Financial Services Alert
Developments of Note
Federal Banking Agencies Finalize Rule Reducing Risk Weight for Claims on Securities Firms
The federal banking agencies finalized a rule (the "Rule") that reduces from 100% to 20% the risk weighting of certain claims on, and claims guaranteed by, securities firms. For a claim to qualify for this reduced risk weight, the claim first must be made on an SEC registered broker-dealer or similarly regulated firm in an OECD Country (a "Qualifying Securities Firm"). The claim then must also satisfy one of the following two standards: (1) the claim must be made on a Qualifying Securities Firm which also has (or whose parent guaranties the claim and has) a rating in one of the top three investment grade rating categories; or (2) the claim must arise under a contract that: (i) is a reverse repurchase/repurchase agreement or securities lending/borrowing transaction; (ii) is collateralized by debt or equity securities that are liquid and readily marketable; (iii) is marked-to-market daily; (iv) is s ubject to a daily margin maintenance requirement; and (v) can be liquidated, terminated, or accelerated immediately in a bankruptcy or similar proceeding, and the security or collateral agreement will not be stayed or avoided. The Rule becomes effective July 1, 2002, although any institution can follow its provisions after April 9, 2002, the date of its publication in the Federal Register.
FRB Revises Official Staff Commentary on Regulation Z
The FRB adopted revisions to the Official Staff Commentary to Regulation Z (the "Reg Z Commentary") to clarify that creditors that place disclosures required by the Truth in Lending Act and its implementing regulation, Regulation Z (collectively, "TILA Disclosures") on the same document as the credit contract may satis fy the requirement to provide the TILA Disclosures "in a form the consumer may keep" by giving the consumer a copy of the unexecuted credit contract and disclosures to read and sign, and by providing the consumer with a copy to keep after the consumer has signed the form. The consumer must be free to take possession of and review the document in its entirety before signing. A number of courts have held that the consumer must be given a separate, retainable copy of the TILA Disclosures before consummation. The revised Reg Z Commentary also provides guidance on disclosing costs for certain credit insurance policies. Finally, the revised Reg Z Commentary clarifies the definition of "business day" for purposes of the right to rescind. Generally, Regulation Z defines "business day" for purposes of rescission to mean all calendar days except Sundays and the federal legal holidays listed in a particular federal statute. The statute lists ten legal holidays and four of these are identified by a specific date (New Year’s Day, January 1; Independence Day, July 4; Veterans Day, November 11; Christmas Day, December 25). The revised Reg Z Commentary clarifies that for these four holidays only the specified date is considered a legal holiday and thus, if the date specified falls on a weekend, the Friday before or the Monday following are considered business days even if government offices are closed in observance of the holiday. Because the changes to the Reg Z Commentary do not require creditors to change their TILA Disclosure documents, the FRB has stated that a delayed implementation is not necessary and the changes went into effect April 9, 2002.
SEC Staff Agrees that Acting as Counsel to a Fund’s Independent Directors Does Not Result in Interested Person Status
In response to a request from a mutual fund complex regarding a director who is a partner in the firm that serves as counsel to the independent directors, the staff of the Division of Investment Management of the SEC (the "Staff") has agreed that a person would not be an "interested person" of a fund within the meaning of the Investment Company Act of 1940 (the "1940 Act") solely because that person acts as legal counsel for the fund’s independent directors. In relevant part, the Investment Company Act of 1940 defines "interested person" with respect to a fund to include any partner or employee of a firm that at any time since the beginning of the fund’s last two completed fiscal years of the fund has acted as the fund’s legal counsel. In particular, the Staff noted that the fact that a fund pays the legal expenses of counsel to the independent directors, incurred by the independent directors in their official capacity for the fund, would not, by itself, mean that such counsel is acting as the fund’s legal counsel for purposes of the foregoing definition.
OCC Warns About Unfair or Deceptive Acts or Practices
The OCC issued an Advisory Letter ("AL 2002-03") warning national banks about reputational and enforcement risks involved in engaging in lending and marketing practices that may constitute unfair or deceptive acts or practices. AL 2002-03 first highlights that the Federal Trade Commission Act ("FTCA") prohibits such acts or practices, and the federal banking laws provide the OCC authority to enforce that law against national banks and their subsidiaries. AL 2002-03 then explains the FTCA and gives examples of related OCC enforcement actions, such as: (1) when credit marketing materials misled because they suggested features and benefits that did not in fact apply to the credit product consumers received; and (2) when a fee was imposed on a credit product and consumers were not made aware of the fee until after they accepted the product. AL 2002-03 also highlights that violations of the FTCA also can occur in conjunction with violations of other consumer laws, like the Truth in Lending Act, the Equal Credit Opportunity Act, and the Fair Debt Collection Practices Act. Finally, AL 2002-03 provides guidelines for managing this risk, including (1) verifying information provided to consumers is complete and accurate; (2) ensuring that terms like "guaranteed," "pre-approved" and "lifetime rates" are accurately used; and (3) reviewing telemarketing scripts.
FRB Requires State Member Banks to Receive Prior Approval Before Significantly Changing Business Plans
In a Supervisory Letter (SR 02-09, "Letter 9") the FRB warned state member banks that they must receive prior FRB approval before making any significant change in their business plans. As an example of the types of changes contemplated, Letter 9 cites "becoming a primarily Internet-focused as Internet-only operation, or concentrations solely on subprime lending or leasing activities." Violation of this prior approval requirement would be considered a violation of FRB Regulation H (which governs state member bank activities).
FRB, OCC and FDIC Issue Guidance on Management of Country Risk
The FRB, OCC and FDIC (the "Agencies") jointly issued guidance (the "Guidance") concerning country risk management by US financial institutions ("FIs"). Country risk is the risk that "economic, social and political conditions and events in a foreign country will adversely affect an [FI’s] financial interests." Deterioration of economic conditions or political or social unrest in a foreign country may lead to increased risk for FIs doing business in that country including, increased rates of default by borrowers, nationalization or expropriation of assets, government repudiation of external indebtedness, exchange controls and currency devaluation.
In the Guidance, the Agencies advise FIs that have direct or indirect international exposure to develop a country risk management process that reflects the scope and complexity of the FI’s international activities and includes, at a minimum: (1) effective oversight by the board of directors; (2) adequate risk management policies and procedures; (3) an accurate process for reporting country exposure; (4) an effective process for analyzing country risk; (5) a country risk rating system; (6) established country exposure limits; (7) regular monitoring of conditions within an applicable country; (8) periodic stress testing of foreign exposures; and (9) satisfactory internal controls and an adequate audit function. The Guidance emphasizes that an FI should pay special attention to any concentrations of country risk. Furthermore, in an apendix to the Guidance, the Agencies provide a list of (a) macroeconomic factors, (b) social, political and legal issues and (c) factors specific to the FI, that should be considered by an FI in developing its country risk management policy.
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