[Federal Register Volume 63, Number 140 (Wednesday, July 22, 1998)]
[Rules and Regulations]
[Pages 39219-39229]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-19394]



[[Page 39219]]

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FARM CREDIT ADMINISTRATION

12 CFR Parts 611, 615, 620 and 627

RIN 3052-AB58


Organization; Funding and Fiscal Affairs, Loan Policies and 
Operations, and Funding Operations; Disclosure to Shareholders; Title V 
Conservators and Receivers; Capital Provisions

AGENCY: Farm Credit Administration.

ACTION: Final rule.

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SUMMARY: The Farm Credit Administration (FCA or Agency), through the 
FCA Board (Board), adopts a final rule to amend its capital adequacy 
and related regulations to address: interest rate risk; the grounds for 
appointing a conservator or receiver; capital and bylaw requirements 
for service corporations; and various computational issues and other 
issues involving the capital regulations. The rule adds safety and 
soundness requirements deferred from prior rulemakings, provides 
greater consistency with capital requirements of other financial 
regulators, and makes technical corrections.

EFFECTIVE DATE: This regulation shall become effective 30 days after 
publication in the Federal Register during which either or both houses 
of Congress are in session. Notice of the effective date will be 
published in the Federal Register.

FOR FURTHER INFORMATION CONTACT:
Dennis K. Carpenter, Senior Policy Analyst, Office of Policy and 
Analysis, Farm Credit Administration, McLean, VA 22102-5090, (703) 883-
4498, TDD (703) 883-4444,
      or

Rebecca S. Orlich, Senior Attorney, Office of General Counsel, Farm 
Credit Administration, McLean, VA 22102-5090, (703) 883-4020, TDD (703) 
883-4444.

SUPPLEMENTARY INFORMATION:

I. General

    The Agency proposed amendments to its capital regulations on 
September 23, 1997 (62 FR 49623). The purpose of the proposed 
regulations was to build on previous regulatory efforts by addressing 
discrete issues related to capital that were deferred during 
consideration of the capital adequacy regulations that became effective 
in March 1997. The issues addressed in the proposed rule were:
    <bullet> Interest rate risk as it pertains to Farm Credit System 
(System or FCS) institutions;
    <bullet> The definition of insolvency and of ``an unsafe or unsound 
condition to transact business'' for the purpose of appointing a 
conservator or receiver;
    <bullet> The establishment of capital and bylaw requirements for 
System service corporations;
    <bullet> Changes to risk-weighting categories of assets;
    <bullet> The retirement of certain allocated equities included in 
core surplus;
    <bullet> Deferred-tax assets;
    <bullet> The treatment of intra-System investments for capital 
computation purposes;
    <bullet> Various other computational issues; and
    <bullet> Other technical issues.
    As described more fully below, the FCA Board has made revisions to 
the proposed regulations on interest rate risk management programs, the 
enumerated circumstances in which the FCA could consider an institution 
to be in an unsafe or unsound condition for purposes of appointing a 
conservator or receiver, and the proposal regarding the treatment of 
``other comprehensive income'' in calculating regulatory capital. The 
remaining regulations are adopted substantially as proposed.
    Comments were received on the proposed regulations from the 
System's Presidents' Finance Committee, which reflected the views of 
the System's banks and associations (System joint comment); two Farm 
Credit banks; and a jointly managed production credit association (PCA) 
and Federal land credit association (FLCA). In addition, a third Farm 
Credit bank submitted a sample computation of the proposed rule's 
deferred-tax asset exclusion and asked the Agency to determine whether 
it had been calculated properly. The respondents did not comment 
generally on the overall thrust of the proposed rule; rather, their 
comments addressed specific issues as described below. All of the 
comments were carefully considered in the formulation of the final 
rule.

II. Interest Rate Risk

    New Secs. 615.5180 and 615.5181 are added to the investment 
regulations to require each System bank to establish an interest rate 
risk management program and to charge the bank's board of directors and 
senior management with responsibility for maintaining effective 
oversight. In addition, new Sec. 615.5182 imposes the same requirements 
on all other System institutions \1\ (excluding the Federal 
Agricultural Mortgage Corporation) \2\ with interest rate risk 
exposure.
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    \1\ Section 1.2(a) of the Farm Credit Act of 1971, as amended, 
(Act) identifies System institutions as Farm Credit Banks, banks for 
cooperatives, production credit associations, Federal land bank 
associations, and ``such other institutions as may be made a part of 
the System, all of which shall be chartered by and subject to 
regulation by the Farm Credit Administration.'' Such additional 
institutions would include agricultural credit banks, agricultural 
credit associations, Federal land credit associations, and service 
corporations chartered under section 4.25 of the Act. For purposes 
of the requirements of Sec. 615.5182, the Federal Agricultural 
Mortgage Corporation is not included in the discussion of System 
institutions.
    \2\ Regulations affecting the Federal Agricultural Mortgage 
Corporation will be issued separately.
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    The language in Sec. 615.5182 has been revised from the proposed 
rule to clarify that the board and management of each System 
institution have a duty to identify and manage interest rate risk 
exposure at their institution. The new regulation requires institutions 
other than banks to establish interest rate risk management programs 
for all interest rate risk, including risk that is being managed by the 
bank. The board of directors of an institution is accountable for all 
interest rate risk exposure of the institution regardless of whether 
the institution has contracted with the funding bank to manage certain 
interest rate risks. Although the funding bank may manage the interest 
rate risk, the institution's board is still accountable for ensuring 
that risk exposures are appropriately identified and managed. In those 
cases where an institution has interest rate risk exposure in excess of 
any exposure covered by the bank, the institution will also be expected 
to establish additional management requirements commensurate with the 
level of such exposure.
    To supplement these new regulations, which are general in nature, 
the FCA Board recently adopted and published for comment a proposed 
interest rate risk management policy. See 63 FR 27962, May 21, 1998. 
The policy statement provides guidance to System institutions on 
prudent interest rate risk management principles, as well as the 
criteria the FCA will use to evaluate the adequacy and effectiveness of 
a System institution's interest rate risk management. The proposed 
guidelines are similar in approach to the interest rate risk guidelines 
issued by other Federal financial institution regulatory agencies.\3\
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    \3\ The Office of the Comptroller of the Currency, the Federal 
Deposit Insurance Corporation, and the Federal Reserve Board.
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    The new interest rate risk regulations and policy statement will 
improve FCA oversight of the System by supplementing existing capital 
regulations, which specifically address only credit risk. The 
regulations and policy statement will better inform System institutions 
of the Agency's expectations for the management of

[[Page 39220]]

interest rate risk exposure. The potentially adverse effect that 
interest rate risk may have on net interest income and the market value 
of an institution's equity is of particular concern to the FCA. Unless 
properly measured and managed, interest rate changes can have 
significant adverse effects on System institutions' ability to generate 
future earnings, build net worth, and maintain liquidity. The combined 
effect of the final regulation and provisions of the policy statement 
is to ensure sound interest rate risk management by all System 
institutions.
    With the publication for comment of the proposed interest rate risk 
management policy, the FCA has addressed the one comment it received on 
the proposed interest rate provisions. The System joint comment 
included a request that the Agency continue its practice of following 
the approaches taken by other Federal financial institution regulatory 
agencies and that the System be provided with an opportunity to comment 
on any proposed policy statement prior to final issuance.

