Alert April 09, 2013

FRB Adopts Final Rule Defining “Predominantly Engaged in Financial Activities” and “Significant” Nonbank Financial Company and Bank Holding Company under the Dodd-Frank Act

The FRB adopted a final rule that establishes the requirements for determining when a company is “predominantly engaged in financial activities.”  The final rule will be designated as 12 C.F.R. Part 242 – Regulation PP.  The requirements set forth in the final rule will be used by the Financial Stability Oversight Council (the “FSOC”) when it considers the potential designation of a nonbank financial company for consolidated supervision by the FRB upon the determination by the FSOC that such company could pose a threat to U.S. financial stability.  Please see the February 15, 2011 Financial Services Alert for coverage of the proposed rule regarding the designation of systemically important nonbank financial companies.

Under the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), a nonbank financial company can be designated by the FSOC for supervision by the FRB only if it is “predominantly engaged in financial activities.”  A company is considered to be predominantly engaged in financial activities if 85 percent or more of the company’s revenues or assets are related to activities that are defined as financial in nature under the BHC Act.  This calculation is based on the nonbank financial company’s revenues or financial assets as of the end of either of its two most recent fiscal years.  The Appendix to Part 242 sets forth the list of financial activities for the purposes of this calculation and Title I of the Dodd-Frank Act.

Nonbank financial companies that are supervised by the FRB are subject to heightened capital requirements and other more stringent prudential regulation.  Additionally, the FSOC may issue recommendations for primary financial regulatory agencies to apply new or heightened standards to a financial activity or practice conducted by companies that are predominantly engaged in financial activities.

The final rule also defines the terms “significant nonbank financial company” and “significant bank holding company.”  A significant nonbank financial company, however, is not necessarily systemically important.  Among the factors the FSOC must consider when determining whether to designate a nonbank financial company for consolidated supervision by the FRB is the extent and nature of the company’s transactions and relationships with other significant nonbank financial companies and significant bank holding companies.  If designated, such nonbank financial companies will be required to submit reports to the FRB, the FSOC, and the FDIC on the company’s credit exposure to other significant nonbank financial companies and significant bank holding companies as well as the credit exposure of such significant entities to the nonbank financial company.  Consistent with the proposed rule, a firm will be considered significant if it has $50 billion or more in total consolidated assets or has been designated by the FSOC as systemically important.

The final rule will become effective on May 6, 2013.