Regulatory Capital Treatment of Total Loss-Absorbing Capacity Investments: Final Rule

Summary

The Office of the Comptroller of the Currency (OCC), the Board of Governors of the Federal Reserve System (Federal Reserve Board), and the Federal Deposit Insurance Corporation (collectively, the agencies) issued a final rule on January 6, 2021, that applies to Category I and II banking organizations (advanced approaches banks), which include banking organizations and their subsidiary banks that have at least $700 billion in total consolidated assets, or $100 billion or more in total consolidated assets and $75 billion or more in cross-jurisdictional activities. In order to limit systemic risks and interconnectedness within the financial system, the final rule requires deduction from advanced approaches banks' regulatory capital for investments in certain unsecured debt instruments issued by bank holding companies subject to the Federal Reserve Board's total loss-absorbing capacity (TLAC) and long-term debt (LTD) requirements. The final rule is effective on April 1, 2021.

Highlights

• This final rule requires an advanced approaches bank to deduct certain holdings of (1) an unsecured LTD instrument that is issued by a U.S. bank holding company or intermediate holding company that is subject to the Federal Reserve Board's TLAC requirements, (2) certain unsecured LTD instruments issued by a foreign banking organization identified as a global systemically important banking organization (GSIB) by the Basel Committee on Banking Supervision, or (3) certain unsecured debt instruments that are pari passu or subordinate to the aforementioned LTD instruments (collectively, covered debt instruments).
• Covered debt instruments held in connection with market making or underwriting activities are subject to limited exceptions from the deduction treatment.
• Advanced approaches banks are required to treat an investment in a covered debt instrument as an investment in a tier 2 regulatory capital instrument. Therefore, under the final rule, an advanced approaches bank is required to deduct from tier 2 capital significant investments in covered debt instruments (i.e., investments where the bank owns more than 10 percent of the issuing organization's common stock), any reciprocal cross-holdings, and any direct, indirect, or synthetic investments in the bank's own covered debt instruments.
• Additionally, any non-significant investments in covered debt instruments combined with any non-significant investments in the capital of unconsolidated financial institutions (i.e., investments where the advanced approaches bank owns 10 percent or less of the issuing entity's common stock) are subject to deduction to the extent the advanced approaches bank holds such investments in excess of the 10 percent threshold for non-significant investments under the capital rule.

Background

In 2017, the Federal Reserve Board published a final rule to require the largest and most systemically important domestic and foreign-owned bank holding companies operating in the United States to maintain a minimum amount of TLAC. The Federal Reserve Board's rule is generally consistent with international standards published by the Basel Committee on Banking Supervision.

Under the Federal Reserve Board's regulations, a covered entity's TLAC consists of its common equity tier 1 capital (excluding minority interest), additional tier 1 capital (excluding minority interest), and eligible LTD. Covered bank holding companies (BHC) and intermediate holding companies (IHC) must meet a portion of their TLAC requirements with a minimum amount of eligible LTD.

The OCC's current capital regulations do not impose any special requirements for holdings of covered debt instruments. Under the generally applicable risk-based capital rule, an investment in an LTD instrument issued by a BHC or IHC generally would be treated as an investment in a corporate bond, which is subject to a risk weight of 100 percent. This final rule generally increases the capital requirements for an advanced approaches banking organization that invests in a covered debt instrument issued pursuant to the Federal Reserve Board's TLAC requirements and, therefore, reduces incentives for an advanced approaches banking organization to invest in such instruments and limits systemic risks and interconnectedness within the financial system.

Further Information

Please contact Andrew Tschirhart, Risk Expert, Capital Policy Division, at (202) 649-6370; or Jean Xiao, Attorney, Chief Counsel's Office, at (202) 649-5490.

Jonathan V. Gould
Senior Deputy Comptroller and Chief Counsel

Related Link

• Regulatory Capital Treatment for Investments in Certain Unsecured Debt Instruments of Global Systemically Important U.S. Bank Holding Companies, Certain Intermediate Holding Companies, and Global Systemically Important Foreign Banking Organizations; Total Loss-Absorbing Capacity Requirements (PDF)