III. Definition of Insolvency and ``Unsafe or Unsound Condition to 
Transact Business''

    The FCA Board adopts several changes to Sec. 627.2710, which sets 
forth the grounds for appointing a conservator or receiver for a System 
institution. First, the definition of ``insolvency'' as a ground for 
appointing a conservator or receiver in paragraph (b)(1) is amended to 
clarify that any stock or allocated equities held by current or former 
borrowers are not ``obligations to members.'' There is no change in the 
treatment of obligations to members such as investment bonds and 
uninsured accounts. Second, the Agency revises paragraph (b)(3), which 
currently provides that a conservator or receiver may be appointed if 
``[t]he institution is in an unsafe or unsound condition to transact 
business.'' The revision adds that ``having insufficient capital or 
otherwise'' is a circumstance that the FCA could consider to be an 
unsafe and unsound condition. The amendment also identifies capital and 
collateral thresholds below which an institution could be considered to 
be operating unsafely, as well as other conditions. The thresholds and 
conditions are:
    1. For banks, a net collateral ratio (as defined by 
Sec. 615.5301(d)) below 102 percent.
    2. For associations, a default by the association of one or more 
terms of its general financing agreement (GFA) with its affiliated bank 
that the FCA determines to be material.
    3. For all institutions, permanent capital (as defined in 
Sec. 615.5201) of less than one-half the minimum required level for the 
institution.
    4. For all institutions, a total surplus (as defined by 
Sec. 615.5301(i)) ratio of less than 2 percent.
    5. For associations, stock impairment.
    The final rule contains a revision in item 2 above, which as 
proposed pertained to collateral that is insufficient to enable an 
association to meet the requirements of its GFA with its affiliated 
bank. The FCA Board changed the provision in response to the System's 
joint comment that the term ``insufficient collateral'' in the second 
threshold was too imprecise. The System joint comment stated that some 
GFAs might have a more ``strident'' collateral test that could result 
in a technical default that could be cured in a number of ways. The 
System joint comment recommended instead that a ``continuing and 
material default under the terms of the association's [GFA]'' be 
considered to be an unsafe and unsound condition to transact business; 
it stated that the materiality standard would eliminate minor matters, 
and the requirement that the default be continuing would eliminate 
defaults that could be cured. The jointly managed PCA/FLCA commented 
that it supported the revision proposed in the System joint comment.
    The FCA Board agrees in part with the suggestion in the System 
joint comment. It is appropriate to provide that a material default of 
the GFA would be considered an unsafe and unsound condition for 
transacting business and, consequently, a ground for appointing a 
conservator or receiver. However, a provision that the default must be 
continuing is too restrictive, since a material default can indicate 
severe problems even when the default might be cured by, or is waived 
by action of the affiliated bank. The FCA Board further believes that 
the Agency, not the bank nor the association, should be responsible for 
determining, as a ground for appointing a conservator or receiver, what 
constitutes a material default of the GFA. Therefore, the final rule is 
revised by removing the reference to ``insufficient collateral'' in the 
proposed rule and providing instead that an unsafe or unsound condition 
for transacting business includes an association's default under the 
terms of its GFA, where such default is determined by the Agency to be 
material.
    While no other comments were received on the remaining standards 
and conditions, the FCA Board has made some minor adjustments in the 
final rule for clarity and conformity.
    As was noted in the preamble to the proposed regulations, the 
thresholds and conditions are intended to be examples of what the 
Agency considers to be an unsafe or unsound condition to transact 
business for the purpose of appointing a conservator or receiver but 
are not exclusive. The FCA will continue to have the discretion to 
determine if an institution is in an unsafe or unsound condition to 
transact business based on other activities or circumstances that are 
not enumerated in the regulation. The FCA also retains the discretion 
to not appoint a conservator or receiver even when any of the 
enumerated circumstances exists. The Agency will evaluate the totality 
of circumstances before deciding what action, if any, to take.
    The Board notes further that the delineation of the ``unsafe or 
unsound'' thresholds in this regulation does not mean that an 
institution is conclusively presumed to be operating safely and soundly 
if it is above all of the enumerated thresholds. The FCA may still 
consider an institution operating below minimum capital standards to be 
operating unsafely and unsoundly, and take appropriate supervisory 
action accordingly.

IV. Service Corporations

A. Capital Requirements for Service Corporations

    The FCA Board amends Sec. 611.1135(c) to provide that minimum 
capital requirements may be imposed on a service corporation as a 
condition of approval of the service corporation's charter. The Agency 
will monitor a service corporation's compliance with individually 
established capital standards through the examination process. No 
comments were received on the proposed revision, and the FCA Board 
adopts the rule as proposed.

B. Application of Bylaw Regulations to Service Corporations

    Section 615.5220 is amended by adding a new paragraph (b) requiring 
each service corporation to have relevant capitalization provisions in 
its bylaws. A conforming amendment to Sec. 611.1135(b)(4) is also 
adopted. No comments were received on these provisions, and they are 
adopted as proposed.

V. Deferred-Tax Assets

    The FCA amends Sec. 615.5210 to add a new paragraph (e)(11) 
establishing a requirement to exclude certain deferred-

[[Page 39221]]

tax assets in capital calculations. Section 615.5201 is also amended to 
add new paragraph (d) to define deferred-tax assets that are dependent 
on future income or future events. These amendments are adopted without 
change from the proposal.
    Under this rule, when an institution computes its required capital 
ratios, it is not required to exclude deferred-tax assets that can be 
realized through carrybacks to taxes paid on income earned in prior 
periods. However, the rule excludes a portion of the deferred-tax 
assets: (1) That an institution can realize only if it earns sufficient 
taxable income in the future; or (2) that are dependent on the 
occurrence of other future events for realization. The portion of 
deferred-tax assets that must be excluded is the greater of:
    (1) The deferred-tax assets in excess of the amount that the 
institution expects to realize within 1 year of the most recent 
calendar quarter-end date, based on the institution's financial 
projections of taxable income and other events for that year; or
    (2) The deferred-tax assets in excess of 10 percent of core surplus 
capital existing before the deduction of any disallowed tax assets.
    An institution must deduct the excluded deferred-tax assets from 
capital and from assets when calculating capital ratios.
    The Agency received one comment and a sample computation regarding 
its proposal. The System joint comment objected to the FCA's statement, 
in the preamble to the proposed regulation, that the proposed exclusion 
was consistent with requirements implemented by the other Federal 
financial institution regulatory agencies. The other agencies provide 
that commercial banks and thrifts must deduct deferred-tax assets in 
excess of 10 percent of their Tier 1 capital or in excess of the amount 
expected to be realized within 1 year (whichever is greater). The 
System joint comment asserted that the FCA's use of core surplus as the 
basis for the 10-percent limitation was not consistent with the other 
agencies' approach. Rather, the System contended, the 10-percent 
limitation in the calculation should be 10 percent of permanent 
capital, not core surplus, because permanent capital was ``a 
conservative equivalent of Tier 1 capital'' for commercial banks and 
thrifts.
    The Agency disagrees with the characterization of permanent capital 
as a ``conservative equivalent'' of a commercial bank's Tier 1 capital. 
The components of Tier 1 capital are generally more stable than many 
components of permanent capital. It is true that common stockholders' 
equity, which is included in permanent capital but not core surplus, is 
a component of a commercial bank or thrift's Tier 1 capital. However, a 
commercial bank or thrift does not routinely retire its common stock. 
By contrast, most Farm Credit institutions routinely retire common 
stock and distribute allocated surplus. The Agency implemented a core 
surplus requirement to ensure that institutions have an amount of 
stable capital that is not generally subject to routine retirements or 
distributions for at least the next 3 years.\4\ Furthermore, other 
components of permanent capital such as term stock are not included by 
commercial banks in Tier 1 capital and may be included in Tier 2 
capital only up to an amount that equals the amount of the commercial 
bank's Tier 1 capital.\5\ There are no such restrictions on a Farm 
Credit institution's permanent capital--nearly all capital is included 
without limit, except equity holdings between FCS institutions. Because 
of these significant functional differences, permanent capital and Tier 
1 capital are not equivalent. The FCA Board continues to believe that 
core surplus is a more appropriate basis on which to limit the 
inclusion of deferred-tax assets and, therefore, adopts the regulation 
as proposed.
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    \4\ Associations may include routinely distributed allocated 
equities in core surplus if such equities are not scheduled for 
retirement in the next 3 years.
    \5\ Consequently, a commercial bank or thrift that fails to meet 
its Tier 1 minimum standard will also fail to meet its overall (Tier 
1 plus Tier 2) risk-based standard, no matter how much capital it 
may have that meets the definition of Tier 2 capital.
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VI. Computational Issues

    The FCA Board adopts technical corrections to the existing capital 
adequacy regulations, primarily involving the computation of the total 
surplus and core surplus capital requirements, as described below.

