[Federal Register Volume 71, Number 22 (Thursday, February 2, 2006)]
[Rules and Regulations]
[Pages 5740-5768]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 06-829]



[[Page 5739]]

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Part II





Farm Credit Administration





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12 CFR Part 611, et al.



Amendments to Regulations Governing the Farm Credit System; Final Rule

Federal Register / Vol. 71, No. 22 / Thursday, February 2, 2006 / 
Rules and Regulations

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FARM CREDIT ADMINISTRATION

12 CFR Parts 611, 612, 614, 615, 618, 619, 620, and 630

RIN 3052-AC19


Organization; Standards of Conduct and Referral of Known or 
Suspected Criminal Violations; Loan Policies and Operations; Funding 
and Fiscal Affairs, Loan Policies and Operations, and Funding 
Operations; General Provisions; Definitions; Disclosure to 
Shareholders; Disclosure to Investors in System-Wide and Consolidated 
Bank Debt Obligations of the Farm Credit System

AGENCY: Farm Credit Administration.

ACTION: Final rule.

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SUMMARY: The Farm Credit Administration (FCA, we, or our) issues this 
final rule amending our regulations affecting the governance of the 
Farm Credit System (System). The final rule enhances impartiality and 
disclosure in the election of directors; requires that Farm Credit 
banks and associations establish policies identifying desirable 
director qualifications; requires boards to have a director or an 
advisor who is a financial expert; requires System institutions to 
establish director training procedures; and ensures that boards conduct 
annual self-evaluations. The final rule addresses the term of service 
and removal of outside directors, while requiring all Farm Credit banks 
and associations with assets over $500 million to have at least two 
outside directors. The rule also provides associations with small 
boards an exemption from having at least two outside directors. The 
rule further requires that Farm Credit banks and associations have 
nominating committees and that all System institutions have audit and 
compensation committees. The final rule clarifies the current rule on 
disclosure of conflicts of interest and compensation. The final rule 
does not apply to the Federal Agricultural Mortgage Corporation (FAMC).

DATES: Effective Date: This regulation will be effective 30 days after 
publication in the Federal Register during which either or both Houses 
of Congress are in session except for Sec. Sec.  611.210(a)(2), 
611.220(a)(2)(i) and (ii), 611.325, and 620.21(d)(2) which will be 
effective one year from the effective date of this rule. We will 
publish a notice of the effective date in the Federal Register.
    Compliance Date: Compliance with board composition requirements 
(Sec. Sec.  611.210(a)(2) and 611.220(a)(2)(i) and (ii)) and 
establishment of bank nominating committees (Sec. Sec.  611.325 and 
620.21(d)(2)) must be achieved 1 year from the effective date of this 
rule. All other provisions require compliance on the effective date of 
this rule.

FOR FURTHER INFORMATION CONTACT:


Gary Van Meter, Deputy Director, Office of Regulatory Policy, Farm 
Credit Administration, McLean, VA 22102-5090, (703) 883-4232, TTY (703) 
883-4434,
 Or
Laura D. McFarland, Senior Attorney, Office of General Counsel, Farm 
Credit Administration, McLean, VA 22102-5090, (703) 883-4020, TTY (703) 
883-4020.

SUPPLEMENTARY INFORMATION:

I. Objectives

    The objectives of this rule are to:
    <bullet> Protect the safety and soundness of System institutions by 
strengthening the independence of System institution boards and 
incorporating best governance practices; and
    <bullet> Support borrower participation in the management, control 
and ownership of their respective System institutions.

II. Background

    The Farm Credit Act of 1971, as amended (Act),\1\ authorizes FCA to 
issue regulations implementing the provisions of the Act. FCA 
regulations ensure the safe and sound operations of System institutions 
and establish minimum disclosure levels of financial information to 
stockholders, investors, and potential investors in the System.\2\ 
Congress explained in section 514 of the Farm Credit Banks and 
Associations Safety and Soundness Act of 1992 (1992 Act) that 
disclosure of financial information and the reporting of potential 
conflicts of interest by System directors, officers, and employees 
helps ensure the financial viability of the System.\3\
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    \1\ Pub. L. 92-181, 85 Stat. 583.
    \2\ Section 5.17(a)(8) to (10) of the Act (12 U.S.C. 2001, et 
seq.).
    \3\ Pub. L. 102-552, 106 Stat. 4131.
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    The System has continued to grow in complexity, with an increasing 
demand for System institutions to maintain qualified boards and provide 
transparency in reporting to stockholders and investors. Also, market 
expectations for investments, including System-wide debt obligations, 
have changed in response to passage of the Sarbanes-Oxley Act of 
2002.\4\ Congress enacted Sarbanes-Oxley after revelation of accounting 
and financial management scandals involving public companies, to 
strengthened financial disclosure, reporting, and accountability 
requirements for publicly traded companies and other entities 
registered with the Securities and Exchange Commission (SEC).
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    \4\ Pub. L. 107-204, July 30, 2002.
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    While Farm Credit banks and associations are not subject to the 
governance requirements of Sarbanes-Oxley, the FCA Board determined in 
September 2003 that our regulatory governance provisions needed 
updating to reflect the changing environment in which the System 
operates.\5\ On January 19, 2005, we published a proposed rule (70 FR 
2963) to amend those parts of our regulations affecting governance of 
System institutions. The proposed rule addressed five governance areas: 
(1) Director training, qualifications, and self-evaluations, (2) board 
composition, (3) nominating committees, (4) conflicts of interest, and 
(5) audit and compensation committees. We extended the comment period 
for the proposed rule from March 21, 2005 to May 20, 2005 at the 
request of several System institutions and the Farm Credit Council 
(FCC), acting for its membership.\6\
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    \5\ FCA Fall 2003 Unified Agenda, 68 FR 53168 (September 9, 
2003).
    \6\ 70 FR 9016, February 24, 2005.
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III. Comments and Our Response

    We received 348 comment letters on our proposed rule, all but two 
from individuals and entities associated with the System. Of the 
comments received, 342 letters were from officers and directors of 85 
System associations, each of the five Farm Credit banks, the Federal 
Farm Credit Banks Funding Corporation (Funding Corporation), and the 
FCC (System commenters). One borrower of the System and one member of 
the general public also provided comments on the rule. The majority of 
the System commenters supported the FCC comments, adding individual 
elaborations where they deemed appropriate. We also received five 
comments as part of our regulatory burden initiative addressing areas 
covered in the proposed rule and address them in this rule. We discuss 
the comments to our proposed rule and our responses below. Some 
commenters also responded to our request for comments on the existing 
rule for waiving the statutory compensation limit of Farm Credit bank 
directors, which we discuss separately below. Those areas of the 
proposed rule that did not receive comments are finalized as proposed.

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IV. General Issues

    We received many comments on issues not directed to a single 
specific rule section. These comments are addressed here using the 
following nine categories: Our authority to regulate matters contained 
in System bylaws; the Regulatory Flexibility Act; our policy statement 
on rulemaking; nonregulatory approaches to governance; the extent of 
our examination and enforcement authorities; cooperative principles; 
independent directors; other general comments; and cost analysis.

A. System Institution Bylaws

    A significant number of System commenters stated the proposed rule 
addressed issues reserved to System institutions through their bylaws 
and that we lack authority to regulate these issues. The commenters 
cited section 5.17(b) of the Act as precluding FCA's involvement in any 
area covered by institution bylaws. Some commenters acknowledged our 
previous assertion that the prohibition on bylaw approval doesn't 
preclude rulemaking on matters affecting an institution's bylaws, 
stating that our position applies to the operational conduct of System 
institutions, not board issues. The commenters explain that regulations 
in areas addressing boards of directors would directly supersede a 
subject Congress expressly left to an institution's bylaws, making 
section 5.17(b) meaningless. Commenters also suggested that any rule on 
governance is functionally equivalent to our approval of bylaws.
    The Act at section 5.17(b) states that we may not approve bylaws, 
either directly or indirectly. Congress added the prohibition on bylaw 
approval in 1987 as a technical change.\7\ As explained by Congress, 
this technical change removed the ``last vestiges of the former 
management role of the Farm Credit Administration.'' \8\ This statement 
was in reference to the then statutory requirement that System 
institutions send bylaws to our offices for review and approval. This 
practice stopped when section 5.17(b) was enacted.
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    \7\ Section 110 of the Agricultural Credit Act of 1987, Pub. L. 
100-233.
    \8\ H. AMDT 425 on HR 3030 (August 4, 1987). In the Farm Credit 
Amendments Act of 1985 (Pub. L. 99-205), Congress amended the Act to 
make us an arm's-length regulator, while increasing our regulatory 
powers.
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    We recognize that section 5.17(b) removed our role in issuing prior 
approvals of bylaws. However, nothing in the language of 5.17(b) or its 
legislative history discusses our regulatory authority. Had Congress 
intended to limit our regulatory authority on any issue that may also 
be addressed in a System institution's bylaws, the addition of section 
5.17(b) would not have been characterized as a technical change and 
Congress would have also removed or amended section 5.17(a)(9) of the 
Act. Section 5.17(a)(9) directs us to issue rules and regulations 
``necessary or appropriate'' to carry out the Act. Congress left this 
authority, and others, in place when prohibiting bylaw approval. Thus, 
Congress did not remove or limit our authority to issue regulations 
governing any matter affecting institution bylaws by adding section 
5.17(b).
    In pursuit of ensuring a safe and sound System and carrying out the 
Act, institution bylaws are necessarily impacted by our rules. Issuing 
rules impacting bylaws does not mean we are approving bylaws in 
violation of section 5.17(b) of the Act. If we took the comments to the 
fullest extent, a System institution could supersede any regulation 
simply by adding a contrary bylaw provision. This is clearly not what 
Congress intended when adding section 5.17(b) to the Act. Section 
5.17(b) went to a particular past practice and was not intended to 
exclude us from regulating all matters that may also be addressed by 
System bylaws. Additionally, while the authority of System institutions 
to establish bylaws is fairly broad, it is not without limits. Bylaws 
must be consistent with applicable laws and regulations and we retain 
the responsibility to examine institution bylaws to ensure compliance. 
Consequently, we may regulate the terms and conditions by which 
institutions exercise their powers through their bylaws, while not 
approving the bylaws themselves, and then examine compliance with our 
regulations.

B. Regulatory Flexibility Act Analysis

    Commenters questioned our Regulatory Flexibility Act (RFA) \9\ 
certification. In the proposed rule, we certified the rule will not 
have a significant economic impact on a large number of small entities. 
Our certification considered each Farm Credit bank together with ``its 
affiliated associations.'' The commenters objected to our combining 
associations with Farm Credit banks, stating that because each 
institution has to comply with the regulatory requirements each should 
be considered individually for purposes of identifying economic impact. 
Commenters from one association specifically objected to the 
implication that no ``small entity'' would be burdened by the rule.
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    \9\ 5 U.S.C. 601 et seq.
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    Under the RFA, an agency must certify that a rulemaking will not 
have a significant economic impact on a substantial number of small 
entities. If the rulemaking will have such an impact, then the agency 
must conduct a regulatory flexibility analysis. The RFA definition of a 
small entity incorporates the Small Business Administration (SBA) 
definition of a ``small business concern,'' including its size 
standards. A small business concern is one independently owned and 
operated, and not dominant in its field of operation. The SBA explains 
that ``independently owned and operated'' is determined, in part, by 
the entity's affiliation with other businesses. Generally, an affiliate 
is one that is controlled by, or has control over, the entity. 
Businesses with ownership, management, and contractual relationships 
that make them economically dependent may also be affiliates. For 
purposes of the RFA, the interrelated ownership, control, and 
contractual relationship between associations and their funding banks 
are sufficient to permit them to be treated as a single entity.
    Further, System institutions fall under the SBA ``Credit 
Intermediation and Related Activities'' size category for small 
business concerns and the ``All Other Non-Depository Credit 
Intermediation'' subcategory. This subcategory defines a small entity 
as one with average annual assets less than $6 million. As affiliates, 
the combined average annual assets of each Farm Credit bank and its 
affiliated associations exceed $6 million. Therefore, System 
institutions do not satisfy the RFA definition of ``small entities.''

C. Compliance With FCA Policy Statement 59 ``Regulatory Philosophy''

    The FCC board of directors sent a separate letter from the FCC 
letter commenting on the entire rule, stating that the proposed 
governance rule was inconsistent with FCA Board Policy Statement 59 
(FCA-PS-59 (1994)).\10\ Two other commenters also stated that we 
violated FCA-PS-59 (1994). This policy statement sets out our 
philosophy on issuing regulations necessary to carry out the Act and 
promote the safety and soundness of the System. The FCA Board, 
independent of the comment letters received on the proposed governance 
rule, issued a

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revised FCA-PS-59 (1994) on June 8, 2005.
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    \10\ Statement on Regulatory Philosphy, 59 FR 32189 (June 22, 
1994). Updated May 16, 1995, 60 FR 26034.
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    The FCC board asserted the proposed rule violates the guidelines 
contained in FCA-PS-59 (1994) in five areas. First, they claimed they 
found no reasoned determination on the beneficial value of the proposed 
rule relative to the cost, stating the rule will impose greater costs 
on System institutions. A separate commenter also stated we had not 
completed a cost-benefit analysis before proposing the rule. While we 
did consider the proposed rule's cost to System institutions, the 
proposed rule did not explain clearly our cost-benefit consideration. 
We have included our cost-benefit review at section IV.I. of this 
preamble.
    Second, the FCC board remarked that we did not specifically 
identify risks or problems needing to be addressed in a rule. The 
provisions in FCA-PS-59 (1994) are not intended to limit us to issuing 
regulations only when there is an existing problem. The proposed rule 
explained that recent corporate scandals led us to reevaluate the 
preventive safeguards in our regulations. No existing problem of the 
nature leading to passage of Sarbanes-Oxley presently exists in the 
System, but our responsibility as a safety and soundness regulator 
requires us to be proactive, as well as reactive.
    Third, the FCC board stated the proposed rule contained ``explicit 
operational direction'' instead of performance criteria as stated in 
FCA-PS-59 (1994). FCA-PS-59 (1994) states that we will, to the extent 
feasible, specify performance criteria and objectives, but does not 
preclude the use of operational constraints. FCA-PS-59 (1994) states 
that any operational constraints we regulate will be based on specific 
statutory requirements or achieving regulatory objectives. The rule 
provides performance criteria in many areas, most notably in director 
qualifications, training, and elections. Some operational direction was 
provided for board committees and for director removal to ensure these 
actions occurred in a manner considered suitable for safety and 
soundness or to protect the cooperative structure of the System. To 
address commenter concerns, we have more clearly explained our reason 
for each provision of this final rule in the section-by-section portion 
of this preamble.
    Fourth, the FCC board challenged the statutory basis for the 
proposed rule because they did not find specific statutory provisions 
for most of the rule. We issued our proposed rule under our general 
authority at section 5.17(a)(9) and (10) of the Act, which empowers us 
to issue regulations for the safety and soundness of the System and to 
carry out provisions of the Act. Further, section 5.17(a)(8) authorizes 
us to regulate the preparation and distribution of information on the 
financial condition of System institutions to stockholders and 
investors. Many of the provisions in the rule relate to the financial 
condition of System institutions, such as the Annual Meeting 
Information Statement (AMIS), disclosure of conflicts of interest, and 
the role of audit committees in preparing financial reports.
    Fifth, the FCC board claimed we did not consider the approach taken 
by other financial regulators, stating we inconsistently followed their 
approach and that we were applying Sarbanes-Oxley to the System, a law 
they state ``Congress specifically chose not to apply to the System.'' 
They also stated that events in the community of publicly traded 
companies are ``tenuous justification'' for updating our regulations. 
We stated in the preamble to the proposed rule that Farm Credit banks 
and associations are not subject to the governance provisions of 
Sarbanes-Oxley. We do not agree that our proposed rule is inconsistent 
with what other regulators require. We used Sarbanes-Oxley as a guide, 
along with the governance rules of the SEC, the Federal Housing Finance 
Board (FHFB) and other regulators, as well as the System's own 
governance efforts. The FCA, as an independent regulator of the System, 
is not required to follow the actions of other regulators. Instead, 
FCA-PS-59 (1994) states that we will consider the policy positions of 
other regulators to decide if we should follow them or take a different 
approach, which we did in the proposed governance rule.
    Finally, the FCC board's letter discussed our use of the disclosure 
and conflict of interest provisions in section 514 of the Safety and 
Soundness Act of 1992. They stated that governance is unrelated to 
disclosures and conflicts of interest. They also commented that our 
last review of regulations implementing the 1992 Act, conducted more 
than 10 years ago, is sufficient absent a formal study or ``reliable 
source'' suggesting our regulations are inadequate. Good governance 
involves accountability and transparency, thus disclosing conflicts of 
interest and reporting to stakeholders directly responds to those 
issues. We are charged with examining and regulating the System. As 
part of that responsibility, we periodically review our regulations in 
response to changes within the System, the financial community, or 
agriculture. Proposals to modify rules are based on our careful study, 
research and analysis. A requirement that we hire a consultant to study 
the regulations before we amend them would be inappropriate.

