 days following such quarterend. If the capital restoration plan is 
not approved by the FCA, the FCA will inform the institution of the 
reasons for disapproval, and the institution shall submit a revised 
capital restoration plan within the time specified by the FCA.
    (b) Approval of compliance plans. In determining whether to approve 
a capital restoration plan submitted under this section, the FCA shall 
consider the following factors, as applicable:
    (1) The conditions or circumstances leading to the institution's 
falling below minimum levels, the exigency of those circumstances, and 
whether or not they were caused by actions of the institution or were 
beyond the institution's control;
    (2) The overall condition, management strength, and future 
prospects of the institution and, if applicable, affiliated System 
institutions;
    (3) The institution's capital, adverse assets (including nonaccrual 
and nonperforming loans), ALL, and other ratios compared to the ratios 
of its peers or industry norms;
    (4) How far an institution's ratios are below the minimum 
requirements;
    (5) The estimated rate at which the institution can reasonably be 
expected to generate additional earnings;
    (6) The effect of the business changes required to increase 
capital;
    (7) The institution's previous compliance practices, as 
appropriate;
    (8) The views of the institution's directors and senior management 
regarding the plan; and
    (9) Any other facts or circumstances that the FCA deems relevant.
    (c) An institution shall be deemed to be in compliance with the 
regulatory capital requirements of this subpart if it is in compliance 
with a capital restoration plan that is approved by the FCA within 180 
days following the end of the quarter in which these regulations become 
effective.

    Dated: August 8, 2014.
Dale L. Aultman,
Secretary, Farm Credit Administration Board.
[FR Doc. 2014-19179 Filed 9-3-14; 8:45 am]
BILLING CODE 6705-01-P