A. Average Daily Balance Requirement

    The FCA Board adopts Sec. 615.5330(c) to require computation of the 
total surplus, core surplus, and risk-adjusted asset base using average 
daily balances for the most recent 3 months, in the same way they are 
used for the calculation of permanent capital. Under the existing 
regulations, the total and core surplus ratios have been calculated 
using month-end balances. The change is made in response to requests 
from a number of institutions who commented that using month-end 
balances results in significant variability in the ratios due simply to 
seasonal lending trends.
    One comment was received regarding proposed Sec. 615.5330(c). The 
commenter supported the change on the ground that basing the 
calculations on point-in-time assets could lead to a distorted view of 
the capital position of an institution lending to agriculture due to 
its cyclical nature.

B. Maintenance of Core Surplus and Total Surplus Ratios

    The FCA Board adopts several changes to its requirements that 
institutions maintain core surplus and total surplus ratios. Paragraphs 
(a) and (b) of Sec. 615.5330 are amended to add the phrase ``at all 
times'' to the requirement that institutions must maintain core surplus 
and total surplus ratios of at least the minimum required level. The 
amendatory language clarifies that institutions must have the 
capability to calculate capital ratios every day, so that management 
decisions relative to loans in excess of the institution's loan limits, 
stock retirements, and other matters related to capital levels are made 
with knowledge of the institution's current capital ratios. For 
example, the institution must be able to calculate capital ratios on 
any date stock is retired, to ensure that minimum capital levels will 
be maintained after the retirement.
    Section 615.5335 is also amended to expressly require banks to 
achieve and maintain at all times a net collateral ratio at or above 
the regulatory minimum, as well as to have the capability to calculate 
the net collateral ratio at any time using the balances outstanding at 
the computation date. No comments were received on these revisions, and 
they are adopted without change from the proposed rule.

C. Treatment of Intra-System Investments and Other Adjustments

1. Reciprocal Investments
    The FCA amends Sec. 615.5210(e)(1) to clarify the treatment of 
reciprocal holdings between two System institutions in the capital 
calculations. Institutions must eliminate reciprocal holdings before 
making the other required adjustments relating to intra-System 
investments. The Agency makes this clarification because some 
institutions have incorrectly made other required adjustments for 
intra-System investments before eliminating the reciprocal investments 
when calculating capital positions. The Agency intended that 
elimination of investments by one System institution in another 
institution be applied on a net basis after eliminating reciprocal 
holdings. See 53 FR 16956, May 12, 1988. This ``netting

[[Page 39222]]

effect'' ensures that System institutions eliminate cross-capital 
investments prior to other adjustments required by the capital 
regulations.
    A System bank, which presently has investments in several of its 
affiliated associations, recommended that the Agency eliminate the 
reciprocal investment provisions from the regulations for the following 
reasons: (1) The FCA currently has prior approval authority over 
investments by Farm Credit banks in associations and could, therefore, 
control where the investment counts in the capital calculations; (2) 
the recently added capital ratios are more comprehensive and preclude 
the need for the reciprocal investment provisions; and (3) it is 
illogical for the bank to count its investment in the association in 
the bank's net collateral ratio, since the bank does not have access to 
the investment.
    The FCA disagrees with the commenter's rationale for how reciprocal 
investments should be counted. Reciprocal investments must be 
eliminated from the capital calculations because the exchange of 
reciprocal stock creates no tangible worth or resources to absorb loss. 
This is a characteristic of all reciprocal investments, irrespective of 
the reasons why the reciprocal investment was made. It is not 
appropriate for any institution to be exempted from this treatment, as 
the commenter implies. Placing the requirement in the capital 
regulations ensures that all institutions calculate their capital in 
the same way, and that the Agency, investors, and others are then able 
to make meaningful comparisons of one institution's capital ratios with 
another institution's ratios. The approach suggested by the commenter 
would add unnecessary and inappropriate inconsistencies in the capital 
calculations of institutions.
    The FCA Board also disagrees with the commenter's assertion that 
the newly added capital ratios make unnecessary the elimination of 
reciprocal investments in the permanent capital calculation. On the 
contrary, the new ratios have not diminished the importance of the 
permanent capital ratio as a reasonable indication of an institution's 
available permanent capital. The permanent capital ratio continues to 
be a key measurement in several important respects. An institution's 
lending limit is based on its level of permanent capital and specifies 
how large a loan or loans the institution can make to a single 
borrower. The institution is statutorily prohibited from retiring stock 
when its permanent capital is below the required minimum. Finally, with 
the adoption of this rule, if an institution's permanent capital falls 
below a level equal to one-half of the required minimum, a regulatory 
ground for appointing a conservator or receiver exists.
    The commenter's assumption that a bank's investment in an 
association is included in the bank's net collateral is incorrect. 
Section 615.5301(c) of the regulations provides that net collateral is 
the value of a bank's collateral as defined by Sec. 615.5050, less an 
amount equal to the bank's allocations to associations that are not 
counted as permanent capital by the bank. Section 615.5050 does not 
include a bank's investment in an association in bank collateral, but 
does include the following:
    <bullet> Notes and other obligations representing loans made under 
the Act;
    <bullet> Real or personal property acquired in connection with 
loans made under the Act;
    <bullet> Obligations of the United States or an agency thereof;
    <bullet> Other bank assets (including marketable securities) 
approved by the FCA; and
    <bullet> Cash or cash equivalents.
    The Agency notes that the commenter may have assumed that, because 
its investments in its associations were approved by the FCA pursuant 
to Sec. 615.5171, they qualify for inclusion in collateral as ``other 
bank assets . . . approved by the Farm Credit Administration.'' This is 
an incorrect interpretation of the collateral definition, which covers 
only bank assets that have been approved by the Agency specifically for 
inclusion as collateral. As is clear from the list of assets that may 
count as collateral, only highly liquid investments qualify. A bank's 
investment in an affiliated association is not liquid: there is no 
market for the stock, and--as the commenter points out--the bank does 
not have access to the investment. Consequently, it would be 
inappropriate to include the bank's investment in its associations in 
the net collateral.
2. Computation of Total and Core Surplus Ratios
    The FCA Board clarifies the treatment of intra-System equity 
investments and other deductions in the computations of total and core 
surplus. For the calculation of total surplus, Sec. 615.5301(i)(7) is 
amended to more clearly require the same deductions as those made in 
the computation of permanent capital. In addition, paragraphs (a)(2) 
and (a)(3) of Sec. 615.5330, which specify how a bank and an 
association treat an association's investment in its bank in the 
calculation of total surplus, are eliminated because the treatment is 
now covered by revised Sec. 615.5301(i)(7). No comments were received 
on the proposed amendments to the total surplus calculation, and they 
are adopted without change.
    With respect to core surplus, Sec. 615.5301(b)(4) is amended to 
require the deduction of most intra-System investments in the 
computation of the core surplus of both the investing and the issuing 
institutions. However, investments to capitalize loan participations 
are not deducted from the investing institution's core surplus. In the 
preamble to the proposed rule, the FCA invited comment on this approach 
and an alternative approach of eliminating intra-System investments 
relating to loan participations from the core surplus of the investing 
institution. No comments were received on this issue, and the FCA Board 
finds no reason to revise its earlier proposal; thus, the amendment is 
adopted as proposed.
    The core surplus computation in existing Sec. 615.5301(b)(3) is 
amended to require institutions to make adjustments for loss-sharing 
agreements and for deferred-tax assets, as well as for investments in 
the Farm Credit Services Leasing Corporation (Leasing Corporation) and 
for goodwill. No comments were received on this proposal, and the 
proposal is adopted without change.
3. Investments in Service Corporations
    The FCA Board amends Sec. 615.5210(e)(6) to require an institution 
to deduct its investments in service corporations from total capital 
for purposes of computing permanent capital. This is an expansion of 
the existing regulation, which requires an institution to deduct only 
its investment in the Leasing Corporation. The change conforms to the 
Agency's view that such capital investments are committed to support 
risks at the service corporation level and that such capital 
investments must be available to meet any capital needs of the service 
corporation. The investing institution must also deduct the investments 
when calculating its core and total surplus. The FCA received no 
comments on the proposed provision and adopts it with only minor 
technical changes.

