(i) A banking organization’s
qualifying total capital consists of two types of capital components:
“core capital elements” (tier 1 capital elements) and “supplementary
capital elements” (tier 2 capital elements). These capital elements
and the various limits, restrictions, and deductions to which they
are subject, are discussed below. To qualify as an element of tier
1 or tier 2 capital, an instrument must be fully paid up and effectively
unsecured. Accordingly, if a banking organization has purchased, or
has directly or indirectly funded the purchase of, its own capital
instrument, that instrument generally is disqualified from inclusion
in regulatory capital. A qualifying tier 1 or tier 2 capital instrument
must be subordinated to all senior indebtedness of the organization.
If issued by a bank, it also must be subordinated to claims of depositors.
In addition, the instrument must not contain or be covered by any
covenants, terms, or restrictions that are inconsistent with safe
and sound banking practices.
(ii) On a case-by-case
basis, the Federal Reserve may determine whether, and to what extent,
any instrument that does not fit wholly within the terms of a capital
element set forth below, or that does not have the characteristics
or the ability to absorb losses commensurate with the capital treatment
specified below, will qualify as an element of tier 1 or tier 2 capital.
In making such a determination, the Federal Reserve will consider
the similarity of the instrument to instruments explicitly addressed in
the guidelines; the ability of the instrument to absorb losses, particularly
while the organization operates as a going concern; the maturity and
redemption features of the instrument; and other relevant terms and
factors.
(iii) The redemption of capital instruments
before stated maturity could have a significant impact on an organization’s
overall capital structure. Consequently, an organization should consult
with the Federal Reserve before redeeming any equity or other capital
instrument included in tier 1 or tier 2 capital prior to stated maturity
if such redemption could have a material effect on the level or composition
of the organization’s capital base. Such consultation generally would
not be necessary when the instrument is to be redeemed with the proceeds
of, or replaced by, a like amount of a capital instrument that is
of equal or higher quality with regard to terms and maturity and the
Federal Reserve considers the organization’s capital position to be
fully sufficient.
A. The Definition
and Components of Qualifying Capital 1. Tier 1 capital. Tier 1 capital
generally is defined as the sum of core capital elements less any
amounts of goodwill, other intangible assets, interest-only strips
receivables, deferred tax assets, nonfinancial equity investments,
and other items that are required to be deducted in accordance with
section II.B. of this appendix. Tier 1 capital must represent at least
50 percent of qualifying total capital.
a. Core capital
elements (tier 1 capital elements). The elements qualifying for
inclusion in the tier 1 component of a banking organization’s qualifying
total capital are—
i.
qualifying
common stockholders’ equity;
ii.
qualifying noncumulative perpetual preferred stock, including related
surplus, and senior perpetual preferred stock issued to the United
States Department of the Treasury (Treasury) under the Troubled Asset
Relief Program (TARP), established by the Emergency Economic Stabilization
Act of 2008 (EESA), Division A of Public Law 110-343 (which for purposes
of this appendix shall be considered qualifying noncumulative perpetual
preferred stock), including related surplus;
iii.
minority interest related to qualifying common or noncumulative
perpetual preferred stock directly issued by a consolidated U.S. depository
institution or foreign bank subsidiary (class A minority interest);
and
iv.
restricted
core capital elements. The aggregate of these items is limited within
tier 1 capital as set forth in section II.A.1.b. of this appendix.
These elements are defined to include—
(1)
qualifying cumulative perpetual preferred stock (including related
surplus);
(2)
minority interest related to qualifying cumulative perpetual preferred
stock directly issued by a consolidated U.S. depository institution
or foreign bank subsidiary (class B minority interest);
(3)
minority interest related to qualifying common stockholders’ equity
or perpetual preferred stock issued by a consolidated subsidiary that
is neither a U.S. depository institution nor a foreign bank (class
C minority interest);
(4)
qualifying trust preferred securities; and
(5)
subordinated debentures issued prior to October 4, 2010, to the
Treasury under the TARP (TARP Subordinated Securities) established
by the EESA by a bank holding company that has made a valid election
to be taxed under Subchapter S of Chapter 1 of the U.S. Internal Revenue
Code (S-Corp BHC) or by a bank holding company organized in mutual
form (Mutual BHC).
b. Limits on restricted core capital elements.
i. Limits.
(1) The aggregate amount
of restricted core capital elements that may be included in the tier
1 capital of a banking organization must not exceed 25 percent of
the sum of all core capital elements, including restricted core capital
elements, net of goodwill less any associated deferred tax liability.
Stated differently, the aggregate amount of restricted core capital
elements is limited to one-third of the sum of core capital elements,
excluding restricted core capital elements, net of goodwill less any
associated deferred tax liability. Notwithstanding the foregoing,
the full amount of TARP Subordinated Securities issued by an S-Corp
BHC or Mutual BHC may be included in its tier 1 capital, provided
that the banking organization must include the TARP Subordinated Securities
in restricted core capital elements for the purposes of determining
the aggregate amount of other restricted core capital elements that
may be included in tier 1 capital in accordance with this section.
(2) In addition, the aggregate
amount of restricted core capital elements (other than qualifying
mandatory convertible preferred securities
5) that may be included in the tier 1 capital of
an internationally active banking organization
6 must not exceed 15 percent
of the sum of all core capital elements, including restricted core
capital elements, net of goodwill less any associated deferred tax
liability.
(3) Amounts
of restricted core capital elements in excess of this limit generally
may be included in tier 2 capital. The excess amounts of restricted
core capital elements that are in the form of class C minority interest
and qualifying trust preferred securities are subject to further limitation
within tier 2 capital in accordance with section II.A.2.d.iv. of this
appendix. A banking organization may attribute excess amounts of restricted
core capital elements first to any qualifying cumulative perpetual
preferred stock or to class B minority interest, and second to qualifying
trust preferred securities or to class C minority interest, which
are subject to a tier 2 sublimit.
ii. Transition.
