In a series of agency actions culminating with Federal Deposit Insurance Corporation (FDIC) approval on September 27, the three federal banking agencies (FDIC, Office of the Comptroller of the Currency, and Federal Reserve Board) (Agencies) have proposed changes (Proposal) to the US regulatory capital rules (Rules) that would

  • simplify the regulatory capital qualification requirements applicable to certain types of bank assets,
  • revise and clarify the regulatory capital treatment of high volatility commercial real estate exposures (HVCRE), and
  • make other technical changes to the regulatory capital regulations.

The substantive changes reflected in the first two bullets above would apply only to those banks that are subject to the “Standardized Approach” requirements of the Rules. The nonsubstantive changes would apply to Standardized Approach banks and the small number of large banks that are subject to the “Advanced Approaches” regulatory capital requirements of the Rules.

The Proposal follows a substantial level of banking industry concern voiced over the past several years about certain aspects of the Rules, and also follows the publication earlier this year of the Agencies’ report to Congress (Report) pursuant to the Economic Growth and Regulatory Paperwork Reduction Act of 1996 (EGRPRA), which requires the Agencies to review their regulations at least every 10 years to identify actions that can be taken to reduce regulatory burdens on banking organizations—especially community banking organizations. In turn, the Proposal includes changes that were referenced in the Agencies’ Report.

The substantive changes being proposed for Standardized Approach banks are the following:

  • Eliminate the Rules’ 10% common equity tier 1 capital deduction threshold that applies individually to mortgage servicing assets (MSAs), temporary difference deferred tax assets (DTAs), and significant investments in the capital of unconsolidated financial institutions in the form of common stock, as well as the aggregate 15% common equity tier 1 capital deduction threshold that applies on a collective basis across such items.
  • Eliminate the Rules’ 10% common equity tier 1 capital deduction threshold for non-significant investments in the capital of unconsolidated financial institutions.
  • Eliminate the Rules’ deduction treatment for significant investments in the capital of unconsolidated financial institutions not in the form of common stock.
  • Instead of the deductions noted above, Standardized Approach banking organizations would deduct from common equity tier 1 capital any amount of MSAs, temporary difference DTAs, and investments in the capital of unconsolidated financial institutions that individually exceed 25% of common equity tier 1 capital.
  • Allow the calculation of a banking organization’s limit on minority interests to be based on the banking organization’s capital levels rather than on its subsidiaries’ capital ratios. In other words, the banking organization would be allowed to include common equity tier 1, tier 1, and total capital minority interest up to and including 10% of the banking organization’s common equity tier 1, tier 1, and total capital (before the inclusion of any minority interest), respectively.
  • Replace the HVCRE exposure category with a new exposure called high volatility acquisition, development, or construction (HVADC) exposure. While the scope of the new HVADC exposure may capture a broader universe of commercial real estate loans, the new exposure category would carry a lower risk weight of 130% (as contrasted to 150% for HVCRE exposures) and would be simpler in format. The new exposure would not apply to existing exposures that are outstanding or committed prior to any final rule’s effective date.

Takeaways

While not groundbreaking, the Proposal will result in some level of regulatory capital simplification and modest capital and reporting relief that primarily will benefit smaller banking organizations. Advanced Approaches banks, however, have been left out of this round of substantive deregulatory proposals.

With all the talk about financial deregulation in the current presidential administration and in Congress, it may be natural to ask whether the Proposal is an example—or a harbinger—of a broader deregulatory initiative. The short answer is: probably not. The decennial regulatory review process specified by EGRPRA has been in place for over 20 years and generally has not resulted in major deregulatory actions by the Agencies. That said, the Agencies generally have been diligent in observing their EGRPRA responsibilities, and the Proposal appears to be nothing more—or less—than an example of that diligence, as well as a level of responsiveness to banking industry concerns over targeted aspects of the existing Rules. Any broader regulatory capital changes in the United States probably will have to await further work on capital requirements that is underway at the international level through the Basel Committee on Bank Supervision, but there is no assurance that any action on capital standards at the global level will be deregulatory.