D. Farm Credit System Financial Assistance Corporation (FAC) 
Obligations

    The FCA amends 615.5210(a) to provide that Farm Credit institutions 
shall exclude FAC obligations from their balance sheets only if such 
obligations were issued to pay capital preservation

[[Page 39223]]

and loss-sharing agreements. This amendment conforms the regulation to 
the language of section 6.9(e)(3)(E) of the Act and narrows the 
existing regulation, which excludes all FAC obligations from 
institutions' balance sheets. The Agency received no comments on this 
provision and adopts it as proposed.

E. Risk-Weighting Categories and Credit Conversion Factors for 
Calculating Risk-Adjusted Assets

    The FCA Board adopts modifications to the risk-weighting categories 
for on-and off-balance-sheet assets in Sec. 615.5210(f) and adds 
related definitions in Sec. 615.5201. The modifications provide a more 
accurate weighting of assets relative to their risk and incorporate 
recent changes to the Basle Accord,\6\ as well as provide consistency 
with the requirements of the other Federal financial institution 
regulatory agencies. No comments were received on the proposed 
revisions, and the FCA Board adopts without change the following 
revisions:
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    \6\ Agreed to by the Committee on Banking Regulations and 
Supervisory Practices, under the auspices of the Bank for 
International Settlements in Basle, Switzerland. Under this 
agreement the other Federal financial institution regulatory 
agencies that are signatories to the Accord are bound to consider 
such direction and revise their regulations accordingly. The FCA, 
for consistency purposes, also chooses to consider and revise its 
regulations, as appropriate to the System.
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    <bullet> The elimination of the 10-percent category in 
Sec. 615.5210(f)(2)(ii);
    <bullet> The 20-percent risk-weighting category that includes 
conditional guarantees and Government-sponsored agency securities not 
backed by the full faith and credit of the U.S. Government;
    <bullet> Language distinguishing the Organization for Economic 
Cooperation and Development (OECD)-based group of countries from non-
OECD-based countries; and
     Credit conversion factors for derivative transactions.
    Additionally, in new Sec. 615.5201(m)(2), which defines 
``qualifying bilateral netting contract,'' a definition of the term 
``walkaway clause'' has been added.
    The FCA Board also adopts an amendment to change the risk weighting 
for unused commitments with an original maturity of less than 14 months 
to zero percent. Under the existing regulation, the zero-percent 
category applies to loan commitments of up to only 12 months. One 
commenter supported the proposed change but recommended that unused 
loan commitments with an original maturity of 14 to 25 months be risk-
weighted at 10 percent and that those of longer original maturity be 
risk-weighted at 20 percent; currently, any unused commitments in 
excess of 12 months are risk-weighted at 50 percent. The commenter 
stated that such changes would not be material in terms of risk and 
would allow Farm Credit institutions to offer more timely service at a 
lower cost to the institutions. The FCA agrees with the commenter that 
lowering the risk weighting of loans or other assets could potentially 
lower the costs of institutions that do not presently have capital well 
in excess of their minimum requirements. However, the Agency disagrees 
with the commenter's assertion that such changes would not be material 
in terms of risk. On the contrary, the changes would enable Farm Credit 
institutions to increase loan commitments by two to five times without 
a corresponding increase in the amount of capital required to be held. 
Thus, the final rule does not reduce the 50-percent risk weighting on 
loan commitments with an original maturity of greater than 14 months.
    As stated in the preamble to the proposed regulations, the FCA 
intends to make the risk-weighting requirements of its regulations 
consistent with the requirements of the other Federal financial 
institution regulatory agencies, to the extent appropriate to the 
System. In this case, the FCA Board believes it is appropriate to 
extend the zero-percent risk-weighting category to loans with an 
original maturity of 14 months, even though this is a deviation from 
the 12-month zero-percent risk-weighting category of the other 
regulators. Farm Credit institutions are more directly affected by the 
seasonal cycles of agriculture than are most commercial banks and 
thrifts because of the System's agriculture-specific charter. Extending 
the zero-percent category by 2 months will not increase materially the 
risk in System institutions' portfolios. A 14-month category for zero-
percent risk weighting takes into consideration the fact that many Farm 
Credit institutions make loans on an annual renewal cycle. The practice 
of these institutions is to perform the credit review and subsequent 
commitment 30 to 60 days prior to the end of the current loan 
commitment in order to have loan commitments in place at the beginning 
of each annual cycle. The revision adopted by the FCA Board will enable 
institutions to risk-weight these annual loan commitments at zero 
percent without substantially raising the associated risk.
    The System's joint comment recommended that the FCA adopt, as 
final, a risk-weighting change proposed by the other Federal financial 
institution regulatory agencies in November 1997. The other agencies 
proposed to revise the risk-based capital treatment of recourse 
obligations, direct credit substitutes, and securitized transactions. 
One proposed revision of the other regulators would lower the risk 
weighting for AAA-rated asset-backed securities from 100 percent to 20 
percent. The System asked in its joint comment that the Agency 
incorporate this change when it adopts these capital regulations in 
final form, asserting that it is unlikely that the amendment proposed 
by the other agencies will be challenged. FCA staff's discussions with 
the other regulators indicated no final decisions are imminent as to 
what the other agencies' final rule will address and when it will be 
adopted. The FCA Board believes that a change to FCA's current risk 
weighting of such assets is not appropriate at this time. However, the 
Agency will continue to monitor the efforts of the other regulatory 
agencies and evaluate the appropriateness of FCA's capital requirements 
should the other regulatory agencies implement a 20-percent risk 
weighting for AAA-rated asset-backed securities.

VII. Other Issues

A. Retirement of Certain Allocated Equities Included in Core Surplus

    The FCA Board amends Sec. 615.5301(b)(2) to generally disallow 
certain allocated equities from treatment as association core surplus 
in the event of partial retirements of similar equities allocated in 
the same year. However, the revised regulation allows certain allocated 
equities to remain a part of core surplus when: (1) Partial retirements 
are required by section 4.14B of the Act, (2) an equityholder has 
defaulted on a loan, or (3) an equityholder whose loan has been repaid 
has died, and the institution's capital plan provides for retirement in 
that circumstance.
    Previously, the regulation did not specifically address partial 
retirements of the type of allocated equities that associations may 
include in core surplus pursuant to Sec. 615.5301(b)(2). By this 
change, treatment of such allocated equities is consistent with the 
treatment in Sec. 615.5301(b)(1)(ii) of nonqualified allocated equities 
not distributed according to a plan or practice. The Agency had 
intended to treat partial retirements of all allocated equities in the 
same way. The change makes the consistent treatment clear for all types 
of allocated equities. The Agency received no comments on this 
provision and adopts it as proposed.

[[Page 39224]]

B. Ensuring Two Nominees for Each Bank Director's Position and Ensuring 
Representation on the Board of All Types of Agriculture in the District

    Pursuant to section 4.15 of the Act, a new Sec. 615.5230(b)(5) is 
added to require banks to make a good faith effort to locate at least 
two nominees for each director position and to try to assure 
representation on the board that is reflective of the bank's territory. 
The Agency proposed these changes to implement the statutory 
requirement to adopt regulations assuring a choice for bank director 
positions and board diversity. The regulation requires written 
documentation of the effort a bank makes in the event it is unable to 
find at least two nominees for each position. The bank must also keep a 
record of the type of agriculture engaged in by each director on its 
board. In addition, a reference is added in Sec. 611.350, the subpart 
on director elections, to the cooperative principles set forth in 
Sec. 615.5230 that apply to such elections.
    One commenter asserted that the new regulations should not apply to 
situations where directors are nominated by shareholders rather than by 
a nominating committee. (The Act requires only associations to utilize 
a nominating committee, but other institutions may also choose to do 
so.) A Farm Credit bank submitted a comment in which it described its 
nominating process: the bank sends ballots to all eligible shareholders 
to solicit nominations for director positions, and the two individuals 
receiving the highest number of votes become the nominees. In the event 
that one of the nominees withdraws from the election, the bank asks the 
candidate with the third-highest number of votes to run, but the bank 
is sometimes unsuccessful. Consequently, only one candidate remains for 
the office.
    The Agency is not persuaded by the Farm Credit bank's assertion 
that, because the bank uses a shareholder nomination process rather 
than a nominating committee, it should not have to document in writing 
its attempts to assure at least two nominees for each director 
position. Section 4.15 of the Act states in pertinent part that FCA 
regulations on the election of bank directors shall ``assure a choice 
of two nominees for each elective office to be filled;'' the Act makes 
no reference to nominating committees. Institutions must make good 
faith efforts to assure at least two candidates, but the Agency does 
not intend or expect the written documentation of these efforts to be 
burdensome. The bank needs merely to provide a brief but reasonable 
description of its efforts to seek a second nominee for inclusion in 
its records. This regulation does not require two nominees for each 
position. Instead, it requires documentation of the bank's efforts to 
secure at least two nominees. The FCA Board adopts the regulation 
without change from the proposal.