(1) The quantitative limits for restricted core capital elements
set forth in sections II.A.1.b.i. and II.A.2.d.iv. of this appendix
become effective on March 31, 2011. Prior to that time, a banking
organization with restricted core capital elements in amounts that
cause it to exceed these limits must consult with the Federal Reserve
on a plan for ensuring that the banking organization is not unduly
relying on these elements in its capital base and, where appropriate,
for reducing such reliance to ensure that the organization complies
with these limits as of March 31, 2011.
(2) Until March 31, 2011, the aggregate amount
of qualifying cumulative perpetual preferred stock (including related
surplus) and qualifying trust preferred securities that a banking
organization may include in tier 1 capital is limited to 25 percent
of the sum of the following core capital elements: qualifying common
stockholders’ equity, qualifying noncumulative and cumulative perpetual
preferred stock (including related surplus), qualifying minority interest
in the equity accounts of consolidated subsidiaries, and qualifying
trust preferred securities. Amounts of qualifying cumulative perpetual
preferred stock (including related surplus) and qualifying trust preferred
securities in excess of this limit may be included in tier 2 capital.
(3) Until March 31, 2011,
internationally active banking organizations generally are expected
to limit the amount of qualifying cumulative perpetual preferred stock
(including related surplus) and qualifying trust preferred securities
included in tier 1 capital to 15 percent of the sum of core capital
elements set forth in section II.A.1.b.ii.2. of this appendix.
c. Definitions and requirements for core
capital elements.
i. Qualifying
common stockholders’ equity.
(1) Definition. Qualifying common stockholders’ equity is limited
to common stock; related surplus; and retained earnings, including
capital reserves and adjustments for the cumulative effect of foreign-currency
translation, net of any treasury stock, less net unrealized holding
losses on available-for-sale equity securities with readily determinable
fair values. For this purpose, net unrealized holding gains on such
equity securities and net unrealized holding gains (losses) on available-for-sale
debt securities are not included in qualifying common stockholders’
equity.
(2) Restrictions on terms and features. A capital
instrument that has a stated maturity date or that has a preference
with regard to liquidation or the payment of dividends is not deemed
to be a component of qualifying common stockholders’ equity, regardless
of whether or not it is called common equity. Terms or features that
grant other preferences also may call into question whether the capital
instrument would be deemed to be qualifying common stockholders’ equity.
Features that require, or provide significant incentives for, the
issuer to redeem the instrument for cash or cash equivalents will
render the instrument ineligible as a component of qualifying common
stockholders’ equity.
(3) Reliance on voting common stockholders’
equity. Although section II.A.1. of this appendix allows for
the inclusion of elements other than common stockholders’ equity within
tier 1 capital, voting common stockholders’ equity, which is the most
desirable capital element from a supervisory standpoint, generally
should be the dominant element within tier 1 capital. Thus, banking
organizations should avoid overreliance on preferred stock and nonvoting
elements within tier 1 capital. Such nonvoting elements can include
portions of common stockholders’ equity where, for example, a banking
organization has a class of nonvoting common equity, or a class of
voting common equity that has substantially fewer voting rights per
share than another class of voting common equity. Where a banking
organization relies excessively on nonvoting elements within tier
1 capital, the Federal Reserve generally will require the banking
organization to allocate a portion of the nonvoting elements to tier
2 capital.
ii. Qualifying
perpetual preferred stock.
(1) Qualifying
requirements. Perpetual preferred stock qualifying for inclusion
in tier 1 capital has no maturity date and cannot be redeemed at the
option of the holder. Perpetual preferred stock will qualify for inclusion
in tier 1 capital only if it can absorb losses while the issuer operates
as a going concern.
(2)
Restrictions on terms and features. Perpetual
preferred stock included in tier 1 capital may not have any provisions
restricting the banking organization’s ability or legal right to defer
or
waive
dividends, other than provisions requiring prior or concurrent deferral
or waiver of payments on more-junior instruments, which the Federal
Reserve generally expects in such instruments consistent with the
notion that the most-junior capital elements should absorb losses
first. Dividend deferrals or waivers for preferred stock, which the
Federal Reserve expects will occur either voluntarily or at its direction
when an organization is in a weakened condition, must not be subject
to arrangements that would diminish the ability of the deferral to
shore up the banking organization’s resources. Any perpetual preferred
stock with a feature permit ting redemption at the option of the issuer
may qualify as tier 1 capital only if the redemption is subject to
prior approval of the Federal Reserve. Features that require, or create
significant incentives for the issuer to redeem the instrument for
cash or cash equivalents will render the instrument ineligible for
inclusion in tier 1 capital. For example, perpetual preferred stock
that has a credit-sensitive dividend feature—that is, a dividend rate
that is reset periodically based, in whole or in part, on the banking
organization’s current credit standing—generally does not qualify
for inclusion in tier 1 capital.
7 Similarly, perpetual preferred stock that has a dividend-rate step-up
or a market-value conversion feature—that is, a feature whereby the
holder must or can convert the preferred stock into common stock at
the market price prevailing at the time of conversion—generally does
not qualify for inclusion in tier 1 capital.
8(3) Noncumulative and cumulative features. Perpetual
preferred stock that is noncumulative generally may not permit the
accumulation or payment of unpaid dividends in any form, including
in the form of common stock. Perpetual preferred stock that provides
for the accumulation or future payment of unpaid dividends is deemed
to be cumulative, regardless of whether or not it is called noncumulative.
iii.
Qualifying minority interest. Minority
interest in the common and preferred stockholders’ equity accounts
of a consolidated subsidiary (minority interest) represents stockholders’
equity associated with common or preferred equity instruments issued
by a banking organization’s consolidated subsidiary that are held
by investors other than the banking organization. Minority interest
is included in tier 1 capital because, as a general rule, it represents
equity that is freely available to absorb losses in the issuing subsidiary.
