A state bank that wants to join the Federal Reserve System must file an application for membership with the appropriate Federal Reserve Bank. Factors considered in approving membership applications include (1) the financial history and condition of the applying bank and the general character of its management; (2) the adequacy of the bank’s capital, in accordance with section 208.4, and its future earnings prospects; (3) the convenience and needs of the community; and (4) whether the bank’s corporate powers are consistent with the purposes of the Federal Reserve Act (§ 208.3(b)).

Section 208.3(d) describes the conditions of state bank membership in the Federal Reserve System. A state member bank must “at all times conduct its business and exercise its powers with due regard to safety and soundness” and may not, without the permission of the Board, cause or permit any change in the general character of its business or in the scope of the corporate powers it exercises at the time of admission to membership. In addition, it must comply with Regulation H and any other conditions of membership prescribed by the Board. Section 208.3(d) also includes the conditions for granting a waiver of a condition of membership.

A state member bank’s capital must at all times be adequate in relation to the character and condition of its assets and to its existing and prospective liabilities and other corporate responsibilities. If at any time, in light of all circumstances, the bank’s capital appears inadequate in relation to its assets, liabilities, and responsibilities, the bank must increase the amount of its capital, within such period as the Board deems reasonable, to an amount that the Board considers adequate. The standards and guidelines for defining capital and for evaluating the capital adequacy of member banks, are located in appendixes A, B, and E of the regulation.

Section 208.5 sets out the rules governing dividends and other distributions, including withdrawals of capital by state member banks, which under the Federal Reserve Act are subject to the statutes applicable to dividends and distributions by national banks. State member banks are also subject to the restrictions on distributions contained in section 208.45, which implements the prompt-corrective-action provisions of the Federal Deposit Insurance Act.

To the extent authorized by state law, a state member bank may establish and maintain branches (including interstate branches) subject to the same limitations and restrictions that apply to the establishment and maintenance of national bank branches (12 USC 36 and 1831u); however, approval of such branches must be obtained from the Board rather than the Comptroller of the Currency. A state member bank that wants to establish a branch in the United States or its territories must file an application in accordance with the Board’s Rules of Procedure (12 CFR 262.3) and must comply with the public-notice and public-comment rules of section 208.6(a)(3) and (4). Branches of member banks located in foreign nations; in the overseas territories, dependencies, and insular possessions of those nations and of the United States; and in the Commonwealth of Puerto Rico, are subject to Regulation K.

In general, withdrawals from membership are governed by the Board’s Regulation I (12 CFR 209). Regulation I generally provides that a state member bank’s voluntary withdrawal from membership becomes effective upon cancellation of the Federal Reserve Bank stock held by the bank, and after the bank has made due provisions to pay any indebtedness due or to become due to the Federal Reserve Bank.

Section 208.21(a) describes the statutory criteria for investing in bank premises. State member banks may make investments in bank premises if they (1) obtain prior approval from the Board; (2) invest less than or equal to the bank’s capital stock; or (3) in the case of banks that are well-rated and well-capitalized, invest less than or equal to 150 percent of the bank’s capital and surplus. The Board has interpreted “capital stock” and “capital and surplus” to mean the state member bank’s perpetual preferred stock and related surplus plus common stock plus surplus, as those terms are defined in the Federal Financial Institutions Examination Council (FFIEC) Consolidated Reports of Condition and Income.

Section 208.21(b) of Regulation H provides guidance regarding permissible investments in securities. In general, in the case of certain investment-company shares and investment securities, a state member bank may look to the Office of the Comptroller of the Currency’s rules in 12 CFR 1, and interpretations of those rules, to determine whether a security qualifies as a permissible investment and for the calculations of the limitations applicable to such investments. A state member bank may consult a Reserve Bank or the Board for determinations on issues not addressed in 12 CFR 1. In addition, state member banks may not purchase securities of a type or amount that the bank is not authorized to purchase under applicable state law.

Section 208.22 deals with limitations and procedures regarding state member bank public welfare investments. It describes the conditions under which a state member bank may make public welfare investments without prior approval, the types of investments that require prior approval, and the procedures that should be followed if the bank must divest a community development and public welfare investment.

Standby letters of credit and ineligible acceptances, as defined by section 208.24, count toward a state member bank’s lending limits unless prior to, or at the time of issuance of the credit, (1) the issuing bank is paid an amount equal to the bank’s maximum liability under the standby letter of credit or (2) the party procuring the issuance of a letter of credit or ineligible acceptance has set aside sufficient funds in a segregated, clearly earmarked deposit account to cover the bank’s maximum liability under the standby letter of credit or ineligible acceptance.

Section 208.25 implements the National Flood Insurance Act of 1968 and the Flood Disaster Protection Act of 1973, which prohibit state member banks from making, increasing, extending, or renewing a loan secured by improved real estate or a mobile home on a permanent foundation located or to be located in a special flood hazard area (SFHA) in a community participating in the National Flood Insurance Program (NFIP) unless the property securing the loan is covered by flood insurance. This requirement does not apply if the community in which the security property is located has been mapped for flood hazards by the Federal Emergency Management Agency (FEMA) but does not participate in the NFIP. A bank does not have to have a security interest in the underlying real estate in order for the loan to be covered by the regulation. Also, the regulation applies when a bank takes a security interest in improved real property only “out of an abundance of caution.”