D. Nonregulatory Approach to Governance

    Most of the System commenters supported our objective of improving 
System governance, but questioned the need for regulations. Of these, 
194 commenters asked that we withdraw the rule and work with the System 
to find nonregulatory ways to strengthen institution governance. These 
commenters remarked that System institutions are working to improve 
governance independent of FCA regulatory requirements and should be 
allowed to continue their efforts without having to incorporate 
potentially different governance standards. Some commenters suggested 
the rule should be withdrawn until the System completes its own self-
governance efforts. Others explained that voluntary governance 
policies, incorporating both the spirit and intent of governance, are 
more appropriate for the System rather than prescriptive regulations 
designed to make the System conform to publicly traded companies.
    We are not withdrawing the rule, but have withdrawn or amended 
certain provisions based on specific comments. Our governance rule sets 
a minimum level of performance that is mandatory for all System 
institutions, including those that may not endorse the System's 
voluntary initiatives. While voluntary governance is valuable, it does 
not replace the stability that rules provide in assuring System 
stakeholders of the safety and soundness of the System. We have a 
responsibility to address these issues given the importance of strong 
governance to the safe and sound operations of the System and the 
current business climate in which the System operates. Our intent is to 
ensure that appropriate governance standards exist for all System 
institutions. As we discuss in section IV.F. of this preamble, the 
cooperative structure of the System was a prime consideration in our 
governance rulemaking, and we reviewed the rules for public companies 
for information purposes and identification of the evolving practices 
of the marketplace. We believe the assurances derived from a regulatory 
minimum standard and the System's voluntary governance efforts will 
benefit the System by increased stockholder, investor, and public 
confidence.
    Commenters stated that the rule seeks consistency across the System 
without explanation and does not appropriately

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consider the different management needs of each institution. System 
commenters asked that each institution be allowed to determine how to 
address governance areas based on the institution's size, complexity, 
risks, and resources. Some System commenters questioned if we 
recognized the different operational behaviors of the institutions. 
Another commenter stated that our governance rule tries to centralize a 
decentralized System. This commenter also remarked that the rule may 
inhibit growth due to its rigidity. As an alternative, many commenters 
asked that we rely on our examination and enforcement authorities or 
issue rules that require institutions to establish governance policies 
within identified areas and examine implementation of those policies 
based on individual institution operations.
    While we believe it is important to preserve individual institution 
operating flexibility wherever and whenever possible, our 
responsibility as regulator requires us to issue regulations we 
determine appropriate for safety and soundness reasons. We carefully 
consider the size, complexity, risks, and resources of System 
institutions when developing our rules, and incorporate variations and 
flexibility as appropriate. Regulations necessarily place limits on 
individual institution flexibility to ensure appropriate business 
practices are consistently followed in all operating environments. The 
final rule includes regulatory relief in certain provisions, 
particularly for smaller institutions, where complexity and risks are 
limited. Further, we believe that this rule does not centralize the 
System but facilitates our ongoing examinations of System compliance 
with governance activities.
    The FCC also stated that governance rules are not necessary because 
the System is the only government-sponsored enterprise (GSE) with a 
fully independent safety and soundness regulator having full 
enforcement powers and an entirely self-funded insurance fund under the 
direction of another independent regulator. They further commented that 
there are enough regulations already in place to address governance of 
System institutions. They also cited ``extensive self-regulating'' 
practices in place such as the general financing agreements (GFA), 
market access agreement (MAA), and contractual interbank performance 
agreement (CIPA). Commenters also highlighted the System-wide 
disclosure program managed by the Funding Corporation. One commenter 
claimed the System as a whole implemented the creation of the insurance 
fund, the System-wide disclosures, the GFA, the MAA, and other internal 
controls on a voluntary basis so governance rules are not needed.
    We recognize the System has taken steps to enhance market 
discipline and transparency in its reporting and disclosures, but this 
rule is necessary to provide clear guidelines that will facilitate our 
on-going examinations of, and System compliance with, governance 
activities. The GFAs, MAA, and CIPA mentioned by commenters are 
supported by, and operate within, statutory authorities and regulatory 
constraints. While these System agreements support consistent and sound 
financial conditions, they do not focus directly on the governance 
practices of individual institutions. Additionally, we note that the 
insurance fund was created by Congress as part of the Agricultural 
Credit Act of 1987 \11\ and is available to cover losses when an 
institution fails. Insurance funds are generally not considered 
governance tools. Proper governance helps prevent loss through better 
operations, thereby avoiding the need to use insurance funds and 
enforcement authorities to resolve problems.
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    \11\ Pub. L. 100-233 (January 6, 1988).
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    Commenters remarked that the proposed rule implements no new 
statutory provision and does not respond to a specifically identified 
safety and soundness issue. The FCC also referenced the instructions of 
the Farm Credit System Reform Act of 1996 (1996 Act) \12\ to reduce 
regulatory burdens, stating that any rulemaking after 1996 is held to a 
higher ``burden of proof'' that a need exists for a rule. One commenter 
specifically stated that a rule increasing reporting and disclosures to 
stockholders will not result in a more informed or involved membership. 
Another commenter stated that increasing regulations takes away the 
control of the board and management to effectively run their 
operations. Several commenters expressed concern that we were making 
changes just for the sake of change. Some stated the proposition that 
we should only issue rules when there is a problem, real or perceived. 
They also remarked that the rule might send the message to the 
marketplace that we, as the regulator, consider the System to have a 
governance problem. Another commenter stated we had gone beyond our 
role as a safety and soundness regulator.
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    \12\ Pub. L. 104-105, 110 Stat. 162 (February 10, 1996).
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    We disagree that this rule is not needed or is a change for the 
sake of change. We believe the rule will result in a better informed 
and more involved membership. Congress charged us to issue regulations 
to ensure the safety and soundness of the System. With the recent 
growth of the System, increased sophistication in financial markets, 
and on-going scrutiny of public and agency financial activities and 
related reporting practices, we are obligated to review current 
practices and regulatory standards to ensure the continuing safety and 
soundness of System institutions both collectively and individually. As 
explained in section IV.C. of this preamble, we have flexibility to 
issue rules in response to a problem or proactively to ensure continued 
safe and sound business operation. Our proactive rulemaking in the area 
of governance should make it clear to the marketplace that we do not 
see a governance problem in the System, but instead are acting to 
update regulatory requirements that preserve the good standing of the 
System. We also disagree that the rule takes over or reduces board 
control. The rule clarifies existing board responsibilities and 
authorities while providing boards with more tools to carry out their 
fiduciary and oversight responsibilities. Finally, this rule complies 
with the 1996 Act. Section 212(b) of the 1996 Act requires us to 
continuously review our regulations to eliminate rules that are 
unnecessary, unduly burdensome, costly, or not based on law. The 1996 
Act specifies that we are to make these eliminations only if they would 
be consistent with law, safety, and soundness. As explained throughout 
this preamble, this rule is consistent with the law, safety, and 
soundness concerns.

E. Examination and Enforcement Authority

    Many System commenters cited our examination and enforcement 
authorities as a reason why regulations are unnecessary. The FCC 
explained that board members must certify receipt of an examination 
report, which is presented to an institution's board, and our examiners 
may then meet in executive session with the board to explain the 
report. Commenters also stated that we have all the enforcement powers 
necessary to correct any unsafe or unsound governance practice without 
this rule. A commenter stated that we may examine for governance, not 
impose operating procedures, and the examination process allows us to 
address specific issues as they arise instead of applying a rule to the 
entire System.

[[Page 5744]]

    We examine to ensure the safety and soundness of System 
institutions and their compliance with laws and regulations. This role 
is not a substitute for our responsibility to issue regulations 
implementing the Act and ensuring the safety and soundness of System 
institutions. Our regulations provide minimum standards of performance 
by System institutions. Our examiners use our rules as the basis for 
compliance determinations and to require any necessary corrective 
actions. Regulations reduce the likelihood that exams will uncover 
unsafe and unsound practices and provide a minimum standard of 
performance to assure stakeholders of the safe and sound operations of 
the System. While we agree with the commenters that we have a high 
level of enforcement authority, we do not view them as our primary tool 
for ensuring the safety and soundness of the System. This is ensured by 
a clear set of rules and thorough regular examinations.

F. Cooperative Structure of the System

    Most System commenters expressed the opinion that we did not give 
enough consideration to the cooperative nature of the System in our 
proposed rule. Some stated that the cooperative ownership of the System 
provides more extensive safeguards than non-cooperative businesses. 
Commenters also stated that we were trying to change the cooperative 
nature of the System. Other commenters stated that we do not understand 
that they, as fellow owners, are also directly affected by institution 
operations and stand to gain or lose by how it is run, unlike public 
companies. One commenter pointed out that System directors do not have 
the same motivations and temptations as corporate directors since 
System stock is not publicly traded and has no market value.
    We drafted our rule with full consideration of the System's 
cooperative structure. In developing both the proposed and final rule, 
we first relied on the requirements of the Act, safety and soundness 
concerns, overriding public policy, and the cooperative structure of 
the System. We agree that a cooperative structure may provide greater 
safeguards than other structures for many of the reasons given by the 
commenters. However, the cooperative structure of the System relies on 
owner control and participation, supported by accurate and timely 
information to owner stockholders, as well as their directors, who act 
in stockholders' behalf. The rule provides flexibility for individual 
System institutions, while establishing standards for governance that 
support cooperative principles and complies with applicable statutory 
requirements.
    Commenters also stated that issuing a regulation to implement best 
practices is unwise. Commenters pointed out that best practices change 
often while regulations change slowly. Another commenter remarked that 
using regulations to implement best practices inhibits System 
institutions from adjusting their governance practices in a timely 
manner. Still another commenter questioned the rationale in adopting 
best practices that may not be in the best interest of System 
stockholders. Others remarked that by issuing a rule on best practices, 
we demonstrate little respect for the ability of each institution's 
board to put best practices into place on its own.
    We believe it is appropriate to use best practices in our rule. We 
used those best practices of System institutions and other corporations 
that we considered appropriate for the long-term safety and soundness 
of the System. We used corporate best practices because System 
institutions are, by requirements of the Act, incorporated and 
considered corporate entities for specific purposes. We do not feel 
this creates a conflict with the cooperative nature of the System, as 
most non-System cooperatives are corporate entities. While we recognize 
that details associated with best practices may change over time, the 
underlying principles have been identified in the rule with sufficient 
flexibility in their application to accommodate most changes in best 
practices.
    One commenter said that our authority as a regulator to establish 
governance practices was transferred to the System in 1987 and we were 
establishing governance practices in conflict with SEC rules. The 
commenter also stated that our rule could hinder progress and we should 
not exceed the governance requirements of other regulators. Another 
commenter stated that our rule went beyond reasonable or appropriate 
regulatory guidance, instead becoming burdensome and interfering. This 
commenter also stated that our rule exceeds non-System regulatory 
schemes, which often only require companies to disclose whether or not 
a particular practice is adopted.
    Our authority to regulate governance matters was not transferred to 
the System in 1987. To the extent that the commenter making this 
statement is referring to our authority to approve bylaws, we address 
that issue in section IV.A. of this preamble. We disagree with the 
commenters that our rule is inconsistent with, or more burdensome than, 
what other regulators require. Although we are not required to follow 
the actions of other regulators, we did consider their governance 
actions. We considered the governance actions of the FHFB and the 
cooperative lending institutions it regulates, because of the 
similarity in structure to the System. We also paid close attention to 
the SEC as the issuer of regulations carrying out Sarbanes-Oxley but 
relied less on the Office of the Comptroller of the Currency (OCC), 
Office of Thrift Supervision (OTS) and Office of Federal Housing 
Enterprise Oversight (OFHEO) individual governance rules because a 
portion of the entities they regulate register with the SEC and 
therefore fall under certain SEC governance rules. Many of the 
provisions in our proposed rule are similar to the rules of other 
regulators, deviating where we determined their rules were not 
consistent with our role as an arm's-length regulator or with the 
cooperative structure of the System.

G. Independent Directors

    Several System commenters stated that our use of the word 
``independent'' in the rule was inappropriate. They explained that 
director independence means that management does not serve on the board 
of directors and most System directors are independent. The FCC further 
stated that the Act, our existing regulations, and institution bylaws 
already mandate independence as defined by the commenters. Other System 
commenters stated we were misrepresenting all System directors, whom 
they stated have ``absolute independence from management.'' One 
commenter stated that the institutions' boards should develop a charter 
defining independence and operate accordingly.
    We do not agree with the commenters' definition of independent when 
discussing System boards. The commenters rely on the corporate 
community's use of the term. We deliberately chose not to use the 
common corporate understanding of ``independent'' for the very reasons 
cited by the commenters. We instead used the term based on our existing 
conflict of interest rules at part 612 and certain sections of the Act. 
Our use of the word ``independent'' for committee memberships precludes 
employment, contractual business relationships, and lending 
relationships that would interfere with a director's ability to 
exercise disinterested and objective judgment. The term as applied to 
the outside director is restricted to the Act and legislative history 
of the Act discussing ``disinterested'' directors and

[[Page 5745]]

is based on a lack of ownership interest in the institution or System, 
thereby offering a different perspective from the owner-directors.

H. Other General Comments

    We received comments on portions of the proposed rule preamble 
language that do not address regulatory provisions and result in no 
change to the rule. Specifically, commenters stated that we proposed a 
requirement for a Code of Ethics without considering existing 
safeguards, that institutions should be allowed to adopt a Code in a 
manner they determine appropriate, and that we should not suggest a 
Code of Ethics for directors and all employees. In the preamble to the 
proposed rule, we encouraged each System institution to adopt a Code of 
Ethics; we made no proposal requiring a Code of Ethics. We explained 
that we were not regulating a Code of Ethics, but encouraging System 
institutions to follow current best practices.
    Several System commenters also criticized us for indicating our 
willingness to participate in System training. The commenters stated 
that such participation was inappropriate for an arm's-length regulator 
and an unwarranted intrusion into System affairs and activities. We are 
now clarifying that our preamble statement reaffirmed our long-standing 
commitment to support System training, which does not compromise our 
role as arm's-length regulator.
    A public commenter stated that we had left out the general public 
as a stakeholder when explaining the purpose of our rule. The commenter 
also suggested more public representation on System boards of 
directors. We disagree; we gave appropriate consideration to the public 
stakeholders when drafting our rule. The System is composed of private 
cooperative entities and, although its GSE status gives it a public 
policy purpose, it does not convert System institutions into 
governmental entities or public companies. As to public representation 
on System boards, the Act provides clear direction on System board 
composition. The cooperative nature of the System requires, at a 
minimum, a System board to be comprised primarily of stockholder-
borrowers, thus preventing a majority public representation as 
requested by the commenter.
    One commenter stated our rule was forcing associations to merge or 
consolidate into larger entities. Another commenter remarked that we 
did not acknowledge the legitimacy of small institutions, placing 
pressure on smaller associations to merge, similar to the pressure they 
receive from their district bank. We are not directly or indirectly 
forcing any institution to merge. The rule provides several small 
institution exemptions to primary governance issues out of concern for 
the economic burden smaller associations might encounter if required to 
follow all aspects of the rule.

I. Cost Analysis

    Several commenters objected to our use of the word ``believe'' in 
the preamble out of concern that our proposal might be based more on 
conjecture than demonstrated need or facts. Commenters also questioned 
our consideration of the implementation cost of the rule. Use of the 
word ``believe'' expresses our conclusion that aspects of the proposed 
rule are needed, are in accordance with our careful study of the 
issues, and are based on our research, analysis, and statutory 
requirements or authorities. As most System commenters noted, while 
they objected to the added regulatory requirements, they supported the 
improved governance standards and, in fact, had already implemented 
many of them. This factored significantly in our consideration of the 
rule's cost to System institutions. We identified three provisions 
having potential cost implications: (1) The addition of a second 
outside director; (2) the implementation of director orientation and 
training programs; and (3) the inclusion of a financial expert on the 
board.
    A second outside director will result in increased salary and 
benefit expenses for those institutions without two outside directors. 
Given its small percentage of overall System expenses, we do not 
believe this cost is significant enough to override the policy benefits 
of additional outside directors. However, we noted the impact to 
smaller associations could exceed our average cost computation and 
amended the rule accordingly. Likewise, director training and 
orientation may result in increased costs if an institution does not 
already have such a program. Based on comments received, most 
institutions already have strong training programs and our rule would 
likely result in changes to the types of courses taken rather than 
increasing the number of courses taken, thereby minimizing costs.
    There may be added costs to locate a financial expert if none are 
currently on an institution's board. We considered the nature of an 
institution, its complexity, risks, and location to provide more 
flexibility and board discretion in how to meet this requirement. In 
doing so, we believe we have minimized the costs for most institutions. 
Since these added requirements and the minimally related costs 
associated with them are designed to enhance the safety and soundness 
of System institutions, we conclude the resulting benefits, including 
improved investor and stockholder confidence, will exceed the added 
costs.

V. Section-by-Section Analysis

A. Definitions

1. Entity [Sec.  612.2130]
    We received 12 letters on the definition of ``entity'' in part 612 
of our regulations. Eight generally objected to the change and four 
commented that they had no objection. One commenter disagreed with 
removing the exception for System institutions, explaining that 
transactions between institutions should not be treated differently 
from other non-System financial institutions under our standards of 
conduct rules. We make no changes to this provision in the final rule, 
but make a clarifying technical change to Sec.  612.2150(d). Without 
this clarification, Sec.  612.2150(d) may have been read to affect 
intra-System transactions.
2. Outside Director [New Sec.  619.9235]
    We received 23 System comment letters on our use of the terms 
``outside'' and ``inside'' to identify director positions. Commenters 
stated that these terms were not found in the Act and suggested we use 
the terms ``Nonaffiliated Board Selected Director'' and ``Affiliated 
Board Selected Director.'' One commenter pointed out that agents may 
serve as outside directors for banks under the Act, but did not 
disagree with the definition excluding agents from serving as outside 
directors for any institution. We final this provision as proposed 
because there were no comments disagreeing with the actual definition 
of ``outside director.'' We also note that Congress uses and defines 
the term ``outside director'' in section 7.12 of the Act, so our use of 
the term is appropriate.
3. Senior Officer [Sec. Sec.  611.1223, 612.2155, 620.1, 620.5, and New 
619.9265]
    We received nine System letters objecting to issuing a specific 
definition of ``senior officer'' instead of allowing each institution's 
board to define the term. Two commenters asked for clarification on the 
meaning of ``major policy-making function,'' explaining that only the 
board makes policy decisions. One commenter asked that we use the SEC 
definition of ``senior officer'' instead of the one proposed.

[[Page 5746]]

Another commenter expressed concern that the definition may end up 
including all officers.
    Our definition of senior officer is similar to, but less inclusive 
than, the SEC definition of ``executive officer.'' \13\ We included 
deviations from the named positions in the SEC definition based on 
System occupations and also limited the use of ``policy making'' to 
major policy making. We clarify that while the rule identifies the 
titles of the senior officers included in this definition, System 
institutions are not required to use these titles. Officers 
accomplishing the functions of these offices while using other titles 
are regarded as senior officers for purposes of our regulations. Each 
institution board retains the ability to designate who is a senior 
officer through their hiring practices and the extent to which they 
include officers, not named in our definition, in major policy making.
---------------------------------------------------------------------------

    \13\ SEC Rule 3b-7 defines an ``executive officer'' as the 
president, any vice president of the registrant in charge of a 
principal business unit, division or function (such as sales, 
administration or finance), any other officer who performs a policy 
making function or any other person who performs similar policy 
making functions for the registrant.
---------------------------------------------------------------------------

B. Bank and Association Boards of Directors

1. Director Qualifications and Training [New Sec.  611.210]
a. Qualifications
    We received 100 System letters on the requirement for boards to 
establish director qualifications. Of the comments received, 48 
objected to being required to establish director qualifications and to 
our identifying specific areas of experience. Other commenters 
expressed concern that establishing qualifications would eliminate many 
people who are able to run a successful business or would fail to 
consider broader qualities that determine a candidate's ability to 
serve. They also stated that establishing director qualifications makes 
it difficult to attract qualified stockholders willing to serve on the 
board. Still other commenters stated that directors lacking established 
qualifications under this provision, especially young, beginning, and 
small (YBS) borrowers, are capable of learning the information they 
need to know after election to the board. A separate commenter stated 
that true cooperative principles mean that any borrower of the 
institution with an acceptable loan should have the right to be 
nominated. Seven commenters remarked on the conflict between 
established qualifications and floor nominations. Two thought the 
requirement was compatible with the outside director selection process 
but was not consistent with the cooperative principles of electing a 
board from its membership. A commenter said that associations already 
struggle with locating willing candidates with loans in good standing 
and our rule will make this task more difficult.
    One commenter noted that a qualification for a director should be 
integrity, not knowledge of financial reporting or risk management. 
Others said that it is the board's responsibility to decide what 
qualifications are needed. A few other commenters said the criteria in 
the rule were too narrow, making it more difficult to fill director 
positions. These commenters expressed concern that we could establish a 
standard that was either irrelevant or could not be met by some 
institutions. Another commenter remarked that it is difficult to 
regulate meaningful standards for candidate education because candidate 
evaluations are subjective. The commenter further explained that 
production agriculture generally offers fewer titles and certifications 
for professional verification, not withstanding strong educational 
backgrounds. This same commenter concluded that our rule would impose 
an unnecessary burden on the nominating committee. Other commenters 
also objected to the inference that institutions conduct director 
recruitment. One of these commenters further stated that we 
demonstrated a lack of respect for the ability of stockholders to 
select qualified directors. One commenter said that we should encourage 
better communications between the board and the nominating committee 
within the confines of the Act.
    Two commenters suggested that the institution identify in their 
bylaws the desirable areas of knowledge and expertise and have the 
nominating committee consider these attributes in searching for 
suitable candidates. Another commenter suggested replacing the 
standards with guidelines, recognizing that the necessary 
qualifications would vary depending on the size, strength, and 
complexity of the institution. We were asked to explain who will set 
the standards and how they will be applied. Commenters stated that 
stockholders must have the ability to determine who among the eligible 
candidates are best qualified to serve. Other commenters suggested that 
the regulatory language be revised to give latitude to the directors to 
articulate their own standards.
    We agree that it is the board's responsibility to establish 
director qualifications. The Act requires bank and association boards 
to identify director qualifications in their bylaws and we proposed 
regulations to implement this provision of the Act. We have clarified 
the rule to clearly state institutions must establish policies 
addressing director qualifications. We also require the policy be 
periodically updated and provided to the institution's nominating 
committee. We make this change in response to commenter concerns for 
flexibility and the cooperative election process.
    We also modified our rule by requiring identification of desirable 
director qualifications as opposed to prescribing them. In preserving 
the board's authority to determine relevant and needed qualifications, 
the identified qualifications must be adequate to meet the board's 
needs but broad enough to allow the nominating committee to identify at 
least two willing and qualified candidates for each open position 
without undue burden or difficulty. We have confidence that boards can 
identify relevant director qualifications for their respective 
institutions even though there is an element of subjectivity. We expect 
that the board's training program will be sufficient to enhance 
directors' skills and qualifications, such as for potential YBS 
directors, so that they can acquire needed skills and qualifications 
for board service. We also removed the suggested areas of experience 
from the final rule. While we proposed them as suggested areas, not 
requirements, commenters generally viewed them as obligatory. We 
address the comment that institutions do not engage in recruitment of 
directors in V.B.3. of this preamble.
    Commenters objected generally to our interpreting the Act, looking 
at legislative history and issuing regulations on board composition, 
remarking that Congress spoke unambiguously and directly to director 
requirements. The FCC pointed out that institutions and their 
nominating committees are obligated to consider all eligible 
stockholders. A few commenters remarked that the Act reflects the 
Congressional intent that the System be governed by popularly elected 
directors without regard to expertise or other qualifications.
    We do not agree that Congressional intent precludes consideration 
of expertise or other qualifications for directors. The Act specifies 
that director qualifications be included in an institution's bylaws. 
While it is the responsibility of the nominating committee to find 
candidates who meet, or potentially will meet through director