Nonetheless, minority interest typically is not available to absorb
losses in the banking organization as a whole, a feature that is a
particular concern when the minority interest is issued by a subsidiary
that is neither a U.S. depository institution nor a foreign bank.
For this reason, this appendix distinguishes among three types of
qualifying minority interest. Class A minority interest is minority
interest related to qualifying common and noncumulative perpetual
preferred equity instruments issued directly (that is, not through
a subsidiary) by a consolidated U.S. depository institution
9 or
foreign
bank
10 subsidiary of a banking organization. Class A minority interest
is not subject to a formal limitation within tier 1 capital. Class
B minority interest is minority interest related to qualifying cumulative
perpetual preferred equity instruments issued directly by a consolidated
U.S. depository institution or foreign bank subsidiary of a banking
organization. Class B minority interest is a restricted core capital
element subject to the limitations set forth in section II.A.1.b.i.
of this appendix, but is not subject to a tier 2 sublimit. Class C
minority interest is minority interest related to qualifying common
or perpetual preferred stock issued by a banking organization’s consolidated
subsidiary that is neither a U.S. depository institution nor a foreign
bank. Class C minority interest is eligible for inclusion in tier
1 capital as a restricted core capital element and is subject to the
limitations set forth in sections II.A.1.b.i. and II.A.2.d.iv. of
this appendix. Minority interest in small business investment companies,
investment funds that hold nonfinancial equity investments (as defined
in section II.B.5.b. of this appendix), and subsidiaries engaged in
nonfinancial activities are not included in the banking organization’s
tier 1 or total capital if the banking organization’s interest in
the company or fund is held under one of the legal authorities listed
in section II.B.5.b. of this appendix.
iv. Qualifying
trust preferred securities.
(1) A banking organization that
wishes to issue trust preferred securities and include them in tier
1 capital must first consult with the Federal Reserve. Trust preferred
securities are defined as undated preferred securities issued by a
trust or similar entity sponsored (but generally not consolidated)
by a banking organization that is the sole common equity holder of
the trust. Qualifying trust preferred securities must allow for dividends
to be deferred for at least 20 consecutive quarters without an event
of default, unless an event of default leading to acceleration permitted
under section II.A.1.c.iv.(2) has occurred. The required notification
period for such deferral must be reasonably short, no more than 15
business days prior to the payment date. Qualifying trust preferred
securities are otherwise subject to the same restrictions on terms
and features as qualifying perpetual preferred stock under section
II.A.1.c.ii.(2) of this appendix.
(2) The sole asset of the trust must be a
junior subordinated note issued by the sponsoring banking organization
that has a minimum maturity of 30 years, is subordinated with regard
to both liquidation and priority of periodic payments to all senior
and subordinated debt of the sponsoring banking organization (other
than other junior subordinated notes underlying trust preferred securities).
Otherwise the terms of a junior subordinated note must mirror those
of the preferred securities issued by the trust.
11 The
note must
comply with section II.A.2.d. of this appendix and the Federal Reserve’s
subordinated debt policy statement set forth in 12 CFR 250.166
12 except that the note may provide for an event of default and
the acceleration of principal and accrued interest upon (a) nonpayment
of interest for 20 or more consecutive quarters or (b) termination
of the trust without redemption of the trust preferred securities,
distribution of the notes to investors, or assumption of the obligation
by a successor to the banking organization.
(3) In the last five years before the maturity
of the note, the outstanding amount of the associated trust preferred
securities is excluded from tier 1 capital and included in tier 2
capital, where the trust preferred securities are subject to the amortization
provisions and quantitative restrictions set forth in sections II.A.2.d.iii.
and iv. of this appendix as if the trust preferred securities were
limited-life preferred stock.
2. Supplementary capital
elements (tier 2 capital elements). The tier 2 component of an
institution’s qualifying capital may consist of the following items
that are defined as supplementary capital elements:
i.
allowance
for loan and lease losses (subject to limitations discussed below)
ii.
perpetual preferred stock and related surplus (subject to conditions
discussed below)
iii.
hybrid capital instruments (as defined below), perpetual debt, and
mandatory convertible debt securities
iv.
term subordinated debt and intermediate-term preferred stock, including
related surplus (subject to limitations discussed below)
v.
unrealized holding gains on equity securities (subject to limitations
discussed in section II.A.2.e. of this appendix.
The maximum amount of tier 2 capital that may be included
in an institution’s qualifying total capital is limited to 100 percent
of tier 1 capital (net of goodwill, other intangible assets, interest-only
strips receivables, and nonfinancial equity investments that are required
to be deducted in accordance with section II.B. of this appendix A).
The elements of supplementary capital are discussed in
greater detail below.
a.
Allowance
for loan and lease losses. Allowances for loan and lease losses
are reserves that have been established through a charge against earnings
to absorb future losses on loans or lease-financing receivables. Allowances
for loan and lease losses exclude “allocated transfer-risk reserves,”
13 and reserves created
against identified losses.
During the transition period, the risk-based capital
guidelines provide for reducing the amount of this allowance that
may be included in an institution’s total capital. Initially, it is
unlimited. However, by year-end 1990, the amount of the allowance
for loan and lease losses that will qualify as capital will be limited
to 1.5 percent of an institution’s weighted-risk assets. By the end
of the transition period, the amount of the allowance qualifying for
inclusion in
tier 2 capital may not exceed 1.25 percent of weighted-risk
assets.
14b.
Perpetual preferred stock. Perpetual preferred
stock (and related surplus) that meets the requirements set forth
in section II.A.1.c.ii.(1) of this appendix is eligible for inclusion
in tier 2 capital without limit.