C. Statement of Financial Accounting Standards (SFAS) No. 130, 
Reporting Comprehensive Income

    Sections 615.5210(e)(10), 615.5301(b)(5), and 615.5301(i)(4) are 
amended to extend the exclusion currently applicable to unrealized 
gains or losses on available-for-sale securities to all transactions 
covered by the definition of ``accumulated other comprehensive income'' 
contained in the Financial Accounting Standards Board's (FASB) recently 
issued SFAS No. 130, Reporting Comprehensive Income. SFAS No. 130 sets 
forth standards for reporting and displaying comprehensive income in a 
full set of financial statements for fiscal years beginning after 
December 15, 1997. Transactions covered by this new statement will be 
reported as a separate component of the equity (capital) section in the 
statement of financial position.
    The amendments are adopted in response to a suggestion made in the 
System's joint comment. The Agency did not propose any changes to the 
regulations in the proposed rule, on the ground that it saw no 
compelling reasons to limit the impact of SFAS No. 130. But in the 
preamble to the proposed rule, the FCA Board invited comment on what 
effect, if any, SFAS No. 130 should have on the current capital 
standards.
    The System, in its joint comment, recommended that the Agency amend 
the capital regulations to extend the exclusion currently applicable to 
unrealized gains or losses on available-for-sale securities to all 
transactions defined by SFAS No. 130 as ``accumulated other 
comprehensive income.'' The commenter pointed out that the current 
capital regulations at Sec. 615.5210(e)(10) exclude the net impact of 
unrealized gains or losses on available-for-sale securities from the 
computation of permanent capital. The commenter observed that the items 
included in the category of ``other comprehensive income'' pursuant to 
SFAS No. 130 are similar in nature to such unrealized gains or losses 
and that it would be appropriate to treat them in the same way.
    The FCA Board is persuaded by the System's joint comment and adopts 
the System's suggested change. The Agency agrees that it is generally 
more appropriate to treat components of capital with comparable 
characteristics and terms in a like manner under the capital standards. 
However, in the event that the FCA determines that an individual 
component, entry, or account has characteristics or terms that diminish 
its contribution to an institution's ability to absorb losses, 
Secs. 615.5301(b)(6) and 615.5301(f)(6) of the current regulations 
provide the Agency with sufficient flexibility to require the deduction 
of all or a portion of such a component, entry, or account from core 
surplus or total surplus.

D. Conforming Amendments

    The FCA Board adopts several other clarifying changes to wording of 
the total surplus and core surplus definitions. Paragraphs (b)(1)(ii) 
and (iii), (b)(2), and (i)(2) and (3) of Sec. 615.5301 are amended to 
provide additional clarity to the definitions. Paragraph (b)(1)(ii) is 
amended to clarify that the term ``allocated equities'' includes 
allocated stock. The FCA is concerned that some institutions may 
otherwise interpret the regulation as permitting institutions to treat 
allocated stock either as allocated equities (as described in 
paragraphs (b)(1)(ii) and (b)(2)) or as perpetual stock (as described 
in paragraphs (b)(1)(iii) and (i)(3)) when calculating core and total 
surplus. In fact, the allocated stock must be treated as allocated 
equities in the calculations. The FCA is also changing 
Sec. 615.5301(b)(2) to clarify that, for purposes of the capital ratio 
calculations, ``revolvement'' of allocated equities means any 
retirement of those equities, whether or not the institution has a 
formal revolvement plan. This change is made to avoid the implication 
that revolvement means something other than retirement.
    Furthermore, in Sec. 615.5301(b)(2)(ii), the phrase ``if subject to 
revolvement, are not scheduled for revolvement during the next 3 
years'' is replaced with the phrase ``if subject to a plan or practice 
of revolvement or retirement, are not scheduled or intended to be 
revolved or retired during the next 3 years'' in order to parallel more 
closely the language in paragraphs (b)(1)(ii) and (iii) of 
Sec. 615.5301. A parallel change is made to Sec. 615.5301(i)(2) by 
replacing the phrase `` which, if subject to revolvement of retirement, 
have an original planned revolvement or retirement date of not less 
than 5 years'' with the phrase ``that are not subject to a plan or 
practice of revolvement or retirement of 5 years or less.'' These 
changes clarify that ``subject to

[[Page 39225]]

revolvement'' has the same meaning as the other references to a plan or 
practice of revolvement or retirement in the core surplus and total 
surplus definitions.
    The Agency amends Sec. 620.5 to require institutions to disclose 
information on their surplus and collateral ratios in the annual report 
to shareholders. Conforming, nonsubstantive changes are also adopted in 
Sec. 615.5201(h) to replace ``allocation'' with ``allotment'' and in 
Secs. 615.5210(b) and 615.5260(a)(3)(ii) to remove obsolete language. 
These amendments are adopted without change from the proposed rule.

List of Subjects

12 CFR Part 611

    Agriculture, Banks, banking, Rural areas.

12 CFR Part 615

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

12 CFR Part 620

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

12 CFR Part 627

    Agriculture, Banks, banking, Claims, Rural areas.

    For the reasons stated in the preamble, parts 611, 615, 620, and 
627 of chapter VI, title 12 of the Code of Federal Regulations are 
amended to read as follows:

PART 611--ORGANIZATION

    1. The authority citation for part 611 continues to read as 
follows:

    Authority: Secs. 1.3, 1.13, 2.0, 2.10, 3.0, 3.21, 4.12, 4.15, 
4.21, 5.9, 5.10, 5.17, 7.0-7.13, 8.5(e) of the Farm Credit Act (12 
U.S.C. 2011, 2021, 2071, 2091, 2121, 2142, 2183, 2203, 2209, 2243, 
2244, 2252, 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.

Subpart C--Election of Directors

    2. Section 611.350 is added to read as follows:


Sec. 611.350  Application of cooperative principles to the election of 
directors.

    In the election of directors, each System institution shall comply 
with the applicable cooperative principles set forth in Sec. 615.5230 
of this chapter.

Subpart I--Service Organizations

    3. Section 611.1135 is amended by revising paragraphs (b)(4) and 
(c) to read as follows:


Sec. 611.1135  Incorporation of service organizations.

* * * * *
    (b) * * *
    (4) The proposed bylaws, which shall include the provisions 
required by Sec. 615.5220(b) of this chapter.
* * * * *
    (c) Approval. The Farm Credit Administration may condition the 
issuance of a charter, including imposing minimum capital requirements, 
as it deems appropriate. For good cause, the Farm Credit Administration 
may deny the application. Upon approval by the Farm Credit 
Administration of a completed application, which shall be kept on file 
at the Farm Credit Administration, the Agency shall issue a charter for 
the service corporation which shall thereupon become a corporate body 
and a Federal instrumentality.
* * * * *

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

    4. 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 E--Investment Management

    5. Section 615.5135 is amended by removing the first sentence of 
the introductory paragraph and adding two sentences in its place to 
read as follows:


Sec. 615.5135  Management of interest rate risk.