[[Page 5747]]

training, board-identified qualifications, this does not preclude the 
nomination of director candidates from the floor or any other eligible 
stockholder from seeking nomination without regard to desirable 
director qualifications. In the end, it is the stockholders who have 
the right to decide, through the balloting process, which candidates 
will best serve their needs.
    We moved the requirement for a board financial expert from Sec.  
611.220 on outside directors to this section of the rule. We address 
comments made on the financial expert proposal and resulting changes in 
the rule in the outside director section of this preamble at V.B.3.a.i.
b. Director Training
    We received 17 System comments on this provision of the rule. Three 
commenters supported the requirement for director training and nine 
others suggested that we require each institution to adopt a policy on 
director training. Three commenters recommended we allow the 
institutions to determine appropriate training and one asked that 
training topics be suggested, not mandatory. Several others suggested 
we simply require director training and development programs, instead 
of specific topics, stating that the rule curtails flexibility in 
determining training needs. One commenter said that the provision is 
unnecessary because director training is already an accepted 
responsibility of the System. Another commenter remarked on the 
difficulty in making a director take training. One commenter agreed 
that training for new directors and their role should be completed 
within the year, but training for other directors should be left to the 
board's discretion. Two commenters stated we have sufficient ability to 
evaluate training when conducting our Capital, Asset quality, 
Management, Earnings, Liquidity, and Sensitivity to market risk 
(CAMELS) review and we can make recommendations when those findings 
occur, eliminating the need for a rule.
    We continue to believe that director training is an essential 
component of good governance and the System's safety and soundness. 
However, we are persuaded by commenters that the facts and 
circumstances of each institution vary sufficiently to make specific 
training requirements useful in some instances and possibly irrelevant 
in others. Consequently, we have amended the rule by eliminating 
reference to specific training topics. We have further modified the 
rule to require the establishment of director training policies and 
implementing procedures. We believe it is more appropriate for 
institutions to identify their own training needs, becoming more 
proactive in considering how to improve their CAMELS review, rather 
than waiting for examiners to identify training deficiencies. We 
encourage institutions to coordinate director training with desired 
director qualifications to facilitate the ability of incumbent 
directors and YBS borrower-director candidates to meet those 
qualifications. The rule retains the requirement that new directors 
receive orientation training within the first year of becoming a 
director and that incumbent directors receive periodic training.
2. Board Evaluations [Sec. Sec.  615.5200 and 618.8440]
    We received 62 System letters generally supporting board self-
evaluations, but 38 stated that a regulatory requirement was 
unnecessary. Fourteen of these stated that institution boards should 
determine their own best practices for self-evaluations, or be allowed 
the flexibility to choose the type and breadth of self-evaluations 
based on local needs. Another 10 commenters were against a rule 
requiring board evaluations, stating that their boards already conduct 
self-evaluations, which are an internal matter, making a regulation 
unnecessary and burdensome. Some commenters also claimed self-
evaluations are redundant since the composition of boards does not 
significantly change. Two expressed concern that the regulatory 
requirement does not specify how board self-evaluations are to be 
conducted, and so may not adequately measure the performance of the 
board. Another commenter expressed concern that the evaluations will 
expose those directors who are slow to catch on or refuse to seek 
training. The FCC characterized the provision as ``arbitrary'' as self-
evaluations alone will not improve a board's effectiveness. They also 
challenged the necessity for the provision based on the actions of 
other regulators, stating they knew of no other regulator requiring 
self-evaluations. They further objected to the provision since no 
recognition of existing safeguards already in place was given, such as 
FCA Standards of Conduct regulations. The FCC contends that without 
this recognition, an implication that ``something more is needed'' is 
made.
    We agree that the institutions should determine the manner of 
conducting self-evaluations, which is why we did not specify the method 
and manner of conducting evaluations. Whatever method is selected, the 
goal of self-evaluations is to help a board identify its strengths and 
weaknesses and improve its own performance, especially in light of 
current and anticipated economic circumstances. Board self-evaluations 
are a tool for boards to enhance their effectiveness and should be 
conducted in a manner that best supports the board's strategic planning 
and oversight responsibilities. In our view, whether or not a board's 
composition changes does not alter a board's performance and does not 
make evaluations of that performance redundant. Even if the board 
composition does not change, the economic circumstances and related 
risks facing each institution change each year, sometimes dramatically. 
We also do not agree that System institution boards should not 
undertake self-evaluations because other regulators do not have similar 
standards; nor do we agree that a regulatory provision is not needed. 
Board self-evaluations are recognized as a best practice and we find 
that board evaluations are a necessary and essential component to an 
institution's strategic plan. Evaluations identifying board strengths 
and weaknesses, opportunities and challenges, and how the board plans 
to address those issues add value to the strategic planning process.
    Commenters stated that regulations on this issue are not necessary 
because FCA already evaluates the effectiveness of management and the 
board in our examination process. These commenters also stated that we 
have the authority to recommend actions when an institution's board of 
directors is not functioning properly without a regulatory provision. 
The fact that we examine a board's effectiveness during an examination 
does not relieve each institution board of the responsibility for its 
own review of its performance. While there are existing safeguards 
present in System operations, none are designed to replicate or obviate 
the need for board self-evaluations as evidenced by the significant 
number of commenters who stated that their institutions are already 
conducting board evaluations. These evaluations are a useful planning 
tool for salaries, board committee membership, training, and other 
areas.
    Other commenters stated that board evaluations do not belong in the 
business plan, but should remain under the control of the board. Some 
of these commenters explained that because the business plan is a tool 
for communicating with senior managers and others, candor in the 
evaluations may be lost. One commenter stated that

[[Page 5748]]

our rule language could be read to be a requirement that the self-
evaluations themselves be included in the strategic plan, expressing 
concern that the value of the evaluations would be lost if widely 
circulated. Others asked us to clarify if the evaluations must be 
included in business plans or if the board can make a general statement 
verifying the evaluations were done. The rule at Sec.  618.8440(b) has 
been modified to clarify that the strategic plan must assess board 
needs based on a review of the annual board self-evaluations. The plan 
does not have to include the self-evaluation itself. We do, however, 
require at Sec.  611.325(c) that a summary of the evaluations be given 
to the institution's nominating committee when requested.
    Thirty-three System commenters expressed concern with the 
requirement that the self-evaluations occur annually. Many suggested 
conducting evaluations every 3 years or, at the most, every other year. 
Others suggested allowing boards to use their discretion to determine 
when and how often self-evaluations are needed. One commenter suggested 
delaying implementation of the rule to give boards time to develop 
meaningful programs, while another explained time was needed to 
implement findings from the previous year. A separate commenter 
advocated a cyclical format instead of a date-specific rule. We 
continue to believe that an annual evaluation is best because it 
coincides with an institution's annual planning and reporting cycle. It 
was for this reason we included consideration of the annual board self-
evaluations as part of the 3-year operational and strategic business 
plan. This combined review is appropriate to ensure a complete 
assessment of the institution's risk environment, its strategic and 
operating plans, and its fiduciary and oversight responsibilities.
3. Outside Directors [New Sec.  611.220]
    In our proposed rule, we referred to recruiting outside directors. 
Several commenters said that System institutions do not recruit 
directors as System institutions must keep a neutral position in 
electing directors. The process for selecting outside directors is not 
subject to the referenced constraints on institution neutrality because 
outside directors are not elected by the voting stockholders but 
appointed by an institution's board. Therefore, referring to 
recruitment of outside directors, as well as conducting recruitments, 
is acceptable. Despite this, we have replaced the term ``recruit'' with 
``select'' in the outside director provision of the rule in response to 
these comments.
    One commenter said our language on outside director eligibility 
could be interpreted as forbidding a current outside director from 
being reappointed for a second term, suggesting we amend the rule to 
state that no candidate for an outside director position may be a 
director of any other System institution. We are not changing our rule, 
but clarify that an outside director may be reappointed for a second 
term as long as he or she has not acquired any of the prohibited 
affiliations with the System beyond that of his or her existing role as 
an outside director for that institution.
a. Expertise and Number
i. Financial Expertise
    We received 161 System comments on requiring an outside director to 
be a financial expert. Thirty commenters agreed with the rule based on 
the current business environment. Commenters agreeing with the rule 
stated, however, the authority of each institution board to decide its 
own needs must be preserved. Most of the commenters disagreed with some 
aspect of the proposed requirements and others requested 
clarifications. Of the comments disagreeing with the provision, 79 
stated there was no need for a financial expert on the board or to name 
any director as an expert. Some commenters considered a financial 
expert as unnecessary, stating boards don't need directors who are 
accountants. Other commenters stated that all directors become 
financial experts during their service on the board or have some 
financial understanding. Additional commenters expressed concern that a 
financial expert may not be suitable as he or she would not be familiar 
with a cooperative lending operation. A few other commenters stated 
that outside directors are needed for other areas of expertise besides 
financial skills, stating we should not restrict the requirement to 
financial expertise. One commenter questioned the value of a director 
expert while others said the requirement ``insults'' existing board 
members. Another commenter stated that a director's duty of care cannot 
be legislated and there is little sound logic in requiring financial 
expertise, while yet another commented that general business expertise 
is more valuable because good directors are generalists. A few other 
commenters stated that having a director with financial expertise is an 
attempt to add a sixth layer of review on financial operations. These 
commenters stated the audit committee, external auditor, and FCA exams 
all serve as reviewers of finances, making a financial expert on the 
board redundant and unnecessary. A separate 13 commenters stated that 
we should not be dictating board composition. Two commenters explained 
that too many specific qualifications cuts out too many good 
candidates. One remarked that because of the cooperative process, it 
will be difficult to find financial expertise in membership, making it 
difficult for elected members to meet our proposed definition.
    We continue to believe that a financial expert is a necessary 
resource for System institution boards given the financial focus of 
System business activities and the increasingly sophisticated business 
environment in which they operate. Having financial expertise available 
within each board broadens the board's collective knowledge, improves 
its independence from management, and promotes its ability to carry out 
its fiduciary responsibilities for System stockholders and investors. 
Boards of directors need financial skills to carry out their fiduciary 
duties, as well as monitor management's reporting and disclosure 
responsibilities and treatment of the institution's assets. Boards must 
have information available to them that is not from the individuals or 
firms producing the financial information being reviewed. A board 
should, from its own resources, be able to question and evaluate the 
reports prepared by accounting firms and management. Regulatory 
examinations are not a substitute for a board's financial management 
and oversight. The safety and soundness of the institution's operations 
directly relates to the financial management of resources. The board's 
oversight of those same resources must come from a knowledgeable base. 
Requiring institution boards to have a financial expert provides a 
necessary, constant on-site source of financial information. We also 
point out that we do not require a board be comprised solely of 
financial experts. System institution boards need a broad mix of skills 
and expertise to adequately carry out their duties and we recognize the 
important contribution each board member makes. We agree with 
commenters that the institution boards are in the best position to 
decide these other areas of need. Therefore, we have changed the rule 
to require that all outside directors have some or all of the desired 
director qualifications identified by each institution's board under 
Sec.  611.210(a) of this rule.

[[Page 5749]]

    Twenty commenters objected to the term ``financial expert'' and two 
others expressed concern that our definition was more restrictive than 
the SEC and not an objective standard. Commenters also stated that no 
other regulator requires a financial expert on the board, asking why 
the System should be subject to a different standard. One of these 
commenters specifically remarked that the SEC only requires disclosure 
of whether there is an expert and does not require there to be one on 
the board. Another commenter questioned whether we had a compelling 
policy reason for requiring board expertise when other regulators do 
not. Another 20 commenters challenged our authority to issue 
regulations on the subject, stating the requirement goes beyond 
statutory requirements as the intent of the Act was to allow the 
institution, not the regulator, to decide what expertise is needed. Two 
commenters stated there was no need for us to interpret or issue 
regulations on board expertise to carry out the Act, nor to look at the 
legislative history of the Act. Many commenters stated that expertise 
may be more valuable to some institutions than to others, so selection 
of an expert should be done without regulatory qualifications. An 
additional 54 commenters suggested that expertise not be limited to 
outside directors, explaining that elected directors should be allowed 
to satisfy the requirement.
    We recognize that other regulators only require disclosure of 
whether there is a financial expert on a registered entity's board, 
with an explanation of why one is not there. We point out that the 
entities subject to these regulations have boards that are 
predominantly composed of company management rather than stockholders. 
This is an important distinction, as these boards are more likely to 
include directors with financial experience due to their dual role 
within the company. Also, the December 2004 Moody's Investors Service's 
``Corporate Governance Assessment: Update'' on the System identified 
the low level of financial expertise among System directors as a key 
area of concern. Our objective is to ensure each board has the tools 
necessary to carry out its oversight of financial reporting 
responsibilities. Thus, we continue to require each institution board 
have a financial expert on, or available to, the board. However, we 
agree that any director with financial expertise should be able to fill 
this role and have amended the final rule by removing the requirement 
that at least one outside director be a financial expert. Instead, 
Sec.  611.210(a)(2) requires that each board have a director who is a 
financial expert as defined in the rule. In consideration of the 
difficulties smaller associations may have in locating available 
director-candidates who satisfy the definition of a financial expert, 
we have given these institutions the alternative of retaining an 
outside advisor. Those institutions with less than $500 million in 
total assets may, at their choice, retain an outside advisor to the 
board who is a financial expert. The financial advisor must report to 
the board and not institution management. Further, the financial 
advisor must have no affiliation with the institution's management or 
its external auditor. We believe this option for small institutions 
provides an acceptable source of financial expertise given the 
institution's size and financial complexity, without compromising our 
efforts to protect the safe and sound operations of the System.
    Two commenters requested we reconcile the definition of financial 
expertise with the term financial expert used for the audit committee 
proposals. Another commenter asked that we reduce the requirement from 
expert to expertise, allowing greater recruitment opportunity. This 
same commenter asked us to define what constitutes financial expertise. 
Ten other commenters requested we define expertise more broadly, with 
seven suggesting we include business experience in the definition. One 
commenter stated our definition was too broad. Another commenter 
suggested expertise should be determined by an association's credit 
quality, capital position or other CAMELS rating factors instead of the 
manner of selection to the board.
    We are modifying our definition of a ``financial expert'' and 
removing the definition of ``financial expertise'' from the audit 
committee provision for banks and associations. We are also removing 
the definition of ``financial expert'' from the outside director 
provision based on other changes to the rule. When proposing the rule, 
we intended the terms to be comparable, but no longer require the 
separate reference in the audit committee section. Instead, we include 
a definition in Sec.  611.210(a)(2) of this rule, dealing with board 
qualifications. This definition replaces the definitions we proposed 
for a second outside director and Farm Credit bank and association 
audit committees. We have also adjusted our proposed definition of 
financial expert by linking expertise to the accounting and financial 
reporting issues that may occur within the individual institution. Each 
institution will now determine who is a financial expert based on its 
own specific financial complexities, resulting in a higher degree of 
expertise for institution's with more complex financial operations. We 
believe the modified definition clarifies that we aren't trying to 
place accountants on the board, but seeking to assure each board has an 
appropriate level of financial expertise available to it. We decline 
the request to expand the definition of ``financial expert'' to include 
business experience because it is not in keeping with our safety and 
soundness concerns. We point out that we have not used this definition 
for the System Audit Committee (SAC). As explained in section V.E.1.b. 
of the preamble, the SAC requires greater financial expertise because 
of its role on behalf of the entire System.
    Twelve comments were made on the impact to board size that would 
occur from requiring an expert director; with 11 stating that incumbent 
directors would have to resign to keep the current board size. Some 
commenters pointed out that by requiring an outside director be a 
financial expert, the proposed small institution exemption for having 
two outside directors is canceled. A further 34 System commenters 
requested the size of the institution be a consideration in making such 
a requirement, suggesting a $500 million threshold. We are not 
providing a small institution exemption to the requirement for board 
financial expertise. Because of the changing nature and increasing 
complexity of the financial services marketplace, we believe all System 
institution boards must have at least one financial expert available to 
it. This promotes an institution's ability to carry out its fiduciary 
responsibilities to its stockholder-owners, helps to ensure the 
institution is functioning in a safe and sound manner, and creates 
greater confidence in a board's ability to exercise its financial 
oversight responsibilities. We also believe the changes we have made in 
who may qualify as a financial expert sufficiently address concerns on 
board size.
    The remaining commenters expressed neither agreement nor 
disagreement for the provision, but remarked on the cost of complying 
with the requirement, questioning the benefit received or explaining it 
would be expensive and difficult for smaller institutions to comply. 
One commenter expressed concern that recruitment may be more difficult 
as the label ``expert'' holds a director to a higher level of safety 
and soundness and most candidates are not willing to assume the higher 
risk, at least not without higher compensation. We recognize that for 
those institutions

[[Page 5750]]

that do not already have some financial expertise on their board this 
may impose some extra cost, but believe the benefits of an added 
financial expert will more than offset the costs incurred. We also 
believe allowing any director to fill this requirement and providing 
smaller institutions the opportunity to use an advisor, as well as the 
change in defining financial expertise, will mitigate some of the costs 
of this requirement, particularly for smaller institutions. Further, we 
do not agree that the requirement for a financial expert increases or 
alters existing board responsibility or liability. Since boards already 
have oversight and financial reporting responsibilities, we see the 
requirement for board financial expertise as an essential cost of doing 
business, a protection of stockholder, investor, and public interests, 
and a means of potentially mitigating board liability.
    One commenter asked us to clarify if this section applies to the 
Funding Corporation. The rule clearly reads that the provision applies 
only to Farm Credit banks and associations. We did not extend the 
requirement for a financial expert to the Funding Corporation because 
the Act already places sufficient expertise requirements on the Funding 
Corporation board.\14\
---------------------------------------------------------------------------