15c. Hybrid capital
instruments, perpetual debt, and mandatory convertible debt securities. Hybrid capital instruments include instruments that are essentially
permanent in nature and that have certain characteristics of both
equity and debt. Such instruments may be included in tier 2 without
limit. The general criteria hybrid capital instruments must meet in
order to qualify for inclusion in tier 2 capital are listed below:
1.
The instrument must be unsecured; fully paid up; and subordinated
to general creditors. If issued by a bank, it must also be subordinated
to claims of depositors.
2.
The
instrument must not be redeemable at the option of the holder prior
to maturity, except with the prior approval of the Federal Reserve.
(Consistent with the Board’s criteria for perpetual debt and mandatory
convertible securities, this requirement implies that holders of such
instruments may not accelerate the payment of principal except in
the event of bankruptcy, insolvency, or reorganization.)
3.
The
instrument must be available to participate in losses while the issuer
is operating as a going concern. (Term subordinated debt would not
meet this requirement.) To satisfy this requirement, the instrument
must convert to common or perpetual preferred stock in the event that
the accumulated losses exceed the sum of the retained earnings and
capital surplus accounts of the issuer.
4.
The
instrument must provide the option for the issuer to defer interest
payments if (a) the issuer does not report a profit in the preceding
annual period (defined as combined profits for the most recent four
quarters) and (b) the issuer eliminates cash dividends on common
and preferred stock.
Perpetual debt and mandatory convertible debt securities
that meet the criteria set forth in 12 CFR 225, appendix B, also qualify
as unlimited elements of tier 2 capital for bank holdingcompanies.
d. Subordinated debt and intermediate-term preferred
stock.
i. Five-year
minimum maturity. Subordinated debt and intermediate-term preferred
stock must have an original weighted average maturity of at least
five years to qualify as tier 2 capital. If the holder has the option
to require the issuer to redeem, repay, or repurchase the instrument
prior to the original stated maturity, maturity would be defined,
for risk-based capital purposes, as the earliest possible date on
which the holder can put the instrument back to the issuing banking
organization.
ii.
Other restrictions on subordinated debt. Subordinated debt included in tier 2 capital must comply with the
Federal Reserve’s subordinated debt policy statement set forth in
12 CFR 250.166.
16 Ac
cordingly, such subordinated debt
must meet the following requirements:
(1)
The subordinated debt must be unsecured.
(2)
The subordinated debt must clearly state on its face that it is
not a deposit and is not insured by a federal agency.
(3)
The subordinated debt must not have credit-sensitive features or
other provisions that are inconsistent with safe and sound banking
practice.
(4)
Subordinated debt issued by a subsidiary U.S. depository institution
or foreign bank of a bank holding company must be subordinated in
right of payment to the claims of all the institution’s general creditors
and depositors, and generally must not contain provisions permitting
debt holders to accelerate payment of principal or interest upon the
occurrence of any event other than receivership of the institution.
Subordinated debt issued by a bank holding company or its subsidiaries
that are neither U.S. depository institutions nor foreign banks must
be subordinated to all senior indebtedness of the issuer; that is,
the debt must be subordinated at a minimum to all borrowed money,
similar obligations arising from off-balance-sheet guarantees and
direct-credit substitutes, and obligations associated with derivative
products such as interest rate and foreign-exchange contracts, commodity
contracts, and similar arrangements. Subordinated debt issued by a
bank holding company or any of its subsidiaries that is not a U.S.
depository institution or foreign bank must not contain provisions
permitting debt holders to accelerate the payment of principal or
interest upon the occurrence of any event other than the bankruptcy
of the bank holding company or the receivership of a major subsidiary
depository institution. Thus, a provision permitting acceleration
in the event that any other affiliate of the bank holding company
issuer enters into bankruptcy or receivership makes the instrument
ineligible for inclusion in tier 2 capital.
iii. Discounting in last five years. As a limited-life
capital instrument approaches maturity, it begins to take on characteristics
of a short-term obligation. For this reason, the outstanding amount
of term subordinated debt and limited-life preferred stock eligible
for inclusion in tier 2 capital is reduced, or discounted, as these
instruments approach maturity: one-fifth of the outstanding amount
is excluded each year during the instrument’s last five years before
maturity. When remaining maturity is less than one year, the instrument
is excluded from tier 2 capital.
iv. Limits. The aggregate amount of term subordinated debt (excluding mandatory
convertible debt) and limited-life preferred stock as well as, beginning
March 31, 2011, qualifying trust preferred securities and class C
minority interest in excess of the limits set forth in section II.A.1.b.i.
of this appendix that may be included in tier 2 capital is limited
to 50 percent of tier 1 capital (net of goodwill and other intangible
assets required to be deducted in accordance with section II.B.1.b.
of this appendix). Amounts of these instruments in excess of this
limit, although not included in tier 2 capital, will be taken into
account by the Federal Reserve in its overall assessment of a banking
organization’s funding and financial condition.
e. Unrealized gains on equity securities and unrealized gains (losses)
on other assets. Up to 45 percent of pretax net unrealized holding gains
(that is, the excess, if any, of the fair value over historical cost)
on available-for-sale equity securities with readily determinable
fair values may be included in supplementary capital. However, the
Federal Reserve may exclude all or a portion of these unrealized gains
from tier 2 capital if the Federal Reserve determines that the equity
securities are not prudently valued. Unrealized gains (losses) on
other types of assets, such as bank premises and available-for-sale
debt securities, are not included in supplementary capital, but the
Federal Reserve may take these unrealized gains (losses) into account
as additional factors when assessing an institution’s overall capital
adequacy.
f. Revaluation reserves.
i. Such
reserves reflect the formal balance-sheet restatement or revaluation
for capital purposes of asset carrying values to reflect current market
values. The Federal Reserve generally has not included unrealized
asset appreciation in capital-ratio calculations, although it has
long taken such values into account as a separate factor in assessing
the overall financial strength of a banking organization.
ii. Consistent with long-standing
supervisory practice, the excess of market values over book values
for assets held by bank holding companies will generally not be recognized
in supplementary capital or in the calculation of the risk-based capital
ratio. However, all bank holding companies are encouraged to disclose
their equivalent of premises (building) and security revaluation reserves.