    The board of directors of each Farm Credit Bank, bank for 
cooperatives, and agricultural credit bank shall develop and implement 
an interest rate risk management program as set forth in subpart G of 
this part. The board of directors shall adopt an interest rate risk 
management section of an asset/liability management policy which 
establishes interest rate risk exposure limits as well as the criteria 
to determine compliance with these limits. * * *
* * * * *
    6. A new subpart G is added to read as follows:

Subpart G--Risk Assessment and Management

Sec.
615.5180  Interest rate risk management by banks--general.
615.5181  Bank interest rate risk management program.
615.5182  Interest rate risk management by associations and other 
Farm Credit System institutions other than banks.

Subpart G--Risk Assessment and Management


Sec. 615.5180  Interest rate risk management by banks--general.

    The board of directors of each Farm Credit Bank, bank for 
cooperatives, and agricultural credit bank shall develop and implement 
an interest rate risk management program tailored to the needs of the 
institution and consistent with the requirements set forth in 
Sec. 615.5135 of this part. The program shall establish a risk 
management process that effectively identifies, measures, monitors, and 
controls interest rate risk.


Sec. 615.5181  Bank interest rate risk management program.

    (a) The board of directors of each Farm Credit Bank, bank for 
cooperatives, and agricultural credit bank is responsible for providing 
effective oversight to the interest rate risk management program and 
must be knowledgeable of the nature and level of interest rate risk 
taken by the institution.
    (b) Senior management is responsible for ensuring that interest 
rate risk is properly managed on both a long-range and a day-to-day 
basis.


Sec. 615.5182  Interest rate risk management by associations and other 
Farm Credit System institutions other than banks.

    Any association or other Farm Credit System institution other than 
banks, excluding the Federal Agricultural Mortgage Corporation, with 
interest rate risk that could lead to significant declines in net 
income or in the market value of capital shall comply with the 
requirements of Secs. 615.5180 and 615.5181. The interest rate risk 
management program required under Sec. 615.5181 shall be commensurate 
with the level of interest rate risk of the institution.

Subpart H--Capital Adequacy


Sec. 615.5201  [Amended]

    7. Section 615.5201 is amended by removing the word ``allocation'' 
and adding in its place, the word ``allotment'' in paragraph (h); 
redesignating paragraphs (d), (e), (f), (g),

[[Page 39226]]

(h), (i), (j), (k), (l), (m), and (n) as paragraphs (e), (f), (g), (h), 
(i), (k), (l), (n), (o), (p), and (q) respectively; and adding new 
paragraphs (d), (j), and (m) to read as follows:


Sec. 615.5201  Definitions.

* * * * *
    (d) Deferred-tax assets that are dependent on future income or 
future events means:
    (1) Deferred-tax assets arising from deductible temporary 
differences dependent upon future income that exceed the amount of 
taxes previously paid that could be recovered through loss carrybacks 
if existing temporary differences (both deductible and taxable and 
regardless of where the related tax-deferred effects are recorded on 
the institution's balance sheet) fully reverse;
    (2) Deferred-tax assets dependent upon future income arising from 
operating loss and tax carryforwards; or
    (3) Deferred-tax assets arising from temporary differences that 
could be recovered if existing temporary differences that are dependent 
upon other future events (both deductible and taxable and regardless of 
where the related tax-deferred effects are recorded on the 
institution's balance sheet) fully reverse.
* * * * *
    (j) OECD means the group of countries that are full members of the 
Organization for Economic Cooperation and Development, regardless of 
entry date, as well as countries that have concluded special lending 
arrangements with the International Monetary Fund's General Arrangement 
to Borrow, excluding any country that has rescheduled its external 
sovereign debt within the previous 5 years.
* * * * *
    (m) Qualifying bilateral netting contract means a bilateral netting 
contract that meets at least the following conditions:
    (1) The contract is in writing;
    (2) The contract is not subject to a walkaway clause, defined as a 
provision that permits a non-defaulting counterparty to make lower 
payments than it would make otherwise under the contract, or no payment 
at all, to a defaulter or to the estate of a defaulter, even if the 
defaulter or the estate of the defaulter is a net creditor under the 
contract;
    (3) The contract creates a single obligation either to pay or to 
receive the net amount of the sum of positive and negative mark-to-
market values for all derivative contracts subject to the qualifying 
bilateral netting contract;
    (4) The institution receives a legal opinion that represents, to a 
high degree of certainty, that in the event of legal challenge the 
relevant court and administrative authorities would find the 
institution's exposure to be the net amount;
    (5) The institution establishes a procedure to monitor relevant law 
and to ensure that the contracts continue to satisfy the requirements 
of this section; and
    (6) The institution maintains in its files adequate documentation 
to support the netting of a derivatives contract.
* * * * *
    8. Section 615.5210 is amended by adding new paragraph (e)(11); 
removing paragraph (f)(2)(v); and revising paragraphs (a), (b), (e) 
introductory text, (e)(1), (e)(6), (e)(10), (f)(2)(i), (f)(2)(ii), 
heading of (f)(2)(iii), (f)(2)(iv), (f)(3)(ii)(A), and (f)(3)(iii) to 
read as follows:


Sec. 615.5210  Computation of the permanent capital ratio.

    (a) The institution's permanent capital ratio shall be determined 
on the basis of the financial statements of the institution prepared in 
accordance with generally accepted accounting principles except that 
the obligations of the Farm Credit System Financial Assistance 
Corporation issued to repay banks in connection with the capital 
preservation and loss-sharing agreements described in section 6.9(e)(1) 
of the Act shall not be considered obligations of any institution 
subject to this regulation prior to their maturity.
    (b) The institution's asset base and permanent capital shall be 
computed using average daily balances for the most recent 3 months.
* * * * *
    (e) For the purpose of computing the institution's permanent 
capital ratio, the following adjustments shall be made prior to 
assigning assets to risk-weight categories and computing the ratio:
    (1) Where two Farm Credit System institutions have stock 
investments in each other, such reciprocal holdings shall be eliminated 
to the extent of the offset. If the investments are equal in amount, 
each institution shall deduct from its assets and its total capital an 
amount equal to the investment. If the investments are not equal in 
amount, each institution shall deduct from its total capital and its 
assets an amount equal to the smaller investment. The elimination of 
reciprocal holdings required by this paragraph shall be made prior to 
making the other adjustments required by this section.
* * * * *
    (6) The double-counting of capital by a service corporation 
chartered under section 4.25 of the Act and its stockholder 
institutions shall be eliminated by deducting an amount equal to the 
institution's investment in the service corporation from its total 
capital.
* * * * *
    (10) The permanent capital of an institution shall exclude the net 
effect of all transactions covered by the definition of ``accumulated 
other comprehensive income'' contained in the Statement of Financial 
Accounting Standards No. 130, as promulgated by the Financial 
Accounting Standards Board.
    (11) For purposes of calculating capital ratios under this part, 
deferred-tax assets are subject to the conditions, limitations, and 
restrictions described in this paragraph.
    (i) Each institution shall deduct an amount of deferred-tax assets, 
net of any valuation allowance, from its assets and its total capital 
that is equal to the greater of:
    (A) The amount of deferred-tax assets that are dependent on future 
income or future events in excess of the amount that is reasonably 
expected to be realized within 1 year of the most recent calendar 
quarter-end date, based on financial projections for that year, or
    (B) The amount of deferred-tax assets that are dependent on future 
income or future events in excess of ten (10) percent of the amount of 
core surplus that exists before the deduction of any deferred-tax 
assets.
    (ii) For purposes of this calculation:
    (A) The amount of deferred-tax assets that can be realized from 
taxes paid in prior carryback years and from the reversal of existing 
taxable temporary differences shall not be deducted from assets and 
from equity capital.
    (B) All existing temporary differences should be assumed to fully 
reverse at the calculation date.
    (C) Projected future taxable income should not include net 
operating loss carryforwards to be used within 1 year or the amount of 
existing temporary differences expected to reverse within that year.
    (D) Financial projections shall include the estimated effect of 
tax-planning strategies that are expected to be implemented to minimize 
tax liabilities and realize tax benefits. Financial projections for the 
current fiscal year (adjusted for any significant changes that have 
occurred or are expected to occur) may be used when applying the 
capital limit at an interim date within the fiscal year.
    (E) The deferred tax effects of any unrealized holding gains and 
losses on