    \14\ Section 4.9(d) of the Act (12 U.S.C. 2160).
---------------------------------------------------------------------------

ii. Number of Outside Directors
    We received 146 letters on our proposal to require institutions 
with more than $150 million in assets to have at least two outside 
directors. Two System commenters agreed with our proposal, stating that 
all System institutions would benefit from increasing the number of 
outside directors. One member of the public supported increasing the 
number of outside directors on the board, stating that 50 percent of 
board members should be members of the public who have no financial 
ties to the System. One commenter asked that we suggest increasing the 
number of outside directors, not mandate it, while another asked that 
we remove the small institution exemption. One commenter asked us to 
explain the benefit of having two outside directors. Another commenter 
asked that the rule allow exceptions to ensure all director terms are 
staggered. One commenter expressed concern that a requirement to have 
two outside directors would create a significant non-elected director 
presence on the board. A couple of commenters stated that we 
arbitrarily picked a number instead of considering the costs and talent 
of existing boards.
    Many commenters disagreeing with the provision stated that 
requiring smaller institutions to increase the minimum number of 
outside directors could be costly, pose recruitment difficulties, and 
dilute the influence of stockholder-elected directors. Most of these 
commenters requested we increase the small institution exemption to 
$500 million, similar to that of other financial regulators. Several 
other commenters suggested a $750 million or $1 billion exemption. A 
public commenter stated the $150 million exemption is too low, that a 
better level would be $1 billion. A System commenter stated our 
exemption was too low, referencing the RFA small entity definition and 
the Federal Deposit Insurance Corporation (FDIC) asset-size criteria. 
The commenter stated the RFA has size categories of $0-100 million, 
$500 million to $1 billion, $1-5 billion, and over $5 billion in 
recognition that one standard is not equitable for all. The commenter 
claimed smaller associations would be penalized if they had to comply 
with the same requirements of a $7 billion institution. A separate 
commenter suggested that we use a percentage of membership rather than 
asset size, explaining only 10 percent of the board should be outside 
directors. Another commenter suggested we have boards comprised of 70-
percent elected directors. A couple of commenters asked us to consider 
the differences among institutions in product and service areas before 
requiring more directors. Two commenters objected to an exemption, with 
one explaining that one small association that is unstable could 
represent more of a threat to the System than a larger institution in 
sound condition. The other expressly objected to a requirement being 
applicable solely because of asset size or loan volume.
    We do not believe that suggesting, instead of requiring, an 
increase in outside directors is sufficient to satisfy our objectives. 
System institutions operate in a rapidly changing economic environment, 
requiring more skills and broader board representation. We are 
convinced that a regulatory requirement for greater outside director 
representation is necessary to preserve the System's safety and 
soundness. However, we agree the proposed $150 million exemption level 
is too low given the costs and recruitment difficulties in smaller 
associations. We adjusted this rule to increase the exemption to $500 
million, specifying that this exemption applies only to associations. 
All Farm Credit banks must have at least two outside directors. We 
selected a minimum number of two outside directors because we have 
observed the positive effect that two outside directors can have in 
System institutions, outweighing the added costs for larger 
institutions. By increasing the small institution exemption to $500 
million, 10 percent of the System's assets are not covered by the 
requirement for a second outside director. We considered the other 
levels suggested by commenters when raising the exemption to $500 
million. We do not believe a $750 million to $1 billion exemption would 
produce significant benefits, especially since a $1 billion exemption 
would exclude almost 75 percent of System institutions. We also do not 
believe using business activity is adequate, given normal business 
fluctuations or current changes in board size. We also do not agree 
with the commenter that suggested 50 percent of the board be members of 
the public. Congress expressly created the System as a cooperative, 
which requires borrower-controlled boards. In addition, no association 
is required to create a second outside director position when doing so 
would reduce the stockholder-elected director membership to less than 
75 percent. For example, an association with over $500 million in 
assets and a five-member board would only have to have one outside 
director. Each Farm Credit bank and association is required by the Act 
to have at least one outside director; our rule is not to be construed 
to allow otherwise.
    Many commenters objected to the proposed change on the basis that 
we exceeded our regulatory authority. One commenter stated that we were 
amending the Act by our rule. Still another commenter stated that the 
Act's sole check on outside directors is that there be one and our rule 
infringes on the flexibility provided by Congress. A commenter stated 
the Act does not direct or allow us to fix the number of outside 
directors. A few commenters questioned whether we had a compelling 
policy reason for taking the determination of board size and 
composition away from institutions. We have sufficient authority to 
regulate the number of outside directors. The Act establishes a minimum 
number of outside directors and directs us to issue rules necessary to 
protect the safety and soundness of the System. As explained above, 
requiring at least two directors of Farm Credit bank and large System 
association boards to be independent of the System is desirable and 
proper given the increasing complexity of today's business environment 
and the size of

[[Page 5751]]

the System institutions that are involved.
    As mentioned earlier, some commenters suggested that only 10 
percent of the board should be outside directors. One commenter 
expressed concern against creating a significant non-elected director 
presence on the board, while another commenter suggested we have boards 
comprised of 70-percent elected directors. We proposed requiring the 
majority of a board be composed of stockholder-elected directors, but 
agree with specific comments on this area that more than a simple 
majority is required to preserve the cooperative structure of the 
System. We are therefore finalizing the provision to require at least a 
60-percent stockholder-elected director board composition.
b. Terms of Service and Removal
    We received 133 letters on the terms of service and removal of 
outside directors. One commenter objected to the terms of service 
provision, stating that it is a matter left to the boards, while the 
remaining 132 commenters objected to requiring a majority vote of all 
voting stockholders to effect removal of an outside director. A few 
commenters expressed concern that removal for cause might conflict with 
the existing requirements of Sec.  611.310(b), which mandates removal 
of any director under events prescribed in that section. One commenter 
agreed with the reasons for removing an outside director outlined in 
the rule, but stated that a rule is not necessary since the Act is 
clear on the issue. Another remarked that if cause exists for any 
director, the director should be removed automatically. The commenter 
explained that the outside director should be subject to the same 
removal provisions as stockholder-elected directors and not be provided 
more protection for wrongdoing. One commenter stated that the board 
should be able to remove any director at will, while another commenter 
asked if we meant a director could not be removed at the end of their 
term absent cause. Still another commenter asked why the System was 
being held to a different standard than the commercial banks.
    We are finalizing the rule without the removal for cause provision. 
The rule requires those institutions seeking to remove a director 
before the expiration of his or her term to document the reason for 
removal. We believe our changes elsewhere in this section, and the 
existing requirements of Sec.  611.310(b), provide sufficient 
protection to the independence of outside directors discussed in the 
preamble to the proposed rule. Moreover, we reaffirm our position that 
the terms of service and basis for the removal of an outside director 
be the same as those for directors elected by the stockholders.
    A significant number of commenters noted that holding a stockholder 
vote for removal could produce a chilling effect, unwanted publicity, 
and possible lawsuits. They remarked that the requirement does not 
advance the cooperative principles of the System and that a regulatory 
requirement is unnecessary. Other System commenters remarked that due 
to the requirement that a director be removed for cause, the further 
protection of a stockholder vote is unnecessary. One commenter stated 
that stockholder votes for removal do not necessarily protect the 
interest of the institution and another commenter stated that any 
stockholder involvement in the removal of outside directors is 
inappropriate under basic cooperative principles. Another commenter 
stated that presenting a director to stockholders for removal and 
having stockholders reject the effort would create unmanageable tension 
on the board. Some commenters noted that the requirement for removal of 
the outside director by stockholder vote was more onerous than removal 
of an elected director, suggesting that removal requirements should be 
similar for both types of board members. A public commenter stated that 
requiring a majority vote of voting stockholders for removal is 
excessive; instead suggesting that removal for cause be done by elected 
directors and that stockholders should be able to remove an outside 
director for any reason. Other commenters pointed out that under 
corporate law the one hiring a director has the authority to fire a 
director. Others suggested requiring a board supermajority vote of two-
thirds, stating it should be sufficient to provide protections against 
unjustifiable removal, while still others recommended a simple majority 
vote of elected directors. One commenter, when discussing their 
objections to the provision, suggested disclosing the reason for 
director removal in the AMIS as a means of accountability to 
stockholders. Many commenters asked us to clarify if we meant a 
majority of stockholders voting.
    We are not withdrawing from the rule the authority of stockholders 
to remove a director. While we agree with commenters that corporate law 
generally recognizes the authority of the hiring official to fire those 
hired, we note that corporate law also recognizes a board gains its 
authorities from the stockholders it represents. However, we agree that 
restricting removal of an outside director to stockholder action in all 
cases may be excessive and could produce undesirable and unintended 
consequences. The final rule allows for the removal of an outside 
director by either stockholder action or by a two-thirds vote of the 
full board of directors. We caution that no institution may forbid 
stockholder action to remove any director, elected or otherwise, nor 
make burdensome procedural requirements on such stockholder action. 
Further, we make it clear that a full board vote includes all 
directors, no matter what their means of selection to the board, except 
for the individual outside director the board is seeking to remove. Any 
director, other than the outside director up for removal, must be 
allowed to vote in the removal action. We are not adopting the 
suggestion that board removals be disclosed in the AMIS.
    In response to several comments, we have clarified in all 
appropriate areas of the rule that voting stockholders mean all voting 
stockholders voting in person or by proxy. We did not intend for the 
proposed language to be interpreted as requiring a majority vote of all 
stockholders eligible to vote, regardless of whether they actually 
voted. However, commenters read the language as requiring such, leading 
to our clarification. We also received one letter from an association 
asking we rescind Bookletter 009 (BL-009) on outside director terms of 
service. We will review, and possibly revise, BL-009 after publication 
of this rule.
4. Board-Selected Inside Directors
    The proposed rule would have created a board-appointed inside 
director position, without requiring an institution to have such a 
position. We received 89 System comments on this provision, with most 
indicating various levels of support, but objecting to limits being 
placed on the position. A minority of commenters objected to creating 
the position, stating it violated the cooperative principles of the 
System and was not needed as the board has enough authority to satisfy 
diversity with current elected and outside director positions. 
Commenters stated that such a position carries a significant cost to 
smaller associations. Commenters supporting the position requested less 
stockholder involvement and more board control in determining board 
composition. Thirty commenters objected to requiring a stockholder vote 
on a bylaw provision creating the position, stating bylaws are the 
prerogative of the board and stockholder

[[Page 5752]]

direct involvement will not further cooperative principles. 
Alternatively, some commenters agreed with a bylaw vote by 
stockholders. Thirty-three commenters asked that the 5-year cooling-off 
period be removed or reduced, with a few suggesting reduced cooling-off 
periods to 1, 2, or 3 years. While many commenters agreed with the 
proposed requirement that the number of appointed inside directors be 
limited to no more than two, others objected to a limitation. Twelve 
comments asked that the position be open to more than just 
stockholders.
    We are not including the board-appointed inside director provision 
in the rule. The System's cooperative nature is designed to ensure that 
the stockholders elect the board, with minority representation from 
appointed directors. We proposed the restrictions on board-appointed 
inside directors as a means of balancing the public policy goal for 
diversity in board representation with the stockholder-controlled 
structure of the System. However, we believe our stated public policy 
purpose of facilitating diversity on institution boards is achievable 
through stockholder action, using existing authorities in the Act, and 
does not require FCA to adopt this provision. In conformance with our 
removal of the proposed board-selected inside director position, we are 
also withdrawing the proposed technical changes on this issue from 
Sec.  615.5230.

C. Election of Directors

1. Director Candidate Campaigns
a. Director Candidate Campaign Material [Sec.  611.320]
    We received 13 System comments, with 10 supporting the 
clarifications we made to our existing rule, explaining the importance 
of institution impartiality in the election process. The remaining 
commenters suggested exceptions to the rule, including allowing 
institutions to pay for one mailing of campaign material on behalf of 
each director candidate and allowing a candidate statement to accompany 
the director election materials, provided all candidates have equal 
opportunity to submit statements. One commenter asked for clarification 
on whether the existing rule allowed associations to pay the expenses 
of its candidates to bank boards. Another commenter asked if releases 
from the impartiality provisions of our rule could be requested from 
candidates, thereby allowing institutions to distribute candidate 
campaign material.
    We final this section of the rule as proposed. We believe the rule 
is clear that no Farm Credit institution is allowed to distribute 
campaign materials, regardless of who bears the expense or the equality 
of access to the opportunity. An institution must also maintain 
neutrality in distributing the director-candidate disclosures required 
by Sec.  620.21. To comply with Sec.  611.320, those disclosures must 
not contain campaign materials, nor may they contain candidate 
statements. The election process must be free from even the appearance 
of an institution endorsing a director-candidate. Institutions are 
stockholder-owned and controlled; therefore, candidate endorsements are 
inappropriate. Additionally, candidates may not be asked to waive the 
requirement for impartiality provisions, nor may an institution pay its 
director-candidate's election expenses.
b. Release of Stockholder Lists [Sec.  618.8310]
    We received 21 System letters expressing concern with 
confidentiality, identity theft, and enforcement in releasing 
stockholder lists to stockholders, even if for permissible purposes. 
Some commenters remarked that without further controls, the recipient's 
agreement to use the list only for permissible purposes is 
unenforceable. One commenter suggested an institution be allowed to add 
conditions to the release of a list, such as requiring its return after 
the need has been met, to protect confidentiality. Another commenter 
stated that it is not in the best interest of all stockholders to 
release the lists without further controls or confidentiality 
agreements because the list could be sold for financial gain. Some 
commenters asked that the requirement be removed entirely. Yet another 
commenter asked that the list not include the classes of stock held, 
explaining it won't make a difference to the requester what type of 
stock is held by others. A separate commenter stated that a stockholder 
list should refer only to voting stockholders, and not all 
stockholders, because banks cannot ascertain what outside institutions 
might be holding their preferred stock at any given time.
    Stockholders have a right under the Act to obtain a list of the 
stockholders in their institution(s). Section 4.12A of the Act requires 
banks and associations to provide a current list of stockholders within 
7 days of the request. Additionally, the Act provides for restrictions 
on the use of the lists, which we further clarified in our rule. We 
continue to believe that the certification a requesting stockholder 
must sign sufficiently addresses the confidentiality and privacy 
concerns raised. Further, because section 4.12A does not distinguish 
between voting and nonvoting stockholders, the rule specifies that a 
list of stockholders consists of each stockholder's name, address, and 
classes of stock held.
    One commenter asked for clarification on who is included in the 
list of Farm Credit bank stockholders. The commenter remarked that 
banks, in providing lists of their stockholders, should also provide a 
list of directors of each association rather than just a list of the 
associations in the district. Section 4.12A of the Act does not require 
a bank to provide a list of their affiliated associations' stockholders 
to a requesting bank stockholder. However, Sec.  620.5(h) requires each 
association to disclose in its annual report the names of all its 
directors. Anyone wishing to obtain these names may request a copy of 
the report from the association.
2. Director Candidate Disclosure [Sec. Sec.  615.5230, 620.20, 620.21, 
620.30, and 620.31]
    We received 33 System letters addressing this provision. Many of 
the commenters objected to standardizing election procedures for banks 
and associations, specifically as it relates to floor nominations and 
the frequency of director elections. A few also objected to the 
perceived requirement that nominating committee reports be disclosed. 
Still others objected to detailed candidate disclosures. Eight 
commenters objected to imposing the election requirements of the AMIS 
on banks, with several suggesting that we reevaluate the need for 
election consistency between banks and associations. One specifically 
objected to requiring banks to accept floor nominations as banks do not 
currently permit floor nominations. The commenter went on to ask that 
if we issue the rule with this requirement, that the rule be reproposed 
and additional comments allowed. Another commenter expressed concern 
that the proposal would limit the open nomination process it currently 
employs. We also received, through our regulatory burden initiative, 
suggestions that we reduce the reporting requirements of the AMIS and 
eliminate requirements linking director elections to annual meetings. A 
commenter stated that the considerable costs in preparing and mailing 
the AMIS are not justified by the marginal benefits derived by 
shareholders.
    We agree, in part, that the banks should not be required to follow 
all of the director election procedures that

[[Page 5753]]

associations follow. As such, we have amended our rule to restore the 
existing floor nomination requirements for associations, but added 
language requiring Farm Credit banks to state in the AMIS whether they 
are allowing floor nominations. We also make clarifications that an 
AMIS must be issued prior to any director elections or any annual 
meeting. We make this change because not all director elections occur 
at the annual meeting, such as interim elections held to fill vacancies 
on a board.
    Eight commenters stated that the full report of the nominating 
committee should not be included in the AMIS because it reveals too 
much of the deliberative process of the committee. We are not requiring 
that the full nominating committee report be released. The rule at 
Sec.  620.21(d)(2) requires a description of the nominating committee 
efforts to locate two candidates; it does not require that the full 
nominating committee report be provided to voting stockholders. It is 
up to the institution to decide the manner in which that information is 
included in the AMIS. We only require distribution of complete 
nominating committee reports to the board of directors in Sec.  
611.325.
    Three commenters objected to candidate disclosure statements being 
included in the election materials sent to voting stockholders, but two 
other commenters supported it. One commenter limited their objection to 
the prohibitive costs involved in complying with the requirement. This 
commenter asked that we keep the existing provision allowing 
associations to summarize candidate disclosures. Although our existing 
rule requires Farm Credit banks to provide complete signed copies of 
candidate disclosure statements, we find the argument regarding the 
prohibitive costs persuasive and are amending our rule to give 
institutions the option of providing complete copies or standardized 
summaries. The rule, however, clearly states that candidate 
disclosures, in full or summary form, must be distributed with the 
ballots.
    Seven commenters expressed concerns on the specificity of candidate 
disclosures, suggesting we limit personal addresses to the town and 
state of residence. One commenter stated that the AMIS should not 
include identification of any candidate's familial relationships 
reportable under part 612. We agree that a candidate's residential city 
and state are sufficient for voting stockholders to consider geographic 
and regional representation. We have replaced the requirement for 
personal mailing addresses with a requirement for the city and state of 
residence. However, we disagree with the commenter requesting no 
disclosure of potential conflicts of interest. Because director 
candidates are seeking a position of trust in representing 
stockholders' interests, this information is clearly within 
stockholders' right to know. This disclosure of possible conflicts of 
interest by candidates outweighs the inconvenience and privacy concerns 
stated by the commenter.
    One comment made under our regulatory burden initiative asked that 
we allow director candidate disclosures to be made in the AMIS or the 
annual report. We are not using this suggestion because annual reports 
and elections do not always coincide. The AMIS updates director and 
financial information provided in the annual report and includes 
candidate disclosure information that may not have been prepared when 
the annual report was published. We believe the AMIS, in order to be a 
valuable source of information for voting stockholders, must contain 
current information. We also make minor technical and grammatical 
changes to this area of the rule due to creating distinctions in 
association and bank election procedures.
3. Nominating Committees [New Sec.  611.325]
    We received a total of 104 System letters on this issue. Generally, 
most commenters supported the need for an open and fair nominating 
procedure; however, comments on how to achieve that objective varied 
widely. The majority of comments focused on bank nominating procedures. 
Commenters focusing on association nominating procedures generally 
sought clarification of existing requirements or modifications to suit 
their particular needs and interests. Other commenters were generally 
satisfied with existing procedures and could see no benefit to the 
proposed changes.
a. Bank Nominating Committees
    Several commenters supported the need for changes in the current 
nominating process for both banks and associations. Many expressed 
dissatisfaction with existing bank nominating procedures, making it 
clear that nominating procedures vary widely from one bank to another. 
Other commenters specifically supported a defined district bank 
nomination process allowing all associations to participate in 
selecting candidates. These commenters asked that the process not be 
too regulated though. Yet others supported current bank nominating 
processes and expressed concern that our rule would place power with 
the larger associations. The FCC stated that the Act does not require 
nominating committees for banks and we should not require such as each 
bank has adopted its own process that ``works well for them.'' Other 
commenters stated that Farm Credit banks should not have to conform to 
the same nominating procedures as associations. Reasons ranged from 
Farm Credit banks not electing directors at annual meetings to banks 
requiring flexibility to choose from several different election 
processes, such as committees selected by the board or nominating 
ballots. Another reason given by commenters was that banks are treated 
differently in the Act so our rules should treat them differently. One 
commenter stated that the current regulations on nominating committees 
were appropriate, remarking that the rule might restrict access to the 
nomination process. Another commenter objected to requiring nominating 
committees for banks, stating the rule would limit all associations 
from participating in nominating candidates. This commenter further 
stated that the rule would put the nominating process in the hands of 
individuals who are not stockholders of the bank and have little or no 
stake in ensuring a highly qualified board. The commenter then asked 
that we craft the rule to make nominating committees permissible for 
banks, not mandatory. One commenter stated we should not require banks 
to use nominating committees at all since commercial banks are not 
required to have them.
    We continue to be convinced that Farm Credit bank nominating 
committees are appropriate and enhance the process for identifying 
stockholders to run for bank director positions. Section 4.15 of the 
Act tasks us to issue regulations governing the election of bank 
directors to assure a choice of nominees for each elective office to be 
filled. Although we crafted our rule in more general terms to allow 
banks some flexibility in bank director nominations, we are concerned 
that an incumbent bank director may run unopposed for re-election 
because there is no central accountability point in the bank nomination 
process. We also note that while the current director nomination and 
election practices of the banks vary, some stockholders in the banks 
may not be given equal opportunity to nominate viable candidates. 
Therefore, the rule requires banks to have nominating committees 
elected by the voting