The Federal Reserve will consider any appreciation, as well as depreciation,
in specific asset values as additional considerations in assessing
overall capital strength and financial condition.
4-058.911
B. Deductions from Capital and
Other Adjustments Certain assets are
deducted from an organization’s capital for the purpose of calculating
the risk-based capital ratio.
17 These assets include:
i. a.
Goodwill—deducted from the sum of core capital elements
b.
Certain identifiable intangible assets, that is, intangible assets
other than goodwill—deducted from the sum of core capital elements
in accordance with section II.B.1.b. of this appendix
c.
Certain credit-enhancing interest-only strips receivables—deducted
from the sum of core capital elements in accordance with sections
II.B.1.c. through e. of this appendix
ii.
Investments
in banking and finance subsidiaries that are not consolidated for
accounting or supervisory purposes, and investments in other designated
subsidiaries or associated companies at the discretion of the Federal
Reserve—deducted from total capital components (as described in greater
detail below)
iii.
Reciprocal holdings of capital instruments of banking organizations—deducted
from total capital components
iv.
Deferred tax assets—portions are deducted from the sum of core capital
elements in accordance with section II.B.4. of this appendix A
v.
Nonfinancial equity investments—portions are deducted from the sum
of core capital elements in accordance with section II.B.5. of this
appendix A
1. Goodwill, other
intangible assets, and residual interests.
a. Goodwill. Goodwill is an intangible asset that represents the excess of the
purchase price over the fair market value of identifiable assets acquired
less liabilities assumed in acquisitions accounted for under the purchase
method of accounting. Any goodwill carried on the balance sheet of
a bank holding company after December 31, 1992, will be deducted from
the sum of core capital elements in determining tier 1 capital for
ratio-calculation purposes. Any goodwill in existence before March
12, 1988, is grandfathered during the transition period and is not
deducted from core capital elements until after December 31, 1992.
However, bank holding company goodwill acquired as a result of a merger
or acquisition that was consummated on or after March 12, 1988, is
deducted immediately.
b. Other intangible assets.
i. All
servicing assets, including servicing assets on assets other than
mortgages (i.e., nonmortgage-servicing assets) are included in this
appendix as identifiable intangible assets. The only types of identifiable
intangible assets that may be included in, that is, not deducted from,
an organization’s capital are readily marketable mortgage-servicing
assets, nonmortgage-servicing assets, and purchased credit-card relationships.
The total amount of these assets that may be included in capital is
subject to the limitations described below in sections II.B.1.d. and
e. of this appendix.
c. Credit-enhancing
interest-only strips receivables (I/Os).
i. Credit-enhancing
I/Os are on-balance-sheet assets that, in form or in substance, represent
a contractual right to receive some or all of the interest due on
transferred assets and expose the bank holding company to credit risk
directly or indi- rectly associated with transferred assets that exceeds
a pro rata share of the bank holding company’s claim on the assets,
whether through subordination provisions or other credit-enhancement
techniques. Such I/Os, whether purchased or retained, including other
similar “spread” assets, may be included in, that is, not deducted
from, a bank holding company’s capital subject to the limitations
described below in sections II.B.1.d. and e. of this appendix.
ii. Both purchased
and retained credit-enhancing I/Os, on a non-tax-adjusted basis, are
included in the total amount that is used for purposes of determining
whether a bank holding company exceeds the tier 1 limitation described
below in this section. In determining whether an I/O or other types
of spread assets serve as a credit enhancement, the Federal Reserve
will look to the economic substance of the transaction.
d. Fair-value limitation. The amount of mortgage-servicing assets,
nonmortgage-servicing assets, and purchased credit-card relationships
that a bank holding company may include in capital shall be the lesser
of 90 percent of their fair value, as determined in accordance with
section II.B.1.f. of this appendix, or 100 percent of their book value,
as adjusted for capital purposes in accordance with the instructions
to the Consolidated Financial Statements for Bank Holding Companies
(FR Y-9C Report). The amount of credit-enhancing I/Os that a bank
holding company may include in capital shall be its fair value. If
both the application of the limits on mortgage-servicing assets, nonmortgage-servicing
assets, and purchased credit-card relationships and the adjustment
of the balance-sheet amount for these assets would result in an amount
being deducted from capital, the bank holding company would deduct
only the greater of the two amounts from its core capital elements
in determining tier 1 capital.
e. Tier 1 capital
limitation.
i. The total amount of mortgage-servicing
assets, nonmortgage-servicing assets, and purchased credit-card relationships
that may be included in capital, in the aggregate, cannot exceed 100
percent of tier 1 capital. Nonmortgage-servicing assets and purchased
credit-card relationships are subject, in the aggregate, to a separate
sublimit of 25 percent of tier 1 capital. In addition, the total amount
of credit-enhancing I/Os (both purchased and retained) that may be
included in capital cannot exceed 25 percent of tier 1 capital.
18ii. For purposes of calculating these
limitations on mortgage-servicing assets, nonmortgage-servicing assets,
purchased credit-card relationships, and credit-enhancing I/Os, tier
1 capital is defined as the sum of core capital elements, net of goodwill,
and net of all identifiable intangible assets other than mortgage-servicing
assets, nonmortgage-servicing assets, and purchased credit-card relationships,
prior to the deduction of any disallowed mortgage-servicing assets,
any disallowed nonmortgage-servicing assets, any disallowed purchased
credit-card relationships, any disallowed credit-enhancing I/Os (both
purchased and retained), any disallowed deferred tax assets, and any
nonfinancial equity investments.
iii. Bank holding companies may elect
to deduct disallowed mortgage-servicing assets, disallowed nonmortgage-servicing
assets, and disallowed credit-enhancing I/Os (both purchased and retained)
on a basis that is net of any associated deferred tax liability. Deferred
tax liabilities netted in this manner cannot also be netted against
deferred tax assets when determining the amount of deferred tax assets
that are dependent upon future taxable income.
f. Valuation. Bank holding companies must review the book value
of all intangible assets at least quarterly and make adjustments to
these values as necessary. The fair value of mortgage-servicing assets,
nonmortgage-servicing assets, purchased credit-card relationships,
and credit-enhancing I/Os also must be determined at least quarterly.
