The FRB approved a final rule (the “Final Capital Rule”) that enhances bank regulatory capital requirements and implements certain elements of the Basel III capital reforms in the U.S. as well as certain changes required by the Dodd-Frank Wall Street Reform and Consumer Protection Act. The FRB also issued a notice of proposed rulemaking that would modify the FRB’s market risk rule. The FRB, OCC and FDIC had previously issued three joint proposed rules (the “Proposed Capital Rules”) regarding enhanced capital requirements. Please see the June 12, 2012 Financial Services Alert for prior coverage of the Proposed Capital Rules.
The FRB received over 2,600 comment letters regarding the Proposed Capital Rules, many of which raised concerns that the Proposed Capital Rules were unduly burdensome or inappropriate for community banking organizations. Many community banking organizations sought to be exempted from the Final Capital Rule.
The Final Capital Rule applies to all depository institutions, all top-tier bank holding companies other than bank holding companies that are subject to the FRB’s Small Bank Holding Company Policy Statement (generally, those with less than $500 million in consolidated assets) and all top-tier savings and loan holding companies other than savings and loan holding companies substantially engaged in insurance underwriting or commercial activities. The Final Capital Rule, however, directly addresses concerns raised by community banking organizations with respect to trust preferred securities, unrealized gains and losses on available-for-sale securities in accumulated other comprehensive income (“AOCI”) and mortgage risk weights. Additionally, the Final Capital Rule grants community banking organizations an additional year, until January 1, 2015, to comply with its requirements.
The following are some of the key points of the Final Capital Rule:
- Banking organizations which are not subject to the advanced approach for risk-weighted assets (which applies to large banking organizations or banking organizations with large trading portfolios) must be in compliance with the Final Capital Rule by January 1, 2015. Banking organizations subject to the advanced approach must comply with the Final Capital Rule by January 1, 2014.
- All banking organizations must maintain the following minimum capital requirements:
- a new minimum ratio of common equity tier 1 (“CET1”) capital to risk-weighted assets of 4.5%;
- a tier 1 capital ratio of 6% (increased from 4%);
- a total capital ratio of 8% (unchanged from the current requirement);
- a leverage ratio of 4% (unchanged except for banking organizations with the highest supervisory composite rating); and
- a new capital conservation buffer of 2.5% of risk-weighted assets in addition to the minimum CET1, tier 1 and total capital ratios.
- Banking organizations subject to the advanced approach are also subject to a minimum supplemental leverage ratio of 3%. The denominator of the supplemental leverage ratio incorporates certain off-balance sheet exposures.
- Banking organizations subject to the advanced approach must also maintain a countercyclical capital buffer that would expand the banking organization’s capital conservation buffer by up to an additional 2.5% of risk-weighted assets.
- Trust preferred securities issued before May 19, 2010 by banking organizations with less than $15 billion in assets as of December 31, 2009 or those organized in mutual form as of May 19, 2010 are grandfathered for inclusion in tier 1 capital subject to a limit of 25% of tier 1 capital elements.
- Banking organizations (other than banking organizations subject to the advanced approach) may make a one-time election to opt-out of the requirement to include most AOCI components in the calculation of CET1, effectively retaining the treatment of AOCI in the current capital rules. This one-time election must be made on the first regulatory reporting period under the Final Capital Rule and may only be changed in very limited circumstances.
- The mortgage risk weights set forth in the Proposed Capital Rules were not adopted. Instead, the Final Capital Rule retains the current risk weights for residential mortgages under the general risk-based capital rules, which assign a risk weight of either 50% (for most first-lien exposures) or 100% for all other residential mortgage exposures.
- Mortgage servicing assets and certain deferred tax assets are subject to more stringent limits and a 250% risk weight, as set forth in the Proposed Capital Rules. Amounts above the limits are deducted from CET1 capital.
- The risk weight for high-volatility commercial real estate exposures and exposures more than 90 days past due or on nonaccrual (other than sovereign or residential mortgage exposures) are increased to 150%, as proposed in the Proposed Capital Rules.
- Capital is not required to be held for assets sold with representations and warranties that contain certain early default clauses or premium refund clauses that apply within 120 days of the sale. The Proposed Capital Rules had proposed to remove the 120-day safe harbor.
The FDIC has provided notice that it will consider the Final Capital Rule as an interim final rule on July 9, 2013. The OCC has stated that it expects to review and consider the Final Capital Rule as a final rule by July 9, 2013.
The Alert will cover the Final Capital Rule in greater detail in future issues. The implications of the Final Capital Rule will vary for different institutions. We regularly provide advice to our clients concerning the capital requirements of bank regulatory agencies and other regulatory and capital matters and encourage you to reach out to your Goodwin Procter contact for specific advice regarding the Final Capital Rule and its implications for your organization.