[[Page 5754]]

stockholders voting, in person or by proxy. We also encourage Farm 
Credit Banks to address the selection of nominating committee members 
to alleviate the concerns about unequal opportunity expressed by some 
commenters.
b. Term and Selection of Committee
    A commenter asked that we not require the selection of nominating 
committees at annual meetings. The commenter stated that the committees 
should be selected at any time, and in any manner, that suits the 
institution. Some commenters requested more than a 1-year term of 
service for nominating committee members as a way to improve efficiency 
for the nominating process; a few suggested staggered terms of 2-3 
years. One commenter also asked that nominating committee members face 
opposition to prevent unwarranted re-nomination and that committees 
receive training. Another commenter remarked that our rule gave very 
little attention to the process of selecting the nominating committee. 
One commenter stated that nominating committee members should be 
eligible to be nominated from the floor.
    We recognize that some banks do not conduct all director elections 
at annual meetings and have removed this provision from the final rule. 
We also removed language from the rule requiring all nominating 
committees to serve for 1 year. This, however, does not relieve 
associations of the requirements of section 4.15 of the Act. Section 
4.15 of the Act requires each association to elect a nominating 
committee at the annual meeting to serve for the following year. We are 
declining to issue rules on the manner of selecting a nominating 
committee or requiring training for committee members. We believe this 
is best left to the judgment of each institution. We note, however, 
that the rule does not prohibit floor nominations for a person's 
candidacy to the nominating committee.
    One commenter stated that the requirement prohibiting elected 
directors to serve on the nominating committee is counterproductive and 
overreaching, particularly at the bank level. One commenter suggested 
that retired board members be allowed to serve on the nominating 
committee. Another commenter stated that we should allow retiring 
directors, who aren't candidates for re-election for the coming year 
but are still serving as directors, be eligible to serve on the 
nominating committee. A few commenters stated that we should allow 
nominating committee members to become director candidates as long as 
they resign from that committee. One commenter supporting the 
restriction on candidates serving on the nominating committee asked us 
also to address the conflict of interest created when family members of 
a candidate serves on the nominating committee.
    We continue to believe that an open and fair nominating process 
must be free of potential conflicts that could result if sitting board 
members serve on nominating committees. A director who is not fully 
retired from the board may not serve on the committee if he or she is 
still a director at the time of service on the committee. In taking 
this position, we are mindful that a ``retiring'' director may decide 
to run again for election to the board. However, a retired board member 
is sufficiently removed from obvious conflicts to serve on the 
nominating committee. We also disagree with suggestions that director 
candidates be allowed to serve on the nominating committee. Nominating 
committee members may not be candidates for director positions during 
the same election cycle. While we understand that a person elected to 
the nominating committee may decide during the course of service to run 
for a director position, it is inappropriate for the person to continue 
as a nominating committee member because he or she now has a conflict 
of interest as well as access to information on other candidates not 
generally available. In such an event, the member has a duty to defer 
candidacy until the following election cycle. We share the concerns of 
the commenter regarding family members of a candidate serving on the 
nominating committee and leave it to each institution's board of 
directors to develop, consistent with our conflict of interest 
regulations, a written policy on this issue.
c. Duties
    One commenter raised concerns that increasing committee duties and 
time commitments will reduce the willingness of stockholders to serve 
on the committee. One commenter expressed concern that the rule would 
prevent stockholders from seeking election due to the nominating 
committee selection process. Another commenter asked that we remove 
restrictions on directors and employees assisting the committee in 
identifying candidates. A separate commenter stated that nominating 
committees should operate independent of institution management. We 
also received a comment stating it is unproductive to require all 
director-candidates to have opposition, especially when no interest is 
indicated. Still another commenter questioned if the committee could 
nominate someone who was unwilling to serve.
    We agree that locating at least two willing and qualified 
candidates for each open board position may be difficult and our rule 
does not require two nominees. Our rule instead requires nominating 
committees to document their efforts when unable to find two nominees. 
We do not agree that the nominating committee selection process will 
deter willing and able candidates from seeking election to the board. 
To the contrary, we believe that the transparency will facilitate the 
efforts of stockholders who might be interested in seeking elective 
office. We also clarify that nominees must be willing participants. A 
nominating committee cannot nominate someone unwilling to be a director 
in the institution. Likewise, nominating committees cannot rely on 
employees of the institution to locate nominees. The provisions of 
Sec.  611.320(b) explain the limitations with respect to the assistance 
that employees may offer the nominating committee.
    Several commenters stated the requirement that nominating 
committees conduct independent evaluations may be impractical or too 
time consuming and some commenters asked that we remove the 
``independent evaluation'' component from the committee's duties. Other 
commenters asked us to clarify how committees are to identify qualified 
candidates, how to determine suitability beyond what is in the Act and 
institution bylaws, and how much information the associations can 
disclose with respect to prospective candidates. One commenter stated 
that requiring the committee to use established qualifications opposes 
the plain meaning of the Act and frustrates Congressional intent. The 
commenter suggested making consideration of desirable qualifications 
set forth in bylaws an option for committees, not a requirement. One 
commenter raised confidentiality concerns if the nominating committee 
is provided detailed candidate information necessary to conduct its 
evaluation process.
    We agree with the commenters concerns regarding the time burden the 
proposed nominating committee duties would create. In response to these 
comments, we have removed from the rule the requirement for an 
independent critical evaluation, instead requiring only an evaluation 
of candidate qualifications. We have also specified that the evaluation 
consider known obstacles preventing a candidate from performing his or 
her duties. We

[[Page 5755]]

clarified that the committees nominate, not seek, individuals who meet 
the eligibility requirements. As to the committee's consideration of 
director qualifications, we do not agree that director qualifications 
defeat the purpose of the Act, especially as the Act provides for 
qualifications to be included in each institution's bylaws. However, we 
modified our rule on director qualifications to express them as 
desirable, thereby clarifying a perceived mandatory requirement. We 
decline to regulate how nominating committees should fulfill their 
duties. While the final rule provides for a pledge of confidentiality 
from nominating committee members with regard to sensitive and personal 
information provided to them in the course of their committee duties, 
we leave it to each institution's board of directors to develop, 
consistent with this rule, a written policy on how best to treat 
sensitive information.
d. Resources
    A few commenters objected to providing nominating committees a copy 
of the current operational or strategic business plan that contains the 
board self-evaluation, noting that it may include confidential 
information. One commenter asked that banks not be required to provide 
a list of stockholders to the committee as it would serve no purpose to 
give the name of an association. Another commenter asked us to define 
``pledge of confidentiality'' for the purpose of providing proprietary 
information to the nominating committee.
    We re-evaluated our reasons for providing a nominating committee an 
institution's business plan, finding the reasons insufficient in light 
of the comments received. We also removed the requirement that 
committee resources be addressed in institution bylaws. While we 
removed these requirements, we continue to require institutions to 
provide a summary of the current board self-evaluation when requested 
by their nominating committee. We also, as a conforming change, require 
institutions to provide their nominating committees their director 
qualifications policies.

D. Conflict of Interest and Compensation Disclosure [Sec.  620.5]

1. Disclosure of Other Business Interests
    Three commenters opposed requiring senior officers to make the same 
disclosure of other business interests as is currently required by 
directors. Other comments indicated no objection to the provision, 
although one commenter questioned the need for a regulatory 
requirement. Another commenter asked for clarification on whether 
unpaid positions with other businesses would have to be disclosed. The 
three commenters opposing the change stated the disclosure was an 
impingement on the privacy rights of directors and senior officers and 
we had not claimed a failure to make such disclosures put stockholders 
at risk. The commenters stated the disclosure provision provided no 
valuable information to stockholders and was redundant of other 
reporting requirements. One commenter stated the Standards of Conduct 
Officer reports any such business interests so a regulation requiring 
public disclosure does not improve the process in any way.
    We are making no changes to this provision of the rule. In 
proposing this provision, we considered the reporting requirements of 
part 612 and the specific business interests that could create a real 
or potential conflict of interest. We also looked to the reporting 
requirements of other regulators. We concluded that directors and 
senior officers, who represent stockholders in a position of trust and 
who voluntarily seek this position, have an obligation to disclose 
other business interests that may present real or perceived conflicts 
of interest. Whether a position is paid or not does not remove the 
potential conflict of interest. Therefore, both paid and unpaid 
business affiliations must be disclosed.
2. Disclosure of Compensation
    Eight commenters agreed with reporting director compensation for 
serving on a board committee. We received no comments in disagreement 
with this aspect of the rule. We final this provision as proposed.
    One commenter suggested we require the disclosure of business 
expenses to facilitate stockholder evaluation of the value of services 
received. One commenter remarked that travel expenses are not 
compensation. We are not changing the rule in response to these 
comments. We did not propose changes to disclosure of business or 
travel expenses, but will take the comments under advisement.
a. Noncash and Third-Party Compensation
    We received a total of 82 comments on this provision of the rule. 
One commenter supported the provision while another requested we 
maintain the ``status quo.'' Most System commenters disagreed with the 
general provision on noncash disclosure and one expressed concern that 
disclosure of this type of compensation may become a deterrent to 
directors and officers in their interactions with borrowers and 
constituents. Many commented that existing regulations are fine and 
others commented that this level of reporting is burdensome and not 
cost efficient. Two commenters opposed this provision because noncash 
compensation is a small percentage of an association's overall budget 
and therefore does not require detailed disclosure. Two commenters 
remarked that a rule provision of this nature would create a negative 
impression and three others commented that the provision was 
unacceptable and unnecessary for stockholder disclosure. One commenter 
asked for justification based on safety and soundness needs. Two other 
commenters stated that we should be consistent with Sarbanes-Oxley and 
another two commented that this type of reporting puts the institution 
at a competitive disadvantage.
    Nineteen commenters requested clarification of what we consider 
noncash compensation and when disclosure is necessary. One commenter 
asked how this level of disclosure would enhance transparency. A 
separate 16 commenters requested we only require disclosure of 
compensation received directly from the reporting institution, 
eliminating the third-party provision. Another 11 commenters questioned 
the need to report reimbursed expenses, under the assumption that 
third-party payments are reimbursed by the employing institution or 
absorbed by the third-party as a business expense. Many commenters 
questioned why reimbursed expenses would be considered compensation. 
Forty-six commenters requested we restore some threshold level for 
noncash compensation reporting to eliminate burdensome reporting of 
minor noncash items, such as the receipt of a cup of coffee. Two 
commenters suggested $1,500-$5,000, six others requested a level not 
tied to overall compensation received, one commenter requested a 
threshold amount based on an inflation-adjusted dollar minimum and 
another commenter suggested a materiality standard for noncash 
compensation disclosure. Eleven other commenters requested we base the 
interpretation of what constitutes compensation on Internal Revenue 
Service (IRS) rules.
    We do not consider reporting noncash compensation a deterrent to 
normal interactions with borrowers and constituents, but important to 
prevent improper or excessive exchanges of noncash items. We also do 
not believe

[[Page 5756]]

that it creates a negative impression but validates the integrity of 
System directors and senior officers. Section 514 of the 1992 Act 
recognizes the benefits when directors, officers and employees of the 
System disclose financial information and potential conflicts of 
interest. The 1992 Act further requires FCA to ensure our regulations 
provide adequate disclosures to stockholders and other interested 
parties. Despite the cost and related reporting burden, both the need 
for transparency and the need to avoid potential conflicts of interest 
require that noncash compensation above a de minimis level be 
disclosed, notwithstanding the relatively small share it represents in 
an institution's overall budget. We also note that Sarbanes-Oxley 
contains no salary disclosure provision, but addresses stock and stock 
option compensation.
    We agree that a reporting threshold would alleviate most of the 
anticipated reporting burdens and modified the rule to restore a 
threshold for reporting noncash compensation. The $5,000 annual 
aggregate dollar threshold applies to director disclosures and senior 
officer perquisite reporting. We discuss perquisite reporting in 
section V.D.2.d.ii. of this preamble. We are not including any 
adjustments for inflation at this time since the threshold is set at 
the upper limit of the range suggested by commenters.
    We agree that adopting an IRS definition of compensation would 
provide consistency and facilitate recordkeeping. The IRS defines 
noncash compensation as a fringe benefit or perquisite. The IRS 
considers fringe benefits as compensation, unless the employee pays the 
market value of the benefits or the benefits are specifically excluded 
from income by law.\15\ Under IRS rules, the provider of the benefits 
does not have to be the employer, but may be a client or customer of 
the employer; so a System institution would be deemed to be the 
provider of a benefit given to a director or senior officer if it is 
given for services performed on behalf of the institution.\16\ We 
selected the IRS rules instead of a materiality rule because IRS rules 
add a greater level of clarity on third-party compensation. Similar to 
the IRS rules, our rule requires reporting as compensation the value of 
gifts, unreimbursed payments of trips, or use of property received from 
third parties, which are made to directors and senior officers for 
acting in their official capacity with the institution. We believe that 
disclosure of cash and noncash compensation and compensation from 
third-parties increases transparency and helps ensure that directors 
and senior officers are not unduly influenced. This provision was not 
generated out of a concern for the integrity of System directors and 
senior officers, but was designed to address the unwitting acceptance 
of items and how the receipt of such items may be perceived as a 
conflict of interest, adversely affecting shareholder and investor 
confidence. Accordingly, we are retaining the requirement for inclusion 
of third-party compensation. We also clarify that compensation is any 
unreimbursed item, as it would not be compensation if the employee 
reimbursed the institution or third-party.
---------------------------------------------------------------------------

    \15\ See generally 26 U.S.C. 132.
    \16\ 26 CFR 1.61-21(a)(5).
---------------------------------------------------------------------------

b. Stock and Stock Options
    We received 31 comments on reporting stock and stock options in the 
annual report. One commenter supported disclosing of all sources of 
compensation. Other commenters disagreed with the provision; stating 
the System does not compensate management or directors with stock. One 
commenter neither agreed nor disagreed with the provision, but 
suggested placing a restriction on the issuance of stock and stock 
option compensation instead of creating a disclosure program. Eight 
other commenters asked us to remove the provision and a separate nine 
stated they were unaware of any stock compensation. Seven commenters 
stated that System institutions are not able to use stock or stock 
options to compensate staff and one commenter expressed the opinion 
that it was inappropriate for us to include this provision given the 
cooperative nature of the System. Four commenters asked us to clarify 
why we included this provision in the rule, with several suggesting we 
require disclosure only where stock or stock options are actually 
received.
    We are not requiring a specific disclosure of stock or stock 
options in the final rule. We had proposed the specific disclosure to 
address situations where bank and association officers serve, in their 
capacity as institution officers, on the FAMC board. The Act requires 
the FAMC board to consist, in part, of five directors elected by 
stockholders of System institutions (banks and associations). These 
individuals serve on the board of FAMC as representatives of the System 
and FAMC compensation of its board members has included stock and stock 
options. We are satisfied that the reporting of any other business 
interest of directors and senior officers, which would include 
reporting service on the FAMC board, clarifies the reason for the 
enhanced disclosure and achieves the stated objectives of the original 
proposed provision. However, we clarify that any stock or stock option 
received as part of a compensation package from the reporting 
institution would be considered noncash compensation for purposes of 
our rule. We strongly encourage banks and associations to inform 
stockholders of the availability of FAMC compensation information and 
that such compensation may include stock or stock options in FAMC. We 
believe that a Farm Credit bank or association making this type of 
disclosure for affected directors and officers would satisfy the intent 
of the 1992 Act disclosure requirements and our policy concerns.
c. Chief Executive Officer (CEO) Compensation Threshold
    Ten commenters supported removing the $150,000 CEO compensation 
disclosure threshold. Six other commenters specifically opposed the 
removal of the reporting threshold for CEO compensation without further 
explanation. We found no basis for retaining the $150,000 minimum 
reporting limit and final the rule as proposed. All institutions must 
report their CEO's compensation, regardless of the amount.
d. Senior Officer Compensation Disclosure
(i) Individual Compensation Disclosure
    We received 198 letters addressing individual senior officer 
compensation disclosure, with all but one opposing all or part of the 
provision. One member of the public supported the requirement, stating 
it was time System institutions provided full disclosure. The FCC 
stated that the existing regulation already requires disclosure of 
individual compensation information to stockholders upon request. They 
commented that we referenced disclosure as a best practice without 
explaining why it is a best practice, indicating that the SEC requires 
officer compensation disclosure for publicly traded companies because 
management also serves on the boards of these companies. These board 
members are in a position to influence board approval of compensation 
arrangements, which the FCC asserts does not apply to System 
institutions.
    A few commenters remarked that the aggregated reporting enabled 
stockholders to determine a ``ballpark range'' of salaries. One 
commenter

[[Page 5757]]

stated we were imposing Sarbanes-Oxley on institutions in a ``misguided 
attempt'' to satisfy others. Two commenters remarked that aggregate 
disclosure was sufficient as it enables the boards to evaluate the 
institution's operating rate and cost structure. They stated that 
individual compensation disclosure is not meaningful and its potential 
value to stockholders and investors is not strong enough to override 
the privacy and confidentiality interests of those individuals whose 
compensation would be disclosed in a public report. Some commenters 
stated that individual disclosure would be especially burdensome for 
associations. Still others commented that the information would be 
misused or misstated, would give competitors an edge, enabling them to 
lure away valuable employees, or would create employee dissatisfaction 
issues.
    Another commenter asserted that such individual disclosures would 
compromise the CEO's ability to differentiate salary at the management 
level. Other commenters added that individual disclosure would serve no 
purpose other than to create distractions, animosity, and jealousy 
among employees. One commenter requested we consider how disclosure 
would interfere with the board and management prerogatives as well as 
individual privacy interests. Other commenters stated that individual 
reporting disclosure would impinge on the privacy rights of senior 
officers, presenting opportunities for outsiders to distort the 
information for their own benefit and purposes. Still other commenters 
stated they did not understand why we would require greater disclosure 
to the public when the public has no legitimate business purpose for 
the information. Several commenters stated that we can deal with any 
safety and soundness concerns regarding senior officers' salaries 
through our examination and enforcement functions. Another commenter 
asserted that concerns over the amount of compensation paid to senior 
officers are for the boards to handle, not us, but that we could note 
our concerns during the examination process. Some commenters stated 
that if we were to proceed with individual disclosures that it should 
be limited to the five most highly compensated senior officers or to 
follow the SEC compensation disclosure rules. Some of these commenters 
suggested instead that the current threshold for individual disclosure, 
as in the case of the CEO, should be extended to the other senior 
officers. One commenter stated that if we proceeded with individual 
disclosure we should set a dollar threshold, suggesting $150,000.
    We are withdrawing this provision of the rule and restoring the 
existing aggregate disclosure of senior officer compensation. We 
instead clarify that the existing requirement for aggregate reporting 
includes all senior officers, plus those officers (who are not senior 
officers) receiving among the five highest levels of compensation. The 
former rule's use of the phrase ``at a minimum'' may have been read to 
permit reporting the top five officers' aggregated compensation instead 
of all senior officer aggregated compensation and any additional 
officers whose compensation was one of the five highest paid. As 
explained in the 1986 rulemaking,\17\ this portion of the rule was 
intended to address oversights in reporting that may have resulted from 
a highly paid officer functioning as a senior officer but not having a 
formal designation as such. We are also amending the means of 
determining which other officers are included in the senior officer 
aggregate based on comments received. Institutions will be required to 
include in the senior officer aggregated compensation report any other 
officer receiving a compensation package that is among the five highest 
paid, not the five highest paid officers. This is different from the 
former rule because it focuses on the dollar amount, not the number of 
officers, as requested by many commenters. We believe tying the level 
of aggregated reporting to the compensation paid, instead of a number 
of officers, alleviates past questions regarding which other officers 
are included in the senior officer compensation report when more than 
five receive the same amount of compensation. We did not go as far as 
the commenters asked by setting a dollar threshold for the aggregation 
as we are mindful of compensation variances based on locality and 
institution business volume.
---------------------------------------------------------------------------

