80 FR 76374 - Regulatory Capital Rules: Regulatory Capital, Final Rule Demonstrating Application of Common Equity Tier 1 Capital Eligibility Criteria and Excluding Certain Holding Companies From Regulation Q

FEDERAL RESERVE SYSTEM

Federal Register Volume 80, Issue 236 (December 9, 2015)

The Board of Governors of the Federal Reserve System (Board) is adopting amendments to the Board's regulatory capital framework (Regulation Q) to clarify how the definition of common equity tier 1 capital, a key capital component, applies to ownership interests issued by depository institution holding companies that are structured as partnerships or limited liability companies. In addition, the final rule amends Regulation Q to exclude temporarily from Regulation Q savings and loan holding companies that are trusts and depository institution holding companies that are employee stock ownership plans.

[Federal Register Volume 80, Number 236 (Wednesday, December 9, 2015)]
[Rules and Regulations]
[Pages 76374-76379]
From the Federal Register Online  [www.thefederalregister.org]
[FR Doc No: 2015-31013]


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FEDERAL RESERVE SYSTEM

12 CFR Part 217

[Docket No. R-1506]
RIN 7100-AE 27


Regulatory Capital Rules: Regulatory Capital, Final Rule 
Demonstrating Application of Common Equity Tier 1 Capital Eligibility 
Criteria and Excluding Certain Holding Companies From Regulation Q

AGENCY: Board of Governors of the Federal Reserve System.

ACTION: Final rule.

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SUMMARY: The Board of Governors of the Federal Reserve System (Board) 
is adopting amendments to the Board's regulatory capital framework 
(Regulation Q) to clarify how the definition of common equity tier 1 
capital, a key capital component, applies to ownership interests issued 
by depository institution holding companies that are structured as 
partnerships or limited liability companies. In addition, the final 
rule amends Regulation Q to exclude temporarily from Regulation Q 
savings and loan holding companies that are trusts and depository 
institution holding companies that are employee stock ownership plans.

DATES: The final rule is effective January 1, 2016. Any company subject 
to the final rule may elect to adopt it before this date.

FOR FURTHER INFORMATION CONTACT: Juan Climent, Manager, (202) 872-7526, 
Page Conkling, Senior Supervisory Financial Analyst, (202) 912-4647, 
Noah Cuttler, Senior Financial Analyst, (202) 912-4678, Division of 
Banking Supervision and Regulation, Board of Governors of the Federal 
Reserve System; or Benjamin McDonough, Special Counsel, (202) 452-2036, 
or Mark Buresh, Senior Attorney, (202) 452-5270, Legal Division, 20th 
Street and Constitution Avenue NW., Washington, DC 20551. Users of 
Telecommunication Device for Deaf (TDD) only, call (202) 263-4869.

SUPPLEMENTARY INFORMATION: 

I. Background

    In July 2013, the Board adopted Regulation Q, a revised capital 
framework that strengthened the capital requirements applicable to 
state member banks and bank holding companies (BHCs) and implemented 
capital requirements for certain savings and loan holding companies 
(SLHCs).\1\

[[Page 76375]]

Among other changes, Regulation Q introduced a