> TO: Chief Executive Officer of All National Banks, Regional
> Administrators, and Examining
>
> Personnel
>
> **PURPOSE**
>
> This circular presents the policy of the Comptroller of the Currency
> regarding the accounting treatment for the exchange of mortgages for
> participation certificates by National Banks involved in the Federal
> Home Loan Mortgage Corporation\'s (FHLMC) Guarantor Phase I and II
> mortgage swap programs.
>
> **BACKGROUND AND DEFINITIONS**
>
> Banks which are not members of the Federal Home Loan Bank System
> (FHLBS) may participate in the FHLMC Guarantor mortgage swap programs
> which began on October 5, 1981. Under these programs the FHLMC buys
> participations (up to 100%) in conventional mortgage loans at par from
> a seller and concurrently sells a guaranteed participation certificate
> (PC) at par to the seller. These PC\'s may then be used as collateral
> for repurchase agreements or other borrowings or may be sold in the
> secondary market.
>
> FHLMC acquires its participations through an auction from bidders who
> swap a minimum of \$5,000,000 in mortgages. These bidders offer their
> mortgages through either competitive or noncompetitive offers. For
> competitive bids, the bidders offer a yield to FHLMC of at least 25
> basis points over the interest rate on the PC to be received in
> exchange. FHLMC accepts bids in descending order from the highest
> yield offered.
>
> The non-competitive bid offer is based upon the weighted average
> spread of the offers.
>
> Upon notification of FHLMC\'s acceptance, successful bidders must
> remit a nonrefundable commitment fee. Institutions which are not
> members of the FHLBS must also pay a nonmember fee computed on the
> dollar amount of mortgages sold which are less than one year old, if
> any.
>
> Successful bidders then elect to engage in either a \"single seller\"
> or \"multiple seller\" (not currently offered) mortgage swap.
>
> A single seller swap is one in which the mortgages sold by the bank
> comprise one PC mortgage pool backed solely by the mortgages it has
> sold. In such swaps, the seller effectively retains its own mortgage
> loans while foregoing a portion of the interest income on them. This
> portion represents FHLMC\'s fee (generally less than .4 percent) for
> its guarantee of principal and interest on the mortgages underlying
> the PC. Thus, the FHLMC single seller swap would generally qualify as
> an exchange of substantially identical assets and no loss (or gain)
> would be recognized on the transaction.
>
> A multiple seller swap is one in which the bank\'s mortgages and
> mortgages of other program participants are combined into one PC
> mortgage pool backed by a fractional undivided interest in all of the
> mortgages comprising the pool. This PC represents an interest in the
> seller\'s mortgages and those of others. Consequently, such PC would
> generally not satisfy the substantially identical test and a loss (or
> gain) would be recognized on the sale of the mortgages.
>
> **ACCOUNTING**
>
> National banks participating in the FHLMC Guarantor Phase I and II
> mortgage swap programs should account for the exchanges in conformity
> with generally accepted accounting principles. Program participants
> electing the single seller option will generally not recognize a loss
> (or gain) on the exchange of their mortgages.
>
> However, equivalent interest rates are necessary for an exchange of
> assets to qualify as substantially identical. When the spread between
> the interest rate on such PC\'s and the yield to FHLMC at which a
> seller\'s auction bid was accepted exceeds one percent, the
> substantially identical test is not considered met. Therefore, a loss
> (or gain) will be recognized on such transactions.
>
> Banks electing the multiple seller option would normally be required
> to recognize a loss (or gain) since the substantially identical
> requirement is not met. While this may be the normal presumption,
> there may be occasions when the mortgages each party has sold were
> substantially identical. In such a situation the bank should fully
> document the circumstances surrounding the transaction.
>
> Commitment and nonmember fees are deemed period costs and must be
> expensed immediately.
>
> Application of this substantially identical test will not necessarily
> be appropriate for other transactions. Hence, banks that engage in
> other loan or bond swaps should have complete documentation to support
> any contention that the assets involved are substantially identical.
>
> **OTHER CONSIDERATIONS**
>
> Participation in this mortgage swap program entails a cost to the
> selling bank in the form of the loss of interest caused by the rate
> spread (FHLMC\'s fee). Additionally, multiple seller option election
> requires accounting recognition of a sale upon exchange. Consequently,
> a bank would generally not undertake an exchange of seasoned,
> basically risk-free mortgages for a FHLMC PC when there is no
> offsetting benefit to be gained from the transaction. Often, however,
> this type of an exchange can be consistent with a bank\'s needs and
> objectives.
>
> The exchange transaction itself provides the bank with no new funds.
> However, the PC may be better suited as a funding vehicle than the
> mortgages in which participations are sold. For example, the PC can be
> used to secure deposits. Since it carries FHLMC\'s full guarantee as
> to principal and interest, it is also acceptable collateral for
> securities sold under repurchase agreements. And the PC (because of
> its form as a security and the FHLMC guarantee) can be expected to
> bring a higher sales price than the underlying mortgages.
>
> Therefore, a bank should carefully analyze the benefits and costs of
> investing in PC\'s to assure that participation in such a program is
> in its own best interest.
>
> **PROGRAM INFORMATION**
>
> Additional information on the swap program can be obtained by
> contacting the appropriate regional office of Federal Home Loan
> Mortgage Corporation. Offices are located in the following cites:
>
> Northeast - Arlington, Virginia
>
> Southeast - Atlanta, Georgia
>
> North Central - Chicago, Illinois
>
> Southwest - Dallas, Texas
>
> Western - Los Angeles, California
>
> **ORIGINATING OFFICE**
>
> Questions regarding this banking circular may be directed to the Chief
> National Bank Examiner\'s Office, Bank Accounting (202) 874-4660.
>
> Paul M. Homan
>
> Senior Deputy Comptroller for
>
> Bank Supervision

.