    \17\ 51 FR 2136, June 12, 1986.
---------------------------------------------------------------------------

    Although we are withdrawing the provision on individual 
compensation disclosure, we continue to believe that reporting 
compensation improves transparency. The objective of this type of 
disclosure is to provide stockholders with information to assess 
whether senior officer compensation is appropriate in view of the 
institution's financial condition and to hold the board accountable for 
the level of compensation paid to its senior officers. We may therefore 
reconsider the viability of aggregated compensation reporting in future 
rulemaking.
    The FCC stated that we had an opportunity to impose detailed 
disclosure requirements following passage of the 1992 Act yet did not 
do so. They stated that we failed to impose such requirements following 
passage of the 1992 Act, even after we had studied Congressional 
statements associated with that legislation. We maintain our 
prerogative to change the reporting and disclosure requirements when we 
determine there is a need. As explained in section IV.C. of this 
preamble, our authority to promulgate rules is not limited to those 
that respond to particular Congressional mandates, such as the ones in 
the 1992 Act. In addition, Congressional mandates do not become 
inapplicable after the passage of time. We also note that we made 
changes to our disclosure rules after passage of the 1992 Act. In 1993 
we proposed individual senior officer compensation disclosures to 
satisfy the objectives of section 514 of the 1992 Act. The 1993 
proposed rule was intended to benefit System stockholders by providing 
them with senior officer compensation information comparable to that 
available to stockholders of other financial institutions. However, 
based on System objections to the 1993 proposal, we limited individual 
compensation disclosure to CEOs, while providing individual senior 
officer compensation disclosure on shareholder request.
    Forty-six commenters specifically opposed disclosure of senior 
officer compensation in the annual report instead of in the AMIS, while 
nine commenters supported this change in disclosure locations. A few 
commenters stated that the AMIS provides controlled disclosure to 
stockholders as opposed to the annual report which is used as marketing 
or promotional material. The FCC stated that disclosing compensation in 
the annual report does not improve the quality of the disclosure and 
that the purported benefit of consistency between the Farm Credit 
banks, which report such information in their annual reports, and the 
associations ignores the critical distinctions in the composition of 
the banks' and associations' respective stockholder groups. They also 
remarked that the commercial banks do not provide the information in 
their annual reports but in proxy statements filed with the SEC.
    In conformance with withdrawing the proposed disclosure of 
individual senior officer compensation, we do not final some of the 
proposed changes at Sec.  620.5(i)(2) regarding the location of senior 
officer compensation disclosure. Specifically, we retain the existing 
provision allowing associations the

[[Page 5758]]

option of reporting senior officer compensation in the AMIS instead of 
the annual report. We are, however, clarifying that the AMIS must be 
available for public inspection at the reporting association's offices. 
The AMIS is required to be available for public inspection under our 
existing rule at Sec.  620.2(a) and to avoid confusion of AMIS 
availability, we require that associations state in the annual report 
that the AMIS is available for public inspection.
    A number of commenters stated that the current regulation already 
provides for disclosure of individual compensation information to 
stockholders upon request, and that it is not burdensome for 
stockholders to make such requests. In conformance with withdrawing the 
proposed disclosure of individual senior officer compensation, we do 
not final some of the proposed changes at Sec.  620.5(i)(2)(iii). 
Specifically, we keep the existing provision requiring disclosure of 
individual senior officer compensation to requesting shareholders. We 
are, however, removing the $50,000 threshold for making these 
disclosures. One commenter had recommended we raise the reporting 
threshold for disclosure of any individual senior officer's 
compensation upon request by a stockholder to $60,000 from $50,000 to 
keep pace with current market wages. We are not raising or keeping the 
threshold. Although the public disclosure requirement for individual 
senior officer compensation is limited to CEOs in the final rule, we 
continue to believe that it is important for stockholders of reporting 
institutions to have access to individual compensation information of 
their senior officers without restriction. Therefore, the required 
disclosure statement in the annual report or the AMIS (if the 
association chooses) is modified to require institutions to disclose to 
requesting stockholders the compensation information for any individual 
senior officer and any other officer included in the aggregate. We take 
this opportunity to emphasize that institutions may not question the 
reason for a request of individual senior officer compensation, nor 
record the request in the shareholder's files. Institutions must 
promptly provide the information to their shareholders without any 
contingencies or undue delay.
(ii) Senior Officer Perquisites
    Ten System commenters opposed lowering the reporting level for 
perquisites from $25,000 to $5,000. One commenter stated that the 
disclosure for perquisites was inconsistent with Sarbanes-Oxley and 
requirements for other corporate lending institutions. A second 
commenter stated that the disclosure of perquisites should be included 
in the aggregate for all senior officers. As stated in the proposed 
rule, perquisites by their nature are nominal privileges and benefits. 
As such, we believe the $5,000 disclosure level for the reportable loan 
transaction threshold at Sec.  620.5(j) is a reasonable level. Due to 
our withdrawing the reporting of individualized senior officer 
compensation, the reporting of perquisites continues to be reported in 
the aggregate and listed separately from salary, bonus and other 
compensation. We also note that reporting senior officer perquisites is 
consistent with SEC reporting requirements.

E. Audit and Compensation Committees

1. Audit Committee
a. Bank and Association Audit Committees [Sec.  620.30]
    We received 150 comment letters on this provision. Several 
commenters supported audit committees for banks and associations, but 
expressed objections to certain aspects of our rule. One commenter 
remarked that higher auditing standards are needed within the System to 
avoid accounting problems experienced by other GSEs.
i. Chairmanship
    We received 140 comment letters opposing the requirement that a 
director with financial expertise serve as the audit committee's chair. 
These commenters stated that the board or the audit committee should be 
free to designate its own chair, with one commenter explaining that a 
board might logically name the director with the most financial 
expertise as chair but should have the flexibility to do so. Another 
explained that they like to rotate their committee chairs and our rule 
restricts their ability to do so. Another commenter stated that putting 
an outside director in the chairmanship position lessens the director's 
independent perspective. One commenter stated that the authority for 
the committee to hire experts negated the need for the director with 
expertise to chair the committee. Many commenters said it was 
unreasonable to equate financial expertise with the ability to serve as 
an effective chair, particularly if the financial expert is new to the 
institution. Still others explained that leadership skills, past 
experience, knowledge of institution operations and lending activities, 
and history of service on the board may be more useful qualities for an 
audit committee chair than placing a new director with financial 
expertise in this position. These commenters further stated that 
removing a financial expert from the chairmanship would not limit his 
or her involvement in the committee's activities or restrict his or her 
ability to present contrary views. Other commenters suggested that we 
require a financial expert serve on the audit committee, without 
requiring him or her to be the chair. A few commenters remarked that 
there was no need for a financial expert as all committee members were 
being required to have some level of financial knowledge.
    We agree that chairing the audit committee may require other skills 
or experience beyond financial expertise. We are therefore amending the 
rule to only require that any director identified as a financial 
expert, as defined in the rule, serve on the audit committee. This 
director does not have to chair the committee, but should not be 
automatically excluded from doing so. We believe this change to the 
rule addresses all the comments without compromising a financial 
expert's role on the committee. We further require any financial expert 
adviser, retained by smaller associations under Sec.  611.210(a)(2), 
serve as adviser to the institution's audit committee. We believe it is 
important for a board's financial expert, whether drawn from a director 
or contracted adviser, be available to the institution's audit 
committee. The final rule does not require outside director 
participation on the audit committee. Elsewhere in the rule, we removed 
the requirement that an outside director be a financial expert. 
Continuing to require an outside director to serve on the audit 
committee, combined with the requirement that committee members have a 
level of financial knowledge, would, in effect, still require 
institutions to appoint a financial expert as an outside director.
ii. Association Exemption
    Twelve commenters objected to requiring audit committees for 
associations, stating that we are interfering with the authority of the 
board of directors to establish board committees and determine 
committee composition and structure. One commented that associations 
should have the ultimate discretion to determine what committees they 
have and how they are staffed. Another commenter requested a small 
institution exemption from the audit committee requirement of $500 
million on the basis that other regulators have similar

[[Page 5759]]

exemptions and the requirement is unduly burdensome for small 
associations.
    We are not providing an exemption for small institutions. As 
explained in the proposed rule, requiring the establishment of audit 
committees and identifying basic composition is necessary to the safe 
and sound operations of System institutions. The increasing size, 
complexity, and sophistication of today's financial markets and the 
pivotal role the board of directors and its audit committee has in 
ensuring accurate oversight and reporting to stockholders, investors, 
and the public make certain basic operating practices essential.
    Two commenters stated that the full board should be able to 
function as the audit committee. One commenter stated that each 
stockholder-elected director must fulfill his fiduciary responsibility 
with regard to auditing issues and objected to a ``separation of 
duties'' whereby only a few directors serve on an audit committee that 
would operate autonomously. Our rule establishes a minimum size, not a 
maximum, making it possible for an entire board to serve as the audit 
committee. We caution the institutions considering this approach that 
larger committee membership may reduce the efficiency and effectiveness 
of the committee. The committee, all of whose members should have some 
level of financial knowledge, is responsible for overseeing the 
financial statements of the institution, among other duties. These 
specific, and potentially complex, duties may require smaller group 
discussions than what may be achieved with an entire board. The audit 
committee does not function independently of the board, but functions 
under a board charter and reports to the board on a regular basis.
iii. Knowledge, Duties, and Resources
    Fourteen commenters opposed requiring all audit committee members 
to be knowledgeable in financial matters. Some commenters instead asked 
that most committee members have this knowledge, suggesting it might be 
difficult to find qualified board members to adequately staff the audit 
committee. One commenter cited the OCC, explaining that they do not 
require commercial banks to have directors with financial expertise 
unless the bank has $3 billion or more in assets. To perform its 
duties, audit committee members must be knowledgeable in at least one 
of the areas cited in the rule. We agree that some institution 
directors, upon election or appointment to the board, might not have 
sufficient financial knowledge to serve on an audit committee. This is 
one of the reasons we are requiring institutions to establish a 
director training policy. Institution directors lacking sufficient 
financial experience should receive training so they might serve on the 
audit committee.
    Two commenters disagreed with requiring a supermajority vote of the 
board of directors to deny an audit committee's request for resources. 
The commenters said that the board should decide what level of approval 
was needed for this purpose. While we believe that the board should 
have a check on audit committee spending, we believe the committee 
should have sufficient autonomy to carry out its duties. A 
supermajority vote by the board prevents abuse but ensures the 
committee's access to needed resources.
    Other commenters asked that we change the duties of the committee 
from having oversight over the preparation of financial reports to one 
of a review function. We disagree; part of the board's oversight and 
fiduciary duty is to assure stockholders that financial reports are 
subject to review by the board or its committee, independent of 
management. This function is delegated to, and conducted by, the audit 
committee, which has a special set of skills for dealing with financial 
audits. A simple review would not discharge all of the board's 
responsibility regarding financial reporting to stockholders, 
investors, and the public in general. Therefore, we make no change in 
the final rule dealing with the required statement by the audit 
committee that financial statements were prepared under its oversight.
    As a technical change, we are reorganizing into paragraphs the 
provisions regarding audit committee oversight of the external auditor.
b. System Audit Committee [Sec.  630.6]
    We received three comment letters on our provision dealing with the 
System Audit Committee (SAC). Generally, the commenters discussed the 
structural and operational changes to the existing SAC that the 
proposed rule would have required. One commenter remarked that Funding 
Corporation board members are financially literate but there is no 
assurance that the board will have a financial expert as defined by the 
SEC. Another commented that requiring audit committees to be comprised 
of members from a board of directors may work for individual System 
institutions, but not for the SAC. The SAC requires broader 
representation and greater financial experience due to the unique role 
it plays in representing the interests of all System institutions and 
in organizing financial statements on behalf of the entire System. We 
agree that an audit committee at the System-wide level need not be 
composed solely of Funding Corporation board members. Therefore, we are 
not adopting the proposed requirement that the SAC be comprised 
entirely of members of the Funding Corporation's board. However, a 
System-wide audit committee should include representation from the 
System and we are modifying the membership requirements for the SAC to 
require at least one-third of the SAC members be from the System. When 
calculating the number of required System representatives, fractions of 
0.5 or more should be rounded up to the nearest whole number. For 
example, one-third of a five-member committee equals 1.66 members, so 
there would have to be two System representatives on a five-member SAC.
    We also remove the requirement that a Funding Corporation outside 
director serve on the SAC. However, the SAC must have at least one 
financial expert. Unlike bank and association audit committees, the 
expert must chair the SAC. Because the SAC membership is not restricted 
to the Funding Corporation board of directors, the same recruitment 
issues leading to our changing this aspect of the rule for banks and 
associations do not arise. We believe that since the SAC assists in 
setting the reporting and disclosure standards for the entire System, 
it should have broader representation from System institutions and 
deeper and broader financial knowledge and experience than other System 
institution audit committees. We also retain the definition of 
financial expertise used in the proposed rule. This definition is less 
restrictive than that used by the SEC as it allows for experience in 
either internal controls or in preparing and auditing financial 
statements, but not both. Given this less restrictive definition and 
the significant responsibilities of the SAC, we believe the requirement 
that the financial expert chair the SAC is both prudent and 
appropriate.
    As a technical change, we are reorganizing into paragraphs the 
provisions regarding audit committee oversight of the external auditor. 
We also make minor technical and grammatical changes because of changes 
made to the SAC composition.
2. Compensation Committee [Sec. Sec.  620.31 and 630.6]
    We received 125 System comment letters on the requirement for 
compensation committees. Of these, 11 commenters supported the 
provision; 43

[[Page 5760]]

commenters expressed opposition to a regulatory requirement for a 
compensation committee; and the rest of the commenters suggested 
revisions to the rule without expressly agreeing or disagreeing with 
it. Commenters opposed to this requirement stated that each institution 
should have the discretion to determine what board committees are 
necessary. Some stated that their institution already provides adequate 
oversight to compensation packages. Some expressed the view that the 
entire board is responsible for compensation and should not be forced 
to delegate that duty. Other commenters stated that the best practice 
is to have compensation committees responsible for communicating 
policies and strategies, not making decisions. We are not changing the 
requirement that all institutions have compensation committees. While 
we agree that System institutions should have broad discretion to 
manage their internal affairs; we also believe that System institutions 
need to comply with certain standards facilitating safety and soundness 
and promoting the cooperative principles of user control and 
accountability.
    One hundred and one commenters requested we not require 
compensation committees to set or approve senior officer compensation. 
They stated that the CEO is responsible for setting the compensation of 
senior officers and the committee's approval would undermine the CEO's 
authority. The commenters also stated that such a requirement would 
compromise the ability of the board to hold the CEO accountable for 
hiring and promoting officers. These commenters stated that such a 
requirement could result in the committee members evaluating the 
performance of senior officers, instead of the CEO. One commenter 
stated that individual pay packages for senior managers should remain 
the prerogative of the CEO. Another commented that although 
compensation committee salary reviews may be a best practice, we have 
gone farther by requiring the committee to approve compensation paid. 
The commenter stated that the committee should determine their own 
level of involvement in monitoring the activities of the CEO. Yet 
another commenter stated that the provision weakens governance by 
blurring the line between the board and CEO in compensation matters. 
Five commenters requested the committee's authority be limited to 
reviews and recommendations, with approval authority reserved for the 
full board. The commenters remarked that this change should provide 
sufficient oversight of the CEO in his administration of the 
institution's compensation program.
    We are persuaded by the commenters that control over individual 
senior officer compensation is better handled by the CEO. However, we 
continue to believe the compensation committee must take an active role 
in monitoring compensation. Therefore, we are modifying our rule to 
require the compensation committee approve the overall compensation 
program for senior officers. We believe this modification strengthens 
governance and provides a clear distinction between boards and CEOs in 
compensation matters. We believe the rule provides institution boards 
with sufficient flexibility to delegate or apportion many of these 
compensation matters in ways that they deem most appropriate.
    A few commenters asked for a small institution exemption, noting 
that small institutions with few employees should not be required to 
have a compensation committee. We disagree and are not providing a 
small institution exemption. We continue to believe that a well-defined 
compensation program, administered by a qualified, objective board 
committee will ensure that institutions have the needed structure for 
this important function, regardless of their size.
    Three commenters stated that they already had committees performing 
these functions but with different committee names, such as the 
executive committee or human resource committee. These commenters 
requested that the final rule allow deviations from the proposed 
committee name. We are not changing the rule because the rule does not 
require the committee be named a ``compensation committee.'' A board 
committee performing the duties of the compensation committee, with a 
charter that satisfies committee requirements may fill the role of a 
compensation committee, even though it has a different name.

VI. Miscellaneous

1. Bank Director Compensation [Sec.  611.400]

    We asked for comments on whether we should change our existing 
regulation allowing a waiver of the statutory limit on Farm Credit bank 
director compensation. We did not propose changes to our existing rule, 
but asked whether we should retain, reduce, increase, or remove the 
current regulatory 30-percent waiver amount and at what level we should 
remove the authority of Farm Credit banks to exercise the waiver 
without prior submission to FCA. We also sought comment on what 
constitutes an appropriate exceptional circumstance.
    We received nine System letters and one letter under our regulatory 
burden initiative on this issue. All commenters supported an increase 
in the compensation cap because of increased governance 
responsibilities, the changing legal climate, heightened standards of 
accountability, and recruitment difficulties. None offered suggestions 
on the appropriate amount or exceptional circumstances needed to 
trigger the waiver amount. The FCA Board reviewed the comments 
submitted and on December 15, 2005 issued Bookletter 051 to increase 
the maximum bank director compensation to $45,740.

2. Implementation Date

    We proposed a 1-year delay in the implementation date of the rule 
in two areas: A director who has financial expertise and a second 
outside director. Two commenters urged us to consider extending 
implementation beyond 1 year. However, many commenters noted that their 
respective institutions were already in compliance with many of the 
provisions of the rule. We are not extending the 1-year implementation 
date but are changing the areas where it applies. We delay for 1 year 
the board composition requirements on financial experts (Sec.  
611.210(a)(2)) and additional outside directors (Sec.  611.220(a)(2)(i) 
and (ii)). We also delay for 1 year the nominating committee 
requirement (Sec. Sec.  611.325 and 620.21(d)(2)) for Farm Credit banks 
only. All other provisions require compliance by the effective date of 
this rule.

3. Other Comments Received

    We received two comments that fall outside the scope of this rule. 
One commenter requested we revisit the intent and effective result of 
our cumulative voting regulations. The commenter stated that as 
institutions grow in size the effect of cumulative voting may produce 
the opposite of its intended purpose and larger associations 
effectively control the outcome of bank elections under this process. 
The second commenter requested we modernize our regulatory framework 
and the Act because it is necessary for the System to be able to meet 
the changing capital needs of rural America. We will consider these 
comments in our regulatory burden initiative.

[[Page 5761]]

VII. Regulatory Flexibility Act

    Pursuant to section 605(b) of the Regulatory Flexibility Act (5 
U.S.C. 601 et seq.), FCA hereby certifies that the final rule will not 
have a significant economic impact on a substantial number of small 
entities. Each of the banks in the Farm Credit System, considered 
together with its affiliated associations, has assets and annual income 
in excess of the amounts that would qualify them as small entities. 
Therefore, Farm Credit System institutions are not ``small entities'' 
as defined in the Regulatory Flexibility Act.

List of Subjects

12 CFR Part 611

    Agriculture, Banks, banking, Rural areas.

12 CFR Part 612

    Agriculture, Banks, banking, Conflicts of interest, Crime, 
Investigations, Rural areas.

12 CFR Part 614

    Agriculture, Banks, banking, Foreign trade, Reporting and 
recordkeeping requirements, Rural areas.