[[Page 39227]]

available-for-sale debt securities may be excluded from the 
determination of the amount of deferred-tax assets that are dependent 
upon future taxable income and the calculation of the maximum allowable 
amount of such assets. If these deferred-tax effects are excluded, this 
treatment must be followed consistently over time.
    (f) * * *
    (2) * * *
    (i) Category 1: 0 Percent.
    (A) Cash on hand and demand balances held in domestic or foreign 
banks.
    (B) Claims on Federal Reserve Banks.
    (C) Goodwill.
    (D) Direct claims on and portions of claims unconditionally 
guaranteed by the United States Treasury, United States Government 
agencies, or central governments in other OECD countries. A United 
States Government agency is defined as an instrumentality of the United 
States Government whose obligations are fully and explicitly guaranteed 
as to the timely repayment of principal and interest by the full faith 
and credit of the United States Government.
    (ii) Category 2: 20 Percent. 
    (A) Portions of loans and other assets collateralized by United 
States Government-sponsored agency securities. A United States 
Government-sponsored agency is defined as an agency originally 
chartered or established to serve public purposes specified by the 
United States Congress but whose obligations are not explicitly 
guaranteed by the full faith and credit of the United States 
Government.
    (B) Portions of loans and other assets conditionally guaranteed by 
the United States Government or its agencies.
    (C) Portions of loans and other assets collateralized by securities 
issued or guaranteed (fully or partially) by the United States 
Government or its agencies (but only to the extent guaranteed).
    (D) Claims on domestic banks (exclusive of demand balances).
    (E) Claims on, or guarantees by, OECD banks.
    (F) Claims on non-OECD banks with a remaining maturity of 1 year or 
less.
    (G) Investments in State and local government obligations backed by 
the ``full faith and credit of State or local government.'' Other 
claims (including loans) and portions of claims guaranteed by the full 
faith and credit of a State government (but only to the extent 
guaranteed).
    (H) Claims on official multinational lending institutions or 
regional development institutions in which the United States Government 
is a shareholder or contributor.
    (I) Loans and other obligations of and investments in Farm Credit 
institutions.
    (J) Local currency claims on foreign central governments to the 
extent that the Farm Credit institution has local liabilities in that 
country.
    (K) Cash items in the process of collection.
    (iii) Category 3: 50 Percent.
* * * * *
    (iv) Category 4: 100 Percent.
    (A) All other claims on private obligors.
    (B) Claims on non-OECD banks with a remaining maturity greater than 
1 year.
    (C) All other assets not specified above, including but not limited 
to, leases, fixed assets, and receivables.
    (D) All non-local currency claims on foreign central governments, 
as well as local currency claims on foreign central governments that 
are not included in Category 2(J).
    (3) * * *
    (ii) * * *
    (A) 0 Percent.
    (1) Unused commitments with an original maturity of 14 months or 
less; or
    (2) Unused commitments with an original maturity of greater than 14 
months if:
* * * * *
    (iii) Credit equivalents of interest rate contracts and foreign 
contracts.
    (A) Credit equivalents of interest rate contracts and foreign 
exchange contracts (except single currency floating/floating interest 
rate swaps) shall be determined by adding the replacement cost (mark-
to-market value, if positive) to the potential future credit exposure, 
determined by multiplying the notional principal amount by the 
following credit conversion factors as appropriate.

                        Conversion Factor Matrix                        
                              [In Percent]                              
------------------------------------------------------------------------
                                     Interest     Exchange              
        Remaining maturity             rate         rate      Commodity 
------------------------------------------------------------------------
1 year or less...................          0.0          1.0         10.0
Over 1 to 5 years................          0.5          5.0         12.0
Over 5 years.....................          1.5          7.5         15.0
------------------------------------------------------------------------

    (B) For any derivative contract that does not fall within one of 
the categories in the above table, the potential future credit exposure 
shall be calculated using the commodity conversion factors. The net 
current exposure for multiple derivative contracts with a single 
counterparty and subject to a qualifying bilateral netting contract 
shall be the net sum of all positive and negative mark-to-market values 
for each derivative contract. The positive sum of the net current 
exposure shall be added to the adjusted potential future credit 
exposure for the same multiple contracts with a single counterparty. 
The adjusted potential future credit exposure shall be computed as

A<INF>net</INF> = (0.4  x  A<INF>gross</INF>) + 0.6 (NGR  x  
A<INF>gross</INF>) where:
    (1) A<INF>net</INF> is the adjusted potential future credit 
exposure;
    (2) A<INF>gross</INF> is the sum of potential future credit 
exposures determined by multiplying the notional principal amount by 
the appropriate credit conversion factor; and
    (3) NGR is the ratio of the net current credit exposure divided by 
the gross current credit exposure determined as the sum of only the 
positive mark-to-markets for each derivative contract with the single 
counterparty.
* * * * *

Subpart I--Issuance of Equities

    9. Section 615.5220 is amended by redesignating paragraphs (a) 
through (h) as paragraphs (1) through (8) consecutively; by adding the 
paragraph designation ``(a)'' to the introductory text; and by adding a 
new paragraph (b) to read as follows:


Sec. 615.5220  Capitalization bylaws.

* * * * *
    (b) The board of directors of each service corporation (including 
the Farm Credit Leasing Services Corporation) shall adopt 
capitalization bylaws, subject to the approval of its voting 
shareholders, that set forth the

[[Page 39228]]

requirements of paragraphs (a)(1), (a)(2), and (a)(3) of this section 
to the extent applicable. Such bylaws shall also set forth the manner 
in which equities will be retired and the manner in which earnings will 
be distributed.
    10. Section 615.5230 is amended by adding a new paragraph (b)(5) to 
read as follows:


Sec. 615.5230  Implementation of cooperative principles.

* * * * *
    (b) * * *
    (5) Each bank shall 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 of the bank to locate two willing nominees shall be documented 
in the records of the bank. The bank shall also maintain a list of the 
type or types of agriculture engaged in by each director on its board.

Subpart J--Retirement of Equities

    11. Section 615.5260 is amended by revising paragraph (a)(3)(ii) to 
read as follows:


Sec. 615.5260  Retirement of eligible borrower stock.

    (a) * * *
    (3) * * *
    (ii) In the case of participation certificates and other equities, 
face or equivalent value; or
* * * * *

Subpart K--Surplus and Collateral Requirements

    12. Section 615.5301 is amended by revising paragraphs (a), 
(b)(1)(ii), (b)(1)(iii), (b)(2)(ii), (b)(3), (b)(4), (b)(5), (i)(2), 
(i)(3), (i)(4), and (i)(7) to read as follows:


Sec. 615.5301  Definitions.

