December 14, 2005 **Interpretive Letter #1046**

**January 2006**

**12 USC 24(7)**

Dear **\[ \]**:

This responds to your letter of November 15, 2005 requesting that the
Office of the Comptroller of the Currency ("OCC") confirm your belief
that **\[ \]** ("Bank"), may acquire a non-controlling interest in **\[
\]** ("**\[ *LLC* \]**"). For the reasons set forth below, the Bank may
acquire and hold the interest in **\[ *LLC* \]** in the manner and as
described herein.

###### **A. Background** 

The Bank proposes to purchase a 5.1% membership interest in **\[ *LLC*
\]**. The remaining membership interests will be acquired by other
financial institutions and insurance companies. **\[ *LLC* \]** is being
formed for the purpose of financing **\[ \]** ("Fund"), a venture
capital fund of funds established pursuant to **\[ \]** of the **\[
*State* \]** Revised Code. The Fund is designed to promote the economic
growth in **\[ *State* \]** by investing in venture capital funds that
commit to invest funds in qualified **\[ S*tate* \]**-based companies.
The Fund is not affiliated with the Bank.

**\[ *LLC* \]** will provide the financing for the Fund by issuing bonds
and lending those funds to the Fund. Neither the Bank nor **\[ *LLC*
\]** will make any equity investment in the Fund. **\[*LLC*\]** proposes
to issue \$125 million of taxable bonds to institutional and other
accredited investors, and then lend the proceeds from the bond issuance
to the Fund. The bonds will be secured by a letter of credit, issued by
another bank, in which the Bank and the other holders of **\[ *LLC* \]**
membership interests will participate in proportion to their membership
interests ("Financing Syndicate). **\[ *LLC* \]** also proposes to enter
into an arrangement with the Financing Syndicate to hedge a portion of
the interest rate risk in the bonds, and simultaneously enter into an
identical interest rate hedge with the Fund to hedge the interest rate
risk on **\[ *LLC* \]**'s loan to the Fund. If **\[ *LLC* \]** incurs a
loss of principal or interest on its loan to the Fund, it will receive
state tax credits equal to such losses, which will be passed through to
the members of **\[ *LLC* \]** in proportion to their ownership
interests.

**B. Analysis**

The OCC has concluded that it is lawful for a national bank to hold a
noncontrolling investment in an entity or enterprise, such as a limited
liability company, provided four criteria or standards are met.[^1]
These standards, which have been distilled from our previous decisions
in the area of permissible noncontrolling investments for national banks
and their subsidiaries, are:

> \(1\) the activities of the entity or enterprise must be limited to
> activities that are part of, or incidental to, the business of
> banking;\
>  \
> (2) the bank must be able to prevent the enterprise from engaging in
> activities that are impermissible for national banks or be able to
> withdraw its investment;\
>  \
> (3) the bank\'s loss exposure must be limited, as a legal and
> accounting matter, and the bank must not have open-ended liability for
> the obligations of the enterprise; and\
>  \
> (4) the investment must be convenient or useful to the bank in
> carrying out its business and not a mere passive investment unrelated
> to that bank\'s banking business.

Based upon the facts presented, the Bank\'s proposed investment in **\[
*LLC* \]** satisfies these four standards.

1\. The activities of the enterprise in which the investment is made
must be limited to activities that are part of, or incidental to, the
business of banking (or otherwise authorized for a national bank).

The proposed activities of **\[ *LLC* \]** are legally permissible under
12 U.S.C. § 24(Seventh) as part of or incidental to the business of
banking. National banks have express statutory authority to make
loans.[^2] National banks also have broad authority to borrow money and
issue debt instruments.[^3] Finally, the OCC has opined that hedging
risks arising from permissible banking activities is an essential and
integral part of those banking activities.[^4] Thus, **\[ *LLC* \]**'s
proposed activities are permissible.  

> *2. The bank must be able to prevent the enterprise from engaging in
> activities*
>
> *that do not meet the foregoing standard, or be able to withdraw its
> investment.*

This is an obvious corollary to the first standard. It is not sufficient
that the entity's activities are permissible at the time a bank
initially acquires its interest; they must also remain permissible for
as long as the bank retains an ownership interest.

The activities of **\[ *LLC* \]** will be set forth in its operating
agreement. Moreover, the operating agreement will permit the Bank to
divest of its investment in **\[ *LLC* \]** should it ever engage in any
impermissible activities. The Bank has represented that it will divest
of its interest in **\[*LLC* \]** if it were to engage in activities
impermissible for a national bank. Accordingly, the second standard is
satisfied.