12 CFR Part 615

    Accounting, Agriculture, Banks, banking, Government securities, 
Investments, Rural areas.

12 CFR Part 618

    Agriculture, Archives and records, Banks, banking, Insurance, 
Reporting and recordkeeping requirements, Rural areas, Technical 
assistance.

12 CFR Part 619

    Agriculture, Banks, banking, Rural areas.

12 CFR Part 620

    Accounting, Agriculture, Banks, banking, Reporting and 
recordkeeping requirements, Rural areas.

12 CFR Part 630

    Accounting, Agriculture, Banks, banking, Organization and functions 
(Government agencies), Reporting and recordkeeping requirements, Rural 
areas.


0
For the reasons stated in the preamble, parts 611, 612, 614, 615, 618, 
619, 620, and 630 of chapter VI, title 12 of the Code of Federal 
Regulations are amended as follows:

PART 611--ORGANIZATION

0
1. The authority citation for part 611 is revised to read as follows:

    Authority: Secs. 1.3, 1.4, 1.13, 2.0, 2.1, 2.10, 2.11, 3.0, 3.2, 
3.21, 4.12, 4.15, 4.20, 4.21, 5.9, 5.10, 5.17, 6.9, 6.26, 7.0-7.13, 
8.5(e) of the Farm Credit Act (12 U.S.C. 2011, 2013, 2021, 2071, 
2072, 2091, 2092, 2121, 2123, 2142, 2183, 2203, 2208, 2209, 2243, 
2244, 2252, 2278a-9, 2278b-6, 2279a-2279f-1, 2279aa-5(e)); secs. 411 
and 412 of Pub. L. 100-233, 101 Stat. 1568, 1638; secs. 409 and 414 
of Pub. L. 100-399, 102 Stat. 989, 1003, and 1004.

0
2. Add a new subpart B, consisting of Sec. Sec.  611.210 and 611.220 to 
read as follows:
Subpart B--Bank and Association Board of Directors
Sec.
611.210 Director qualifications and training.
611.220 Outside directors.

Subpart B--Bank and Association Board of Directors


Sec.  611.210  Director qualifications and training.

    (a) Qualifications. (1) Each bank and association board of 
directors must establish and maintain a policy identifying desirable 
director qualifications. The policy must explain the type and level of 
knowledge and experience desired for board members, explaining how the 
desired qualifications were identified. The policy must be periodically 
updated and provided to the institution's nominating committee.
    (2) Each Farm Credit institution board must have a director who is 
a financial expert. Boards of directors for associations with $500 
million or less in total assets as of January 1 of each year may 
satisfy this requirement by retaining an advisor who is a financial 
expert. The financial advisor must report to the board of directors and 
be free of any affiliation with the external auditor or institution 
management. A financial expert is one recognized as having education or 
experience in: Accounting, internal accounting controls, or preparing 
or reviewing financial statements for financial institutions or large 
corporations consistent with the breadth and complexity of accounting 
and financial reporting issues that can reasonably be expected to be 
raised by the institution's financial statements.
    (b) Training. Each bank and association board of directors must 
establish and maintain a policy for director training that includes 
appropriate implementing procedures. The policy must identify training 
areas supporting desired director qualifications. Each Farm Credit bank 
and association must require newly elected or appointed directors to 
complete director orientation training within 1 year of assuming their 
position and require incumbent directors to attend training 
periodically to advance their skills.


Sec.  611.220  Outside directors.

    (a) Eligibility, number and term. (1) Eligibility. No candidate for 
an outside director position may be a director, officer, employee, 
agent, or stockholder of an institution in the Farm Credit System. Farm 
Credit banks and associations must make a reasonable effort to select 
outside directors possessing some or all of the desired director 
qualifications identified pursuant to Sec.  611.210(a) of this part.
    (2) Number. Stockholder-elected directors must constitute at least 
60 percent of the members of each institution's board.
    (i) Each Farm Credit bank must have at least two outside directors.
    (ii) Associations with total assets exceeding $500 million as of 
January 1 of each year must have no fewer than two outside directors on 
the board. However, this requirement does not apply if it causes the 
percent of stockholder-elected directors to be less than 75 percent of 
the board.
    (iii) Associations with $500 million or less in total assets as of 
January 1 of each year must have at least one outside director.
    (3) Terms of office. Banks and associations may not establish a 
different term of office for outside directors than that established 
for stockholder-elected directors.
    (b) Removal. Each institution must establish and maintain 
procedures for removal of outside directors. When the removal of an 
outside director is sought before the expiration of the outside 
director's term, the reason for removal must be documented. An 
institution's director removal procedures must allow for removal of an 
outside director by a majority vote of all voting stockholders voting, 
in person or by proxy, or by a two-thirds majority vote of the full 
board of directors. The outside director subject to the removal action 
is prohibited from voting in his or her own removal action.

Subpart C--Election of Directors and Other Voting Procedures

0
3. Amend Sec.  611.320 by revising paragraphs (b) and (e) to read as 
follows:


Sec.  611.320  Impartiality in the election of directors.

* * * * *
    (b) No employee or agent of a Farm Credit institution shall take 
any part, directly or indirectly, in the nomination

[[Page 5762]]

or election of members to the board of directors of a Farm Credit 
institution, or make any statement, either orally or in writing, which 
may be construed as intended to influence any vote in such nominations, 
or elections. This paragraph shall not prohibit employees or agents 
from providing biographical and other similar information or engaging 
in other activities pursuant to policies and procedures for nominations 
and elections. This paragraph does not affect the right of an employee 
or agent to nominate or vote for stockholder-elected directors of an 
institution in which the employee or agent is a voting member.
* * * * *
    (e) No Farm Credit institution may in any way distribute or mail, 
whether at the expense of the institution or another, any campaign 
materials for director candidates. Institutions may request 
biographical information, as well as the disclosure information 
required under Sec.  620.21(d), from all declared candidates who 
certify that they are eligible, restate such information in a standard 
format, and distribute or mail it with ballots or proxy ballots.

0
4. Add a new Sec.  611.325 to read as follows:


Sec.  611.325  Bank and association nominating committees.

    Nominating committees must conduct themselves in the impartial 
manner prescribed by the policies and procedures adopted by their 
institution under Sec.  611.320.
    (a) Composition. The voting stockholders of each bank and 
association must elect a nominating committee of no fewer than three 
members. No individual may serve on a nominating committee who, at the 
time of selection to or during service on a nominating committee, is an 
employee, director, or agent of that bank or association. A nominating 
committee member may not be a candidate for election to the board in 
the same election for which the committee is identifying nominees.
    (b) Responsibilities. It is the responsibility of each nominating 
committee to identify, evaluate, and nominate candidates for 
stockholder election to a bank or association board of directors.
    (1) Each nominating committee must nominate individuals whom the 
committee determines meet the eligibility requirements to run for 
director positions. The committee must endeavor to assure 
representation from all areas of the institution's territory and as 
nearly as possible all types of agriculture practiced within the 
territory.
    (2) The nominating committee must evaluate the qualifications of 
the director candidates. The evaluation process must consider whether 
there are any known obstacles preventing a candidate from performing 
the duties of the position.
    (3) Each committee must nominate at least two candidates for each 
director position being voted on by stockholders. If two nominees 
cannot be identified, the nominating committee must provide written 
explanation to the existing board of the efforts to locate candidates 
or the reasons for disqualifying any other candidate that resulted in 
fewer than two nominees.
    (c) Resources. Each bank and association must provide its 
nominating committee reasonable access to administrative resources in 
order for the committee to perform its duties. Banks and associations 
must, at a minimum, provide their nominating committees with a current 
list of stockholders, the most recent bylaws, the current director 
qualifications policy, and a copy of the policies and procedures that 
the bank or the association has adopted pursuant to Sec.  611.320(a) 
assuring impartial elections. On the request of the nominating 
committee, the institution must also provide a summary of the current 
board self-evaluation. The bank or association may require a pledge of 
confidentiality by committee members prior to releasing evaluation 
documents.

Subpart F--Bank Mergers, Consolidations and Charter Amendments


Sec.  611.1030  [Removed and reserved]

0
5. Remove and reserve Sec.  611.1030.

Subpart P--Termination of System Institution Status

0
6. Amend Sec.  611.1223 by revising paragraph (d)(9) to read as 
follows:


Sec.  611.1223  Information statement--contents.

* * * * *
    (d) * * *
    (9) Employment, retirement, and severance agreements. Describe any 
employment agreement or arrangement between the successor institution 
and any of your senior officers or directors. Describe any severance 
and retirement plans that cover your employees or directors and state 
the costs you expect to incur under the plans in connection with the 
termination.
* * * * *

PART 612--STANDARDS OF CONDUCT AND REFERRAL OF KNOWN OR SUSPECTED 
CRIMINAL VIOLATIONS

0
7. The authority citation for part 612 continues to read as follows:

    Authority: Secs. 5.9, 5.17, 5.19 of the Farm Credit Act (12 
U.S.C. 2243, 2252, 2254).

Subpart A--Standards of Conduct

0
8. Amend Sec.  612.2130 as follows:
0
a. Add the word ``currently'' after the word ``who'' each time it 
appears in paragraph (a);
0
b. Remove paragraph (d);
0
c. Redesignate existing paragraphs (e) through (u) as paragraphs (d) 
through (t), consecutively; and
0
d. Revise newly redesignated paragraph (e) to read as follows:


Sec.  612.2130  Definitions.

* * * * *
    (e) Entity means a corporation, company, association, firm, joint 
venture, partnership (general or limited), society, joint stock 
company, trust (business or otherwise), fund, or other organization or 
institution.
* * * * *

0
9. Amend Sec.  612.2150 by revising paragraph (d) to read as follows:


Sec.  612.2150  Employees--prohibited conduct.

* * * * *
    (d) Serve as an officer or director of an entity other than a 
System institution that transacts business with a System institution in 
the district or of any commercial bank, savings and loan, or other non-
System financial institution, except employee credit unions. For the 
purposes of this paragraph, ``transacts business'' does not include 
loans by a System institution to a family-owned entity, service on the 
board of directors of the Federal Agricultural Mortgage Corporation, or 
transactions with nonprofit entities or entities in which the System 
institution has an ownership interest. With the prior approval of the 
board of the employing institution, an employee of a Farm Credit Bank 
or association may serve as a director of a cooperative that borrows 
from a bank for cooperatives. Prior to approving an employee request, 
the board shall determine whether the employee's proposed service as a 
director is likely to cause the employee to violate any regulations in 
this part or the institution's policies, e.g., the requirements 
relating to devotion of time to official duties.
* * * * *

[[Page 5763]]


0
10. Amend Sec.  612.2155 by revising paragraph (a) introductory text to 
read as follows:


Sec.  612.2155  Employee reporting.

    (a) Annually, as of the institution's fiscal yearend, and at such 
other times as may be required to comply with paragraph (c) of this 
section, each senior officer must file a written and signed statement 
with the Standards of Conduct Official that fully discloses:
* * * * *

PART 614--LOAN POLICIES AND OPERATIONS

0
11. The authority citation for part 614 continues to read as follows:

    Authority: 42 U.S.C. 4012a, 4104a, 4104b, 4106, and 4128; Secs. 
1.3, 1.5, 1.6, 1.7, 1.9, 1.10, 1.11, 2.0, 2.2, 2.3, 2.4, 2.10, 2.12, 
2.13, 2.15, 3.0, 3.1, 3.3, 3.7, 3.8, 3.10, 3.20, 3.28, 4.12, 4.12A, 
4.13B, 4.14, 4.14A, 4.14C, 4.14D, 4.14E, 4.18, 4.18A, 4.19, 4.25, 
4.26, 4.27, 4.28, 4.36, 4.37, 5.9, 5.10, 5.17, 7.0, 7.2, 7.6, 7.8, 
7.12, 7.13, 8.0, 8.5 of the Farm Credit Act (12 U.S.C. 2011, 2013, 
2014, 2015, 2017, 2018, 2019, 2071, 2073, 2074, 2075, 2091, 2093, 
2094, 2097, 2121, 2122, 2124, 2128, 2129, 2131, 2141, 2149, 2183, 
2184, 2201, 2202, 2202a, 2202c, 2202d, 2202e, 2206, 2206a, 2207, 
2211, 2212, 2213, 2214, 2219a, 2219b, 2243, 2244, 2252, 2279a, 
2279a-2, 2279b, 2279c-1, 2279f, 2279f-1, 2279aa, 2279aa-5); sec. 413 
of Pub. L. 100-233, 101 Stat. 1568, 1639.

Subpart N--Loan Servicing Requirements; State Agricultural Loan 
Mediation Programs; Right of First Refusal


Sec.  614.4511  [Removed and reserved]

0
12. Remove and reserve Sec.  614.4511.

PART 615--FUNDING AND FISCAL AFFAIRS, LOAN POLICIES AND OPERATIONS, 
AND FUNDING OPERATIONS

0
13. The authority citation for part 615 continues to read as follows:

    Authority: Secs. 1.5, 1.7, 1.10, 1.11, 1.12, 2.2, 2.3, 2.4, 2.5, 
2.12, 3.1, 3.7, 3.11, 3.25, 4.3, 4.3A, 4.9, 4.14B, 4.25, 5.9, 5.17, 
6.20, 6.26, 8.0, 8.3, 8.4, 8.6, 8.7, 8.8, 8.10, 8.12 of the Farm 
Credit Act (12 U.S.C. 2013, 2015, 2018, 2019, 2020, 2073, 2074, 
2075, 2076, 2093, 2122, 2128, 2132, 2146, 2154, 2154a, 2160, 2202b, 
2211, 2243, 2252, 2278b, 2278b-6, 2279aa, 2279aa-3, 2279aa-4, 
2279aa-6, 2279aa-7, 2279aa-8, 2279aa-10, 2279aa-12); sec. 301(a) of 
Pub. L. 100-233, 101 Stat. 1568, 1608.

Subpart H--Capital Adequacy

0
14. Amend Sec.  615.5200 by revising paragraph (b)(1) to read as 
follows:


Sec.  615.5200  Capital planning.

* * * * *
    (b) * * *
    (1) Capability of management and the board of directors;
* * * * *

Subpart I--Issuance of Equities

0
15. Amend Sec.  615.5230 by revising paragraphs (a)(1) introductory 
text, (a)(2) introductory text, (a)(3) introductory text, and (b)(5) to 
read as follows:


Sec.  615.5230  Implementation of cooperative principles.

    (a) * * *
    (1) Each voting shareholder of an association or bank for 
cooperatives must:
* * * * *
    (2) Each voting shareholder of a Farm Credit Bank must:
* * * * *
    (3) The regional election of stockholder-elected directors is 
permitted under the following conditions:
* * * * *
    (b) * * *
    (5) Each bank must endeavor to assure that there is a choice of at 
least two nominees for each elective office to be filled and that the 
board represents as nearly as possible all types of agriculture in the 
district. If fewer than two nominees for each position are named, the 
efforts to locate two willing nominees must be documented in the 
records of the bank and provided as part of the Annual Meeting 
Information Statement of part 620, subpart E of this chapter. The bank 
must also maintain a list of the type or types of agriculture engaged 
in by each director on its board.

PART 618--GENERAL PROVISIONS

0
16. The authority citation for part 618 continues to read as follows:

    Authority: Secs. 1.5, 1.11, 1.12, 2.2, 2.4, 2.5, 2.12, 3.1, 3.7, 
4.12, 4.13A, 4.25, 4.29, 5.9, 5.10, 5.17 of the Farm Credit Act (12 
U.S.C. 2013, 2019, 2020, 2073, 2075, 2076, 2093, 2122, 2128, 2183, 
2200, 2211, 2218, 2243, 2244, 2252).

Subpart G--Releasing Information

0
17. Amend Sec.  618.8310 by revising paragraph (b) to read as follows:


Sec.  618.8310  Lists of borrowers and stockholders.

* * * * *
    (b)(1) Within 7 days after receipt of a written request by a 
stockholder, each Farm Credit bank or association must provide a 
current list of its stockholders' names, addresses, and classes of 
stock held to such requesting stockholder. As a condition to providing 
the list, the bank or association may only require that the stockholder 
agree and certify in writing that the stockholder will:
    (i) Utilize the list exclusively for communicating with 
stockholders for permissible purposes; and
    (ii) Not make the list available to any person, other than the 
stockholder's attorney or accountant, without first obtaining the 
written consent of the institution.
    (2) As an alternative to receiving a list of stockholders, a 
stockholder may request the institution mail or otherwise furnish to 
each stockholder a communication for a permissible purpose on behalf of 
the requesting stockholder. This alternative may be used at the 
discretion of the requesting stockholder, provided that the requester 
agrees to defray the reasonable costs of the communication. In the 
event the requester decides to exercise this option, the institution 
must provide the requester with a written estimate of the costs of 
handling and mailing the communication as soon as practicable after 
receipt of the stockholder's request to furnish a communication. 
However, a stockholder may not exercise this option when requesting the 
list to distribute campaign material for election to the institution 
board or board committees. Farm Credit banks and associations are 
prohibited from distributing or mailing campaign material under Sec.  
611.320(e) of this chapter.
    (3) For purposes of paragraph (b) of this section ``permissible 
purpose'' is defined to mean matters relating to the business 
operations of the institutions. This includes matters relating to the 
effectiveness of management, the use of institution assets, the 
distribution by stockholder candidates of campaign material for 
election to the institution board or board committees, and the 
performance of directors and officers. This does not include 
communications involving commercial, social, political, or charitable 
causes, communications relating to the enforcement of a personal claim 
or the redress of a personal grievance, or proposals advocating that 
the bank or association violate any Federal, State, or local law or 
regulation.

Subpart J--Internal Controls

0
18. Amend Sec.  618.8430 by revising the introductory text and adding a 
new paragraph (d) to read as follows:


Sec.  618.8430  Internal controls.

    Each Farm Credit institution's board of directors must adopt an 
internal control policy, providing adequate direction to the 
institution in

[[Page 5764]]

establishing effective control over, and accountability for, 
operations, programs, and resources. The policy must include, at a 
minimum, the following:
* * * * *
    (d) The role of the audit committee in providing oversight and 
review of the institution's internal controls.

0
19. Amend Sec.  618.8440 by revising paragraphs (b) introductory text 
and (b)(2) to read as follows:


Sec.  618.8440  Planning.

* * * * *
    (b) The plan must include, at a minimum, the following:
    (1) * * *
    (2) An annual review of the internal and external factors likely to 
affect the institution during the planning period. The review must 
include:
    (i) An assessment of management capabilities,
    (ii) An assessment of the needs of the board, based on the annual 
self-evaluation of the board's performance, and
    (iii) Strategies for correcting identified weaknesses.
* * * * *

PART 619--DEFINITIONS

0
20. The authority citation for part 619 is revised to read as follows:

    Authority: Secs. 1.4, 1.7, 2.1, 2.4, 2.11, 3.2, 3.21, 4.9, 5.9, 
5.12, 5.17, 5.18, 6.22, 7.0, 7.1, 7.6, 7.7, 7.8, 7.12 of the Farm 
Credit Act (12 U.S.C. 2011, 2015, 2072, 2075, 2092, 2123, 2142, 
2160, 2243, 2244, 2252, 2253, 2278b-2, 2279a, 2279a-1, 2279b, 2279b-
1, 2279b-2, 2279f).


0
21. Amend part 619 by adding new Sec.  619.9235 to read as follows:


Sec.  619.9235  Outside director.

    A member of a board of directors selected or appointed by the 
board, who is not a director, officer, employee, agent, or stockholder 
of any Farm Credit System institution.
0
21a. Amend part 619 by adding a new Sec.  619.9310 to read as follows:


Sec.  619.9310  Senior officer.

    The Chief Executive Officer, the Chief Operations Officer, the 
Chief Financial Officer, the Chief Credit Officer, and the General 
Counsel, or persons in similar positions; and any other person 
responsible for a major policy-making function.