* * * * *
    (a) The terms deferred-tax assets that are dependent on future 
income or future events, institution, permanent capital, and total 
capital shall have the meanings set forth in Sec. 615.5201.
    (b) * * *
    (1) * * *
    (ii) Nonqualified allocated equities (including stock) that are not 
distributed according to an established plan or practice, provided 
that, in the event that a nonqualified patronage allocation is 
distributed, other than as required by section 4.14B of the Act, or in 
connection with a loan default or the death of an equityholder whose 
loan has been repaid (to the extent provided for in the institution's 
capital adequacy plan), any remaining nonqualified allocations that 
were allocated in the same year will be excluded from core surplus.
    (iii) Perpetual common or noncumulative perpetual preferred stock 
(other than allocated stock) that is not retired according to an 
established plan or practice, provided that, in the event that stock 
held by a borrower is retired, other than as required by section 4.14B 
of the Act or in connection with a loan default to the extent provided 
for in the institution's capital plan, the remaining perpetual stock of 
the same class or series shall be excluded from core surplus;
* * * * *
    (2) * * *
    (ii) The allocated equities, if subject to a plan or practice of 
revolvement or retirement, are not scheduled or intended to be revolved 
or retired during the next 3 years, provided that, in the event that 
such allocated equities included in core surplus are retired, other 
than as required by section 4.14B of the Act, or in connection with a 
loan default or the death of an equityholder whose loan has been repaid 
(to the extent provided for in the institution's capital adequacy 
plan), any remaining such allocated equities that were allocated in the 
same year will be excluded from core surplus.
    (3) The deductions required to be made by an institution in the 
computation of its permanent capital pursuant to Sec. 615.5210(e) (6), 
(7), (9), and (11) shall also be made in the computation of its core 
surplus. Deductions required by Sec. 615.5210(e)(1) shall also be made 
to the extent that they do not duplicate deductions calculated pursuant 
to this section and required by Sec. 615.5330(b)(2).
    (4) Equities issued by System institutions and held by other System 
institutions shall not be included in the core surplus of the issuing 
institution or of the holder, unless approved pursuant to paragraph 
(b)(1)(iv) of this section, except that equities held in connection 
with a loan participation shall not be excluded by the holder. This 
paragraph shall not apply to investments by an association in its 
affiliated bank, which are governed by Sec. 615.5301(b)(1)(i).
    (5) The core surplus of an institution shall exclude the net effect 
of all transactions covered by the definition of ``accumulated other 
comprehensive income'' contained in the Statement of Financial 
Accounting Standards No. 130, as promulgated by the Financial 
Accounting Standards Board.
* * * * *
    (i) * * *
    (2) Allocated equities, including allocated surplus and stock, that 
are not subject to a plan or practice of revolvement or retirement of 5 
years or less and are eligible to be included in permanent capital 
pursuant to Sec. 615.5201(j)(4)(iv); and
    (3) Stock (other than allocated stock) that is not purchased or 
held as a condition of obtaining a loan, provided that it is either 
perpetual stock or term stock with an original maturity of at least 5 
years, and provided that the institution has no established plan or 
practice of retiring such perpetual stock or of retiring such term 
stock prior to its stated maturity. The amount of term stock that is 
eligible to be included in total surplus shall be reduced by 20 percent 
(net of redemptions) at the beginning of each of the last 5 years of 
the term of the instrument.
    (4) The total surplus of an institution shall exclude the net 
effect of all transactions covered by the definition of ``accumulated 
other comprehensive income'' contained in the Statement of Financial 
Accounting Standards No. 130, as promulgated by the Financial 
Accounting Standards Board.
* * * * *
    (7) Any deductions made by an institution in the computation of its 
permanent capital pursuant to Sec. 615.5210(e) shall also be made in 
the computation of its total surplus.
    13. Section 615.5330 is revised to read as follows:


Sec. 615.5330  Minimum surplus ratios.

    (a) Total surplus. (1) Each institution shall achieve and at all 
times maintain a ratio of a least 7 percent of total surplus to the 
risk-adjusted asset base.
    (2) The risk-adjusted asset base is the total dollar amount of the 
institution's assets adjusted in accordance with Sec. 615.5301(i)(7) 
and weighted on the basis of risk in accordance with Sec. 615.5210(f).
    (b) Core surplus. (1) Each institution shall achieve and at all 
times maintain a ratio of core surplus to the risk-adjusted asset base 
of a least 3.5 percent, of which no more than 2 percentage points may 
consist of allocated equities otherwise includible pursuant to 
Sec. 615.5301(b).
    (2) Each association shall compute its core surplus ratio by 
deducting an amount equal to the net investment in the bank from its 
core surplus.
    (3) The risk-adjusted asset base is the total dollar amount of the 
institution's

[[Page 39229]]

assets adjusted in accordance with Secs. 615.5301(b)(3) and 
615.5330(b)(2), and weighted on the basis of risk in accordance with 
Sec. 615.5210(f).
    (c) An institution shall compute its risk-adjusted asset base, 
total surplus, and core surplus ratios using average daily balances for 
the most recent 3 months.
    14. Section 615.5335 is revised to read as follows:


Sec. 615.5335  Bank net collateral ratio.

    (a) Each bank shall achieve and at all times maintain a net 
collateral ratio of at least 103 percent.
    (b) At a minimum, a bank shall compute its net collateral ratio as 
of the end of each month. A bank shall have the capability to compute 
its net collateral ratio a day after the close of a business day using 
the daily balances outstanding for assets and liabilities for that 
date.

Subpart L--Establishment of Minimum Capital Ratios for an 
Individual Institution

    15. Section 615.5350 is amended by adding a new paragraph (b)(7) to 
read as follows:


Sec. 615.5350  General--Applicability.

* * * * *
    (b) * * *
    (7) An institution with significant exposures to declines in net 
income or in the market value of its capital due to a change in 
interest rates and/or the exercising of embedded or explicit options.

Subpart M--Issuance of a Capital Directive

    16. Section 615.5355 is amended by revising paragraph (a)(4) to 
read as follows:


Sec. 615.5355  Purpose and scope.

    (a) * * *
    (4) Take other action, such as reduction of assets or the rate of 
growth of assets, restrictions on the payment of dividends or 
patronage, or restrictions on the retirement of stock, to achieve the 
applicable capital ratios, or reduce levels of interest rate and other 
risk exposures, or strengthen management expertise, or improve 
management information and measurement systems; or
* * * * *

PART 620--DISCLOSURE TO SHAREHOLDERS

    17. 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


Sec. 620.1  [Amended]

    18. Section 620.1 is amended by removing the reference 
``Sec. 615.5201(j)'' and adding in its place, the reference 
``Sec. 615.5201(l)'' in paragraph (j).

Subpart B--Annual Report to Shareholders


Sec. 620.5  [Amended]

    19. Section 620.5 is amended by removing the word ``permanent'' 
from paragraphs (d)(2), (g)(4)(v), and (g)(4)(vi); by revising 
paragraph (f)(3); and by adding paragraph (f)(4) to read as follows:


Sec. 620.5  Contents of the annual report to shareholders.

* * * * *
    (f) * * *
    (3) For all banks (on a bank-only basis):
    (i) Permanent capital ratio.
    (ii) Total surplus ratio.
    (iii) Core surplus ratio.
    (iv) Net collateral ratio.
    (4) For all associations:
    (i) Permanent capital ratio.
    (ii) Total surplus ratio.
    (iii) Core surplus ratio.
* * * * *

PART 627--TITLE V CONSERVATORS AND RECEIVERS

    20. The authority citation for part 627 continues to read as 
follows:

    Authority: Secs. 4.2, 5.9, 5.10, 5.17, 5.51, 5.58 of the Farm 
Credit Act (12 U.S.C. 2183, 2243, 2244, 2252, 2277a, 2277a-7).

Subpart A--General

    21. Section 627.2710 is amended by revising paragraphs (b)(1) and 
(b)(3) to read as follows:


Sec. 627.2710  Grounds for appointment of conservators and receivers.

* * * * *
    (b) * * *
    (1) The institution is insolvent, in that the assets of the 
institution are less than its obligations to creditors and others, 
including its members. For purposes of determining insolvency, 
``obligations to members'' shall not include stock or allocated 
equities held by current or former borrowers.
* * * * *
    (3) The institution is in an unsafe or unsound condition to 
transact business, including having insufficient capital or otherwise. 
For purposes of this regulation, ``unsafe or unsound condition'' shall 
include, but shall not be limited to, the following conditions:
    (i) For banks, a net collateral ratio below 102 percent.
    (ii) For associations, a default by the association of one or more 
terms of its general financing agreement with its affiliated bank that 
the Farm Credit Administration determines to be a material default.
    (iii) For all institutions, permanent capital of less than one-half 
the minimum required level for the institution.
    (iv) For all institutions, a total surplus ratio of less than 2 
percent.
    (v) For associations, stock impairment.
* * * * *

    Dated: July 15, 1998.
Floyd Fithian,
Secretary, Farm Credit Administration Board.
[FR Doc. 98-19394 Filed 7-21-98; 8:45 am]
BILLING CODE 6705-01-P