This determination shall include adjustments for any significant changes
in original valuation assumptions, including changes in prepayment
estimates or account-attrition rates. Examiners will review both the
book value and the fair value assigned to these assets, together with
supporting documentation, during the inspection process. In addition,
the Federal Reserve may require, on a case-by-case basis, an independent
valuation of a bank holding company’s intangible assets or credit-enhancing
I/Os.
g. Growing organizations. Consistent with
long-standing Board policy, banking organizations experiencing substantial
growth, whether internally or by acquisition, are expected to maintain
strong capital positions substantially above minimum supervisory levels,
without significant reliance on intangible assets or credit-enhancing
I/Os.
2. Investments
in certain subsidiaries.
a.
Unconsolidated
banking or finance subsidiaries. The aggregate amount of investments
in banking or finance subsidiaries
19 whose financial statements are not consolidated
for accounting or regulatory reporting purposes, regardless of whether
the investment is made by the parent bank holding company or its direct
or indirect subsidiaries, will be deducted from the consolidated parent
banking organization’s total capital components.
20 Generally, investments
for this purpose are defined as equity and debt capital investments
and any other instruments that are deemed to be capital in the particular
subsidiary.
Advances (that is, loans, extensions of credit, guarantees,
commitments, or any other forms of credit exposure) to the subsidiary
that are not deemed to be capital will generally not be deducted from
an organization’s capital. Rather, such advances generally
will be included in the parent banking organization’s consolidated
assets and be assigned to the 100 percent risk category, unless such
obligations are backed by recognized collateral or guarantees, in
which case they will be assigned to the risk category appropriate
to such collateral or guarantees. These advances may, however, also
be deducted from the consolidated parent banking organization’s capital
if, in the judgment of the Federal Reserve, the risks stemming from
such advances are comparable to the risks associated with capital
investments or if the advances involve other risk factors that warrant
such an adjustment to capital for supervisory purposes. These other
factors could include, for example, the absence of collateral support.
Inasmuch as the assets of unconsolidated banking and
finance subsidiaries are not fully reflected in a banking organization’s
consolidated total assets, such assets may be viewed as the equivalent
of off-balance-sheet exposures since the operations of an unconsolidated
subsidiary could expose the parent organization and its affiliates
to considerable risk. For this reason, it is generally appropriate
to view the capital resources invested in these unconsolidated entities
as primarily supporting the risks inherent in these off-balance-sheet
assets, and not generally available to support risks or absorb losses
elsewhere in the organization.
b.
Other subsidiaries
and investments. The deduction of investments, regardless of
whether they are made by the parent bank holding company or by its
direct or indirect subsidiaries, from a consolidated banking organization’s
capital will also be applied in the case of any subsidiaries, that,
while consolidated for accounting purposes, are not consolidated for
certain specified supervisory or regulatory purposes, such as to facilitate
functional regulation. For this purpose, aggregate capital investments
(that is, the sum of any equity or debt instruments that are deemed
to be capital) in these subsidiaries will be deducted from the consolidated
parent banking organization’s total capital components.
21 Advances (that is, loans, extensions of credit,
guarantees, commitments, or any other forms of credit exposure) to
such subsidiaries that are not deemed to be capital will generally
not be deducted from capital. Rather, such advances will normally
be included in the parent banking organization’s consolidated assets
and assigned to the 100 percent risk category, unless such obligations
are backed by recognized collateral or guarantees, in which case they
will be assigned to the risk category appropriate to such collateral
or guarantees. These advances may, however, be deducted from the consolidated
parent banking organization’s capital if, in the judgment of the Federal
Reserve, the risks stemming from such advances are comparable to the
risks associated with capital investments or if such advances involve
other risk factors that warrant such an adjustment to capital for
supervisory purposes. These other factors could include, for example,
the absence of collateral support.
22 In general, when investments in a consolidated
subsidiary are deducted from a consolidated parent banking organization’s
capital, the subsidiary’s assets will also be excluded from the consolidated
assets of the parent banking organization in order to assess the latter’s
capital adequacy.
23 The Federal Reserve may also deduct from a banking organization’s
capital, on a case-by-case basis, investments in certain other subsidiaries
in order to determine if the consolidated banking organization meets
minimum supervisory capital requirements without reliance on the resources
invested in such subsidiaries.
The Federal Reserve will not automatically deduct investments
in other unconsolidated subsidiaries or investments in joint ventures
and associated companies.
24 Nonetheless, the resources
invested in these entities, like investments in unconsolidated banking
and finance subsidiaries, support assets not consolidated with the
rest of the banking organization’s activities and, therefore, may
not be generally available to support additional leverage or absorb
losses elsewhere in the banking organization. Moreover, experience
has shown that banking organizations stand behind the losses of affiliated
institutions, such as joint ventures and associated companies, in
order to protect the reputation of the organization as a whole. In
some cases, this has led to losses that have exceeded the investments
in such organizations.
For this reason, the Federal Reserve will
monitor the level and nature of such investments for individual banking
organizations and may, on a case-by-case basis, deduct such investments
from total capital components, apply an appropriate risk-weighted
capital charge against the organization’s proportionate share of the
assets of its associated companies, require a line-by-line consolidation
of the entity (in the event that the parent’s control over the entity
makes it the functional equivalent of a subsidiary), or otherwise
require the organization to operate with a risk-based capital ratio
above the minimum.