PART 620--DISCLOSURE TO SHAREHOLDERS

0
22. The authority citation for part 620 continues to read as follows:

    Authority: Secs. 5.17, 5.19, 8.11 of the Farm Credit Act (12 
U.S.C. 2252, 2254, 2279aa-11) sec. 424 of Pub. L. 100-233, 101 Stat. 
1568, 1656.

Subpart A--General

0
23. Amend Sec.  620.1 as follows:
0
a. Remove paragraph (p);
0
b. Redesignate existing paragraphs (q) through (s) as paragraphs (p) 
through (r), consecutively; and
0
c. Revise paragraph (a).


Sec.  620.1  Definitions.

* * * * *
    (a) Affiliated organization means any organization, other than a 
Farm Credit organization, of which a director, senior officer or 
nominee for director of the reporting institution is a partner, 
director, officer, or majority shareholder.
* * * * *

Subpart B--Annual Report to Shareholders

0
24. Amend Sec.  620.5 as follows:
0
a. Revise paragraphs (h)(3), (i)(1), (i)(2) introductory text, 
(i)(2)(i), and (i)(2)(iii); and
0
b. Add new paragraph (m)(3).


Sec.  620.5  Contents of the annual report to shareholders.

* * * * *
    (h) * * *
    (3) For each director and senior officer, list any other business 
interest where the director or senior officer serves on the board of 
directors or as a senior officer. Name the position held and state the 
principal business in which the business is engaged.
* * * * *
    (i) * * *
    (1) Director compensation. Describe the arrangements under which 
directors of the institution are compensated for all services as a 
director (including total cash compensation and noncash compensation). 
Noncash compensation with an annual aggregate value of less than $5,000 
does not have to be reported. State the total cash and reportable 
noncash compensation paid to all directors as a group during the last 
fiscal year. If applicable, describe any exceptional circumstances 
justifying the additional director compensation as authorized by Sec.  
611.400(c) of this chapter. For each director, state:
    (i) The number of days served at board meetings;
    (ii) The total number of days served in other official activities, 
including any board committee(s);
    (iii) Any additional compensation paid for service on a board 
committee, naming the committee; and
    (iv) The total cash and noncash compensation paid to each director 
during the last fiscal year. Reportable compensation includes cash and 
the value of noncash items provided by a third party to a director for 
services rendered by the director on behalf of the reporting Farm 
Credit institution. Noncash compensation with an annual aggregate value 
of less than $5,000 does not have to be reported.
    (2) Senior officer compensation. Disclose the information on senior 
officer compensation and compensation plans as required by this 
paragraph. Farm Credit System associations may disclose the information 
required by this paragraph in the Annual Meeting Information Statement 
(AMIS) required under subpart E of this part. Associations exercising 
this option must include a reference in the annual report stating that 
the senior officer compensation information is included in the AMIS and 
that the AMIS is available for public inspection at the reporting 
association offices pursuant to Sec.  620.2(a).
    (i) The institution must disclose the total amount of compensation 
paid to senior officers in substantially the same manner as the tabular 
form specified in the following Summary Compensation Table (table):

                                                               Summary Compensation Table
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                         Annual
---------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                             Deferred/
          Name of individual or number in group                Year           Salary           Bonus        perquisite         Other           Total
(a)                                                                  (b)             (c)             (d)             (e)             (f)             (g)
---------------------------------------------------------
CEO.....................................................            20XX  ..............  ..............  ..............  ..............
                                                                    20XX  ..............  ..............  ..............  ..............  ..............

[[Page 5765]]

 
                                                                    20XX  ..............  ..............  ..............  ..............  ..............
Aggregate number of senior officers:
    (X).................................................            20XX  ..............  ..............  ..............  ..............  ..............
    (X).................................................            20XX  ..............  ..............  ..............  ..............  ..............
    (X).................................................            20XX  ..............  ..............  ..............  ..............  ..............
--------------------------------------------------------------------------------------------------------------------------------------------------------

    (A) For each of the last 3 completed fiscal years, report the total 
amount of compensation paid and the amount of each component of 
compensation paid to the institution's chief executive officer (CEO), 
naming the individual. If more than one person served in the capacity 
of CEO during any given fiscal year, individual compensation 
disclosures must be provided for each CEO.
    (B) For each of the last 3 completed fiscal years, report the 
aggregate amount of compensation paid, and the components of 
compensation paid, to all senior officers as a group, stating the 
number of officers in the group without naming them. If applicable, 
include in the aggregate the amount of compensation paid to those 
officers who are not senior officers but whose total annual 
compensation is among the five highest amounts paid by the institution 
for the reporting period.
    (C) Amounts shown as ``Salary'' (column (c)) and ``Bonus'' (column 
(d)) must reflect the dollar value of salary and bonus earned by the 
senior officer during the fiscal year. Amounts contributed during the 
fiscal year by the senior officer pursuant to a plan established under 
section 401(k) of the Internal Revenue Code, or similar plan, must be 
included in the salary column or bonus column, as appropriate. If the 
amount of salary or bonus earned during the fiscal year is not 
calculable by the time the report is prepared, the reporting 
institution must provide its best estimate of the compensation 
amount(s) and disclose that fact in a footnote to the table.
    (D) Amounts shown as ``deferred/perquisites'' (column (e)) must 
reflect the dollar value of other annual compensation not properly 
categorized as salary or bonus, including but not limited to:
    (1) Deferred compensation earned during the fiscal year, whether or 
not paid in cash; or
    (2) Perquisites and other personal benefits, including the value of 
noncash items, unless the annual aggregate value of such perquisites is 
less than $5,000. Reportable perquisites include cash and the value of 
noncash items provided by a third party to a senior officer for 
services rendered by the officer on behalf of the reporting 
institution.
* * * * *
    (iii) The annual report or AMIS must include a statement that 
disclosure of information on the total compensation paid during the 
last fiscal year to any senior officer or to any other officer included 
in the aggregate is available and will be disclosed to shareholders of 
the institution and shareholders of related associations (if 
applicable) upon request.
* * * * *
    (m) * * *
    (3) State that the financial statements were prepared under the 
oversight of the audit committee, identifying the members of the audit 
committee.
* * * * *

Subpart C--Quarterly Report

0
25. Amend Sec.  620.11 by adding a new paragraph (d)(5) and revising 
paragraphs (d) introductory text and (e) to read as follows:


Sec.  620.11  Content of quarterly report to shareholders.

* * * * *
    (d) Financial statements. The following financial statements must 
be provided:
* * * * *
    (5) State that the financial statements were prepared under the 
oversight of the audit committee.
    (e) Review by independent public accountant. The interim financial 
information need not be audited or reviewed by an independent public 
accountant prior to filing. If, however, a review of the data is made 
in accordance with the established professional standards and 
procedures for such a review, the institution may state that the 
independent accountant has performed such a review under the 
supervision of the institution's audit committee. If such a statement 
is made, the report of the independent accountant on such review must 
accompany the interim financial information.
* * * * *

Subpart E--Annual Meeting Information Statement

0
26. Revise the heading of subpart E to read as set forth above.


Sec.  620.20  [Removed and reserved]

0
27. Remove and reserve Sec.  620.20.
0
28. Amend Sec.  620.21 by revising the introductory paragraph, 
paragraphs (c)(2) and (d) to read as follows:


Sec.  620.21  Contents of the information statement and other 
information to be furnished in connection with the annual meeting or 
director elections.

    Each bank and association of the Farm Credit System must prepare 
and provide an information statement (``statement'' or ``AMIS'') to its 
shareholders at least 10 days prior to any annual meeting or any 
director elections. The AMIS must reference the annual report required 
by subpart B of this part and such other material information as is 
necessary to make the required statement, in light of the circumstances 
under which it is made, not misleading. The AMIS must address the 
following items:
* * * * *
    (c) * * *
    (2) State the name of any incumbent director who attended fewer 
than 75 percent of the board meetings or any meetings of board 
committees on which he or she served during the last fiscal year.
* * * * *
    (d) Nominees. (1) For each nominee, state the nominee's name, city 
and state of residence, business address if any, age, and business 
experience during the last 5 years, including each nominee's principal 
occupation and employment during the last 5 years. List all business 
interests on whose board of directors the nominee serves or is 
otherwise

[[Page 5766]]

employed in a position of authority, and state the principal business 
in which the business interest is engaged. Identify any family 
relationship of the nominee that would be reportable under part 612 of 
this chapter if elected to the institution's board.
    (2) If fewer than two nominees for each position are named, 
describe the efforts of the nominating committee to locate two willing 
nominees.
    (3) If association directors are nominated or elected by region, 
describe the regions and state the number of voting shareholders 
entitled to vote in each region.
    (4) State whether nominations will be accepted from the floor. 
Associations must accept floor nominations. Any director nominee from 
the floor must be an eligible candidate for the director position for 
which the person has been nominated.
    (i) For association directors not elected by region:
    (A) If the annual meeting is to be held in more than one session 
and paper mail or electronic mail balloting will be conducted upon the 
conclusion of all sessions, state that nominations from the floor may 
be made at any session or, if the association's bylaws so provide, 
state that nominations from the floor shall be accepted only at the 
first session.
    (B) If shareholders will not vote solely by paper mail or 
electronic mail ballot upon conclusion of all sessions, state that 
nominations from the floor may be made only at the first session.
    (ii) For association directors elected by region:
    (A) If more than one session of an annual meeting is held in a 
region, and if paper mail or electronic mail balloting will be 
conducted at the end of all sessions in a region, state that 
nominations from the floor may be made at any session in the region or, 
if the association's bylaws so provide, state that nominations from the 
floor shall be accepted only at the first session held in the region.
    (B) If shareholders will not vote solely by paper mail or 
electronic mail ballot upon conclusion of all sessions in a region, 
state that nominations from the floor may be made only at the first 
session held in the region.
    (5) For each nominee who is not an incumbent director, except a 
nominee from the floor, provide the information referred to in Sec.  
620.5(j) and (k) and paragraph (d)(1) of this section. If shareholders 
will vote by paper mail or electronic mail ballot upon conclusion of 
all sessions, each floor nominee must provide the information referred 
to in Sec.  620.5(j) and (k) and paragraph (d)(1) of this section in 
paper or electronic form to the Farm Credit institution within the time 
period prescribed by the institution's bylaws. If the institution's 
bylaws do not prescribe a time period, state that each floor nominee 
must provide the disclosure to the institution within 5 business days 
of the nomination. The institution must ensure that the information is 
provided to the voting shareholders by delivering the ballots for the 
election of directors in the same format as the comparable information 
contained in the information statement. If shareholders will not vote 
by paper mail or electronic mail ballot upon conclusion of all 
sessions, each floor nominee must provide the information referred to 
in Sec.  620.5(j) and (k) and paragraph (d)(1) of this section in paper 
or electronic form at the first session at which voting is held.
    (6) Each bank and association must adopt policies and procedures 
that assure a disclosure statement is prepared by each director 
candidate. No person may be a nominee for director who does not make 
the disclosures required by this subpart. Candidate disclosure 
information must be distributed or mailed with ballots or proxy ballots 
to all shareholders eligible to vote in the election. Institutions may 
either restate such information in a standard format or provide 
complete copies of candidate disclosure information.
* * * * *

0
29. Revise subpart F to read as follows:
Subpart F--Bank and Association Audit and Compensation Committees
Sec.
620.30 Audit committees.
620.31 Compensation committees.

Subpart F--Bank and Association Audit and Compensation Committees


Sec.  620.30  Audit committees.

    Each Farm Credit bank and association must establish and maintain 
an audit committee. An audit committee is established by adopting a 
written charter describing the committee's composition, authorities, 
and responsibilities in accordance with this section. All audit 
committees must maintain records of meetings, including attendance, for 
at least 3 fiscal years.
    (a) Composition. Each member of an audit committee must be a member 
of the Farm Credit institution's board of directors. An audit committee 
may not consist of less than three members and must include any 
director designated as a financial expert under Sec.  611.210(a)(2) of 
this chapter. All audit committee members should be knowledgeable in at 
least one of the following: Public and corporate finance, financial 
reporting and disclosure, or accounting procedures.
    (b) Independence. Every audit committee member must be free from 
any relationship that, in the opinion of the board, would interfere 
with the exercise of independent judgment as a committee member.
    (c) Resources. Farm Credit institutions must permit their audit 
committees to contract for independent legal counsel and expert 
advisors. If an institution hires a financial expert advisor pursuant 
to Sec.  611.210(a)(2), that advisor will also serve as an advisor to 
the audit committee. Each institution is responsible for providing 
monetary and nonmonetary resources to enable its audit committee to 
contract for external auditors, outside advisors, and ordinary 
administrative expenses. A two-thirds majority vote of the full board 
of directors is required to deny an audit committee's request for 
resources.
    (d) Duties. Each audit committee must report only to the board of 
directors. In its capacity as a committee of the board, the audit 
committee is responsible for the following:
    (1) Financial reports. Each audit committee must oversee 
management's preparation of the report to shareholders; review the 
impact of any significant accounting and auditing developments; review 
accounting policy changes relating to preparation of financial 
statements; and review annual and quarterly reports prior to release. 
After the audit committee reviews a financial policy, procedure, or 
report, it must record in its minutes its agreement or disagreement 
with the item(s) under review.
    (2) External auditors. The external auditor must report directly to 
the audit committee. Each audit committee must:
    (i) Determine the appointment, compensation, and retention of 
external auditors issuing audit reports of the institution; and
    (ii) Review the external auditor's work.
    (3) Internal controls. Each audit committee must oversee the 
institution's system of internal controls relating to preparation of 
financial reports, including controls relating to the institution's 
compliance with applicable laws and regulations. Any internal audit 
functions of the institution must also be subject to audit committee 
review and supervision.

[[Page 5767]]

Sec.  620.31  Compensation committees.

    Each Farm Credit bank and association must establish and maintain a 
compensation committee by adopting a written charter describing the 
committee's composition, authorities, and responsibilities in 
accordance with this section. All compensation committees will be 
required to maintain records of meetings, including attendance, for at 
least 3 fiscal years.
    (a) Composition. Each compensation committee must consist of at 
least three members. Each committee member must be a member of the 
institution's board of directors. Every member must be free from any 
relationship that, in the opinion of the board, would interfere with 
the exercise of independent judgment as a committee member.
    (b) Duties. Each compensation committee must report only to the 
board of directors. In its capacity as a committee of the board, the 
compensation committee is responsible for reviewing the compensation 
policies and plans for senior officers and employees. Each compensation 
committee must approve the overall compensation program for senior 
officers.
    (c) Resources. Each institution must provide monetary and 
nonmonetary resources to enable its compensation committee to function.

PART 630--DISCLOSURE TO INVESTORS IN SYSTEM-WIDE AND CONSOLIDATED 
BANK DEBT OBLIGATIONS OF THE FARM CREDIT SYSTEM

0
30. The authority citation for part 630 continues to read as follows:

    Authority: Secs. 5.17, 5.19 of the Farm Credit Act (12 U.S.C. 
2252, 2254).

Subpart A--General

0
31. Revise Sec.  630.6 to read as follows:


Sec.  630.6  Funding Corporation committees.

    (a) System Audit Committee. The Funding Corporation must establish 
and maintain a System Audit Committee (SAC) by adopting a written 
charter describing the committee's composition, authorities, and 
responsibilities in accordance with this section. The SAC must maintain 
records of meetings, including attendance, for at least 3 fiscal years.
    (1) Composition. All SAC members should be knowledgeable in at 
least one of the following: Public and corporate finance, financial 
reporting and disclosure, or accounting procedures.
    (i) At least one-third of the SAC members must be representatives 
from the Farm Credit System.
    (ii) The SAC may not consist of less than three members and at 
least one member must be a financial expert. A financial expert is one 
who either has experience with internal controls and procedures for 
financial reporting or experience in preparing or auditing financial 
statements.
    (iii) The chair of the SAC must be a financial expert.
    (2) Independence. Every audit committee member must be free from 
any relationship that, in the opinion of the Funding Corporation board, 
would interfere with the exercise of independent judgment as a 
committee member.
    (3) Resources. The Funding Corporation must permit the SAC to 
contract for independent legal counsel and expert advisors. The Funding 
Corporation is responsible for providing monetary and nonmonetary 
resources to enable the SAC to contract for external auditors, outside 
advisors, and ordinary administrative expenses. A two-thirds majority 
vote of the full Funding Corporation board of directors is required to 
deny any SAC request for resources.
    (4) Duties. The SAC reports only to the Funding Corporation board 
of directors. In its capacity as a committee of the board, the SAC is 
responsible for the following:
    (i) Financial reports. The SAC must oversee the Funding 
Corporation's preparation of the report to stockholders and investors; 
review the impact of any significant accounting and auditing 
developments; review accounting policy changes relating to preparation 
of the System-wide combined financial statements; and review annual and 
quarterly reports prior to release. After the SAC reviews a financial 
policy, procedure, or report, it must record in its minutes its 
agreement or disagreement with the item(s) under review.
    (ii) External auditors. The external auditor must report directly 
to the SAC. The SAC must:
    (A) Determine the appointment, compensation, and retention of 
external auditors issuing System-wide audit reports; and
    (B) Review the external auditor's work.
    (iii) Internal controls. The SAC must oversee the Funding 
Corporation's system of internal controls relating to preparation of 
financial reports, including controls relating to the Farm Credit 
System's compliance with applicable laws and regulations.
    (b) Compensation committee. The Funding Corporation must establish 
and maintain a compensation committee by adopting a written charter 
describing the committee's composition, authorities, and 
responsibilities in accordance with this section. The compensation 
committee will be required to maintain records of meetings, including 
attendance, for at least 3 fiscal years.
    (1) Composition. The committee must consist of at least three 
members. Each committee member must be a member of the Funding 
Corporation's board of directors. Every member must be free from any 
relationship that, in the opinion of the board, would interfere with 
the exercise of independent judgment as a committee member.
    (2) Duties. The compensation committee must report only to the 
board of directors. In its capacity as a committee of the board, the 
compensation committee is responsible for reviewing the compensation 
policies and plans for senior officers and employees. The compensation 
committee must approve the overall compensation program for senior 
officers.
    (3) Resources. The Funding Corporation must provide monetary and 
nonmonetary resources to enable its compensation committee to function.

Subpart B--Annual Report to Investors

0
32. Amend Sec.  630.20 by revising the introductory heading for 
paragraph (h), paragraphs (h)(2) and (l) introductory text to read as 
follows:


Sec.  630.20  Contents of the annual report to investors.

* * * * *
    (h) Directors and senior officers.
* * * * *
    (2) Senior officers. List the names of all senior officers employed 
by the disclosure entities, including position title and length of 
service at current position.
* * * * *
    (l) Financial statements. Furnish System-wide combined financial 
statements and related footnotes prepared in accordance with GAAP, and 
accompanied by supplemental information prepared in accordance with the 
requirements of Sec.  630.20(m). The System-wide combined financial 
statements must provide investors and potential investors in FCS debt 
obligations with the most meaningful presentation pertaining to the 
financial condition and results of operations of the Farm Credit 
System. The System-wide combined financial statement and accompanying 
supplemental information must be audited in accordance with generally 
accepted

[[Page 5768]]

auditing standards by a qualified public accountant (as defined in 
Sec.  621.2(i) of this chapter) and indicate that the financial 
statements were prepared under the oversight of the System Audit 
Committee, identifying the members of the audit committee. The System-
wide combined financial statements must include the following:
* * * * *

Subpart C--Quarterly Reports to Investors

0
33. Amend Sec.  630.40 by revising paragraph (d) introductory text to 
read as follows:


Sec.  630.40  Contents of the quarterly report to investors.

* * * * *
    (d) Financial statements. Interim combined financial statements 
must be provided in the quarterly report to investors as set forth in 
paragraphs (d)(1) through (4). Indicate that the financial statements 
were prepared under the oversight of the System Audit Committee.
* * * * *

    Dated: January 24, 2006.
James M. Morris,
Acting Secretary, Farm Credit Administration Board.
[FR Doc. 06-829 Filed 2-1-06; 8:45 am]
BILLING CODE 6705-01-U