Section 12 of the Securities Exchange Act of 1934 requires any state member bank with total assets of $1,000,000 and a class of equity security held by 500 or more persons to register that security with the Board. Because the Board regulates state member banks under a law for which the U.S. Security and Exchange Commission (SEC) is the primary regulator, the Board’s Regulation H (12 CFR 208.36(a)) requires that those banks comply with SEC rules and regulations and use forms adopted by the SEC. This requirement minimizes the differences between the reporting forms used by banks and those used by other reporting entities and simplifies preparation of these documents by accountants and attorneys experienced in preparing securities reports for reporting entities other than banks. Instead of the financial statements required by the SEC’s Form 10-Q, a state member bank with total assets of $150 million or less may elect to substitute the balance sheet and income statement from the quarterly report of condition that it files with the Board under section 9 of the Federal Reserve Act.

Section 208.34 requires any state member bank that transacts more than a minimal number of securities transactions for customers to maintain records of the transaction and issue a confirmation to the customer. A customer is defined as any person or account—including any agency, trust, estate, guardianship, or other fiduciary account—for which a state member bank effects or participates in effecting the purchase or sale of securities, but does not include a broker, dealer, bank acting as a broker or dealer, municipal securities broker or dealer, or issuer of the securities that are the subject of the transactions. State member banks are exempt from this rule if the bank has an average of less than 200 securities transactions for customers over the prior three-year period, exclusive of transactions in government securities. Confirmations must be given to bank securities customers at or before completion of the transaction, unless the bank provides a copy of a broker-dealer’s confirmation, which must be presented to the customer within one business day of the bank’s receipt of the broker-dealer’s confirmation.

Section 208.37 is designed to prevent fraudulent and manipulative practices in the sale of government securities. The section applies to transactions in government securities by banks that have filed, or are required to file, notice as government securities brokers or dealers under section 15C of the Securities Exchange Act (15 USC 78o-5) and Department of the Treasury regulations (17 CFR 400.1(d) and 401). In general, banks are required to observe high standards of commercial honor and just and equitable principles of trade in the conduct of their business as government securities brokers or dealers and to have reasonable grounds for believing their recommendations regarding the purchase, sale, or exchange of a government security are suitable for their non-institutional customers. Section 208.37 also prescribes the type of information a bank should obtain before making recommendations to non-institutional customers. Regulation H interpretation 208.101 (at 3-440) prescribes banks’ obligations to institutional customers.

Subpart D implements section 38 of the Federal Deposit Insurance Act, which was added by the FDIC Improvement Act of 1991 to resolve the problems of insured depository institutions at the least possible long-term loss to the deposit insurance fund. It defines the capital measures for the capital categories to be the ratio of total capital to risk-weighted assets, the ratio of tier 1 capital to risk-weighted assets, and the ratio of tier 1 capital to total average assets (the leverage ratio). The ratio of tangible equity (defined in section 208.41(f)) to total assets is the sole relevant capital measure for defining the critically undercapitalized category. Following are the five capital categories, generally determined by the most recent Consolidated Report of Condition and Income and examination report.

Subpart E of Regulation H prescribes standards for real estate lending that member banks should use when adopting real estate lending policies. These policies must be consistent with safe and sound banking practices, appropriate to the bank’s size and the nature of its operations, and reviewed and approved at least annually by the bank’s board of directors. They must establish standards for a diversified loan portfolio and prudent underwriting, documented loan-administration procedures, and appropriate compliance policies. Member banks are also required to monitor real estate market conditions and to give due consideration to the Interagency Guidelines for Real Estate Lending Policies contained in appendix C to Regulation H.

Section 208.61 of Regulation H requires state member banks to adopt appropriate security procedures to discourage robberies, burglaries, and larcenies, and to assist in the identification and prosecution of anyone who commits those crimes. It also describes the necessary components of a state member banks’ security program and the nature of reports banks must make to their boards of directors.

Section 208.62 requires a state member bank to file a suspicious-activity report when it detects a known or suspected violation of federal law or a suspicious transaction related to a money-laundering activity or violation of the Bank Secrecy Act. Section 208.63 requires a state member bank to develop a written compliance program formally approved by the institution’s board of directors. The compliance program must (1) establish a system of internal controls to ensure compliance with the Bank Secrecy Act, (2) provide for independent compliance testing, (3) identify individuals responsible for coordinating and monitoring day-to-day compliance, and (4) provide training for appropriate personnel.

An expanded examination cycle is one in which the state member bank is examined every 18 months rather than every 12 months. Section 208.64 describes which state member banks are eligible for an expanded examination cycle. The Federal Reserve may examine a bank more frequently if it considers it necessary.

Subpart G of Regulation H sets out the criteria that state member banks must meet to own or control a financial subsidiary, the activities that financial subsidiaries may and may not engage in, and the steps that will be taken when state member banks that own or control a financial subsidiary fail to continue to meet eligibility requirements. Financial subsidiaries may engage in activities that have been determined to be financial in nature or incidental to financial activities under the Gramm-Leach-Bliley Act, including general insurance agency activities in any location and travel agency activities. In addition, a financial subsidiary may engage in underwriting, dealing in, and making a market in all types of securities—activities previously prohibited for subsidiaries of state member banks by the Glass-Steagall Act. A financial subsidiary also may conduct any activity that the state member bank is permitted to conduct directly.