In considering the appropriateness of such adjustments
or actions, the Federal Reserve will generally take into account whether—
1.
the
parent banking organization has significant influence over the financial
or managerial policies or operations of the subsidiary, joint venture,
or associated company;
2.
the
banking organization is the largest investor in the affiliated company;
or
3.
other
circumstances prevail that appear to closely tie the activities of
the affiliated company to the parent banking organization.
3. Reciprocal
holdings of banking organizations’ capital instruments. Reciprocal
holdings of banking organizations’ capital instruments (that is, instruments
that qualify as tier 1 or tier 2 capital) will be deducted from an
organization’s total capital components for the purpose of determining
the numerator of the risk-based capital ratio.
Reciprocal holdings are cross-holdings resulting
from formal or informal arrangements in which two or more banking
organizations swap, exchange, or otherwise agree to hold each other’s
capital instruments. Generally, deductions will be limited to intentional
cross-holdings. At present, the Board does not intend to require banking
organizations to deduct nonreciprocal holdings of such capital instruments.
254. Deferred tax assets.
a. The amount of deferred tax assets that
is dependent upon future taxable income, net of the valuation allowance
for deferred tax assets, that may be included in, that is, not deducted
from, a bank holding company’s capital may not exceed the lesser of—
b. The reported amount
of deferred tax assets, net of any valuation allowance for deferred
tax assets, in excess of the lesser of these two amounts is to be
deducted from a banking organization’s core capital elements in determining
tier 1 capital. For purposes of calculating the 10 percent limitation,
tier 1 capital is defined as the sum of core capital elements, net
of goodwill and net of all identifiable intangible assets other than
mortgage-servicing assets, nonmortgage-servicing assets, and purchased
credit-card relationships, but prior to the deduction of any disallowed
mortgage-servicing assets, any disallowed nonmortgage-servicing assets,
any disallowed purchased credit-card relationships, any disallowed credit-enhancing
I/Os, any disallowed deferred tax assets, and any nonfinancial equity
investments. There generally is no limit in tier 1 capital on the
amount of deferred tax assets that can be realized from taxes paid
in prior carry-back years or from future reversals of existing taxable
temporary differences.
5. Nonfinancial equity investments.
a. General. A bank holding company must deduct from its core capital elements
the sum of the appropriate percentages (as determined below) of the
adjusted carrying value of all nonfinancial equity investments held
by the parent bank holding company or by its direct or indirect subsidiaries.
For purposes of this section II.B.5, investments held by a bank holding
company include all investments held directly or indirectly by the
bank holding company or any of its subsidiaries.
b.
Scope of nonfinancial
equity investments. A nonfinancial equity investment means any
equity investment held by the bank holding company under the merchant
banking authority of section 4(k)(4)(H) of the BHC Act and subpart
J of the Board’s Regulation Y (12 CFR 225.175
et seq.); under
section 4(c)(6) or 4(c)(7) of BHC Act in a nonfinancial company or
in a company that makes investments in nonfinancial companies; in
a nonfinancial company through a small business investment company
(SBIC) under section 302(b) of the Small Business Investment Act of
1958;
27 in a nonfinancial company under the portfolio investment provisions
of the Board’s Regulation K (12 CFR
211.8(c)(3)); or in a nonfinancial
company under section 24 of the Federal Deposit Insurance Act (other
than section 24(f)).
28 A nonfinancial company is an entity that engages
in any activity that has not been determined to be financial in nature
or incidental to financial activities under section 4(k) of the Bank
Holding Company Act (12 U.S.C. 1843(k)).
c. Amount of
deduction from core capital.
i. The bank holding company
must deduct from its core capital elements the
sum of
the appropriate percentages, as set forth in table 1, of the adjusted
carrying value of all nonfinancial equity investments held by the
bank holding company. The amount of the percentage deduction increases
as the aggregate amount of nonfinancial equity investments held by
the bank holding company increases as a percentage of the bank holding
company’s tier 1 capital.
Table 1—Deduction
for Nonfinancial Equity Investments
| Aggregate adjusted carrying value of all nonfinancial
equity investments held directly or indirectly by the bank holding
company (as a percentage of the tier 1 capital of the parent banking
organization)1 |
Deduction from core capital elements (as
a percentage of the adjusted carrying value of the investment) |
| Less
than 15 percent |
8 percent |
| 15 percent
to 24.99 percent |
12 percent |
| 25 percent
and above |
25 percent |
1 For purposes of calculating the adjusted carrying value of nonfinancial
equity investments as a percentage of tier 1 capital, tier 1 capital
is defined as the sum of core capital elements net of goodwill and
net of all identifiable intangible assets other than mortgage-servicing
assets, nonmortgage-servicing assets and purchased credit-card relationships,
but prior to the deduction for any disallowed mortgage-servicing assets,
any disallowed nonmortgage-servicing assets, any disallowed purchased
credit-card relationships, any disallowed credit-enhancing I/Os (both
purchased and retained), any disallowed deferred tax assets, and any
nonfinancial equity investments.
ii. These deductions are applied on
a marginal basis to the portions of the adjusted carrying value of
nonfinancial equity investments that fall within the specified ranges
of the parent holding company’s tier 1 capital. For example, if the
adjusted carrying value of all nonfinancial equity investments held
by a bank holding company equals 20 percent of the tier 1 capital
of the bank holding company, then the amount of the deduction would
be 8 percent of the adjusted carrying value of all investments up
to 15 percent of the company’s tier 1 capital, and 12 percent of the
adjusted carrying value of all investments in excess of 15 percent
of the company’s tier 1 capital.
iii. The total adjusted carrying value
of any nonfinancial equity investment that is subject to deduction
under this paragraph is excluded from the bank holding company’s risk-weighted
assets for purposes of computing the denominator of the company’s
risk-based capital ratio.
29iv. As noted
in section I, this appendix establishes minimum risk-based
capital ratios, and banking organizations are at all times expected
to maintain capital commensurate with the level and nature of the
risks to which they are exposed. The risk to a banking organization
from nonfinancial equity investments increases with its concentration
in such investments, and strong capital levels above the minimum requirements
are particularly important when a banking organization has a high
degree of concentration in nonfinancial equity investments (e.g.,
in excess of 50 percent of tier 1 capital). The Federal Reserve intends
to monitor banking organizations and apply heightened supervision
to equity investment activities as appropriate, including where the
banking organization has a high degree of concentration in nonfinancial
equity investments, to ensure that each organization maintains capital
levels that are appropriate in light of its equity investment activities.
The Federal Reserve also reserves authority to impose a higher capital
charge in any case where the circumstances, such as the level of risk
of the particular investment or portfolio of investments, the risk-management
systems of the banking organization, or other information, indicate
that a higher minimum capital requirement is appropriate.
d. SBIC investments.
i. No deduction is required for nonfinancial
equity investments that
are held by a bank holding company through
one or more SBICs that are consolidated with the bank holding company
or in one or more SBICs that are not consolidated with the bank holding
company to the extent that all such investments, in the aggregate,
do not exceed 15 percent of the aggregate of the bank holding company’s
pro rata interests in the tier 1 capital of its subsidiary banks.
Any nonfinancial equity investment that is held through or in an SBIC
and not required to be deducted from tier 1 capital under this section
II.B.5.d. will be assigned a 100 percent risk weight and included
in the parent holding company’s consolidated risk-weighted assets.
30ii. To
the extent the adjusted carrying value of all nonfinancial equity
investments that a bank holding company holds through one or more
SBICs that are consolidated with the bank holding company or in one
or more SBICs that are not consolidated with the bank holding company
exceeds, in the aggregate, 15 percent of the aggregate tier 1 capital
of the company’s subsidiary banks, the appropriate percentage of such
amounts (as set forth in table 1) must be deducted from the bank holding
company’s core capital elements. In addition, the aggregate adjusted
carrying value of all nonfinancial equity investments held
through a consolidated SBIC and in a nonconsolidated SBIC (including
any investments for which no deduction is required) must be included
in determining, for purposes of table 1, the total amount of nonfinancial
equity investments held by the bank holding company in relation to
its tier 1 capital.
e.
Transition
provisions. No deduction under this section II.B.5 is required
to be made with respect to the adjusted carrying value of any nonfinancial
equity investment (or portion of such an investment) that was made
by the bank holding company prior to March 13, 2000, or that was made
after such date pursuant to a binding written commitment
31 entered into
by the bank holding company prior to March 13, 2000, provided that
in either case the bank holding company has continuously held the
investment since the relevant investment date.
32 For purposes of this section II.B.5.e., a nonfinancial equity
investment made prior to March 13, 2000, includes any shares or other
interests received by the bank holding company through a stock split
or stock dividend on an investment made
prior to March 13, 2000, provided
the bank holding company provides no consideration for the shares
or interests received and the transaction does not materially increase
the bank holding company’s proportional interest in the company. The
exercise on or after March 13, 2000, of options or warrants acquired
prior to March 13, 2000, is
not considered to be an investment
made prior to March 13, 2000, if the bank holding company provides
any consideration for the shares or interests received upon exercise
of the options or warrants. Any nonfinancial equity investment (or
portion thereof) that is not required to be deducted from tier 1 capital
under this section II.B.5.e. must be included in determining the total
amount of nonfinancial equity investments held by the bank holding
company in relation to its tier 1 capital for purposes of table 1.
In addition, any nonfinancial equity investment (or portion thereof)
that is not required to be deducted from tier 1 capital under this
section II.B.5.e. will be assigned a 100 percent risk weight and included
in the bank holding company’s consolidated risk-weighted assets.
f. Adjusted carrying value.
i. For purposes of this
section II.B.5., the “adjusted carrying value” of investments is the
aggregate value at which the investments are carried on the balance
sheet of the consolidated bank holding company reduced by any unrealized
gains on those investments that are reflected in such carrying value
but excluded from the bank holding company’s tier 1 capital and associated
deferred tax liabilities. For example, for investments held as available-for-sale
(AFS), the adjusted carrying value of the investments would be the
aggregate carrying value of the investments (as reflected on the consolidated
balance sheet of the bank holding company)
less any unrealized
gains on those investments that are included in other comprehensive
income and not reflected in tier 1 capital, and associated deferred
tax liabilities.
33ii.
As discussed above with respect to consolidated SBICs, some equity
investments may be in companies that are consolidated for accounting
purposes. For investments in a nonfinancial company that is consolidated
for accounting purposes under generally accepted accounting principles,
the parent banking organization’s adjusted carrying value of the investment
is determined under the equity method of accounting (net of any intangibles
associated with the investment that are deducted from the consolidated
bank holding company’s core capital in accordance with section II.B.1
of this appendix). Even though the assets of the nonfinancial company
are consolidated for accounting purposes, these assets (as well as
the credit equivalent amounts of the company’s off-balance-sheet items)
should be excluded from the banking organization’s risk-weighted assets
for regulatory capital purposes.
g. Equity investments. For purposes of this section II.B.5, an equity investment means
any equity instrument (including common stock, preferred stock, partnership
interests, interests in limited liability companies, trust certificates
and warrants and call options that give the holder the right to purchase
an equity instrument), any equity feature of a debt instrument (such
as a warrant or call option), and any debt instrument that is convertible
into equity where the instrument or feature is held under one of the
legal authorities listed in section II.B.5.b. of this appendix A.
An investment in any other instrument (including subordinated debt)
may be treated as an equity investment if, in the judgment of the
Federal Reserve, the instrument is the functional equivalent of equity
or exposes the state member bank to essentially the same risks as
an equity instrument.