> *3. The bank's loss exposure must be limited, as a legal and
> accounting matter,*
>
> *and the bank must not have open-ended liability for the obligations
> of the enterprise.*
>
> *a. Loss exposure from a legal standpoint*

A primary concern of the OCC is that national banks should not be
subjected to undue risk. Where an investing bank will not control the
operations of the entity in which the bank holds an interest, it is
important that the national bank's investment not expose it to unlimited
liability.

**\[ *LLC* \]** is a **\[ *State* \]** limited liability company. As a
legal matter, the members of a **\[ *State* \]** limited liability
company are not liable for the obligations or liabilities of the limited
liability company solely by reason of being a member of the company.[^5]

Thus, the Bank's loss exposure for the liabilities of **\[ *LLC* \]** is
limited.

> *b. Loss exposure from an accounting standpoint*

In assessing a bank's loss exposure as an accounting matter, the OCC has
previously noted that the appropriate accounting treatment for a bank's
less than 20 percent ownership share or investment in a corporate entity
is to report it as an unconsolidated entity under the equity or cost
method of accounting. You have represented that the Bank will account
for its ownership interest in the Company according to the cost method
of accounting.

Therefore, for both legal and accounting purposes, the Bank's potential
loss exposure arising from its investment in the **\[ *LLC* \]** should
be limited to the amount of those investments. Since that exposure will
be quantifiable and controllable, the third standard is satisfied.

*4. The investment must be convenient or useful to the bank in carrying
out its business and not a mere passive investment unrelated to that
bank's banking business*.

A national bank's investment in an enterprise or entity must also
satisfy the requirement that the investment have a beneficial connection
to the bank's business, *i.e.*, be convenient or useful to the investing
bank's business activities, and not constitute a mere passive investment
unrelated to that bank's banking business. The investment must benefit
or facilitate that business and cannot be a mere passive or speculative
investment.

This requirement will be met here. The investment in **\[ *LLC* \]**
will allow the Bank to participate in the provision of financing to the
Fund and support its role as a member of the Financing Syndicate.

Accordingly, the fourth standard is satisfied.

##### **C. Conclusion**

Based upon a thorough review of the information you provided, including
the representations and commitments made in your letter, and for the
reasons discussed above, it is my opinion that the Bank may acquire a
non-controlling equity investment in **\[ *LLC* \]**, subject to the
following conditions:

> \(1\) **\[ *LLC* \]** will engage only in activities that are
> permissible for a national bank;
>
> \(2\) The Bank will withdraw from **\[ *LLC* \]** in the event that it
> engages in an activity that is inconsistent with condition (1);
>
> \(3\) The Bank will account for its investment in **\[ *LLC* \]**
> under the equity or cost method of accounting; and
>
> \(4\) **\[ *LLC* \]** will be subject to OCC supervision and
> examination, subject to the limitations and requirements of 12 U.S.C.
> §§ 1820a and 1831v.

These conditions are conditions imposed in writing by the OCC in
connection with this opinion letter stating that the Bank's investment
in the Company is permissible under 12 U.S.C. § 24(Seventh). As such,
these conditions may be enforced in proceedings under applicable law.

If you have any questions, please contact Senior Counsel Chris Sablich
at (312) 360-8805.

Sincerely,

/s/ Coreen S. Arnold

Coreen S. Arnold

District Counsel

[^1]: *See, e.g.,* 12 C.F.R. § 5.36(e); Conditional Approval Letter No.
    568 (Dec. 31, 2002).

[^2]: 12 U.S.C. § 24(Seventh).

[^3]: *See* Interpretive Letter No. 378 (March 24, 1987), *reprinted in*
    \[1988-1989 Transfer Binder\] Fed. Banking L. Rep. (CCH) ¶85,602
    (reviewing relevant case law). *See also* 12 C.F.R. §§ 3.100 (bank
    capital regulations); 5.47 (licensing procedures for issuance of
    subordinated debt); and 12 C.F.R. Part 16 (disclosure rules for
    offering of bank securities, including debt instruments).

[^4]: *See* OCC Interpretive Letter No. 892 (Sept. 13, 2000), *reprinted
    in* \[2000-2001Transfer Binder\] Fed. Banking L. Rep. (CCH) ¶81-411.

[^5]: *See* Ohio Rev. Code Ann. § 1705.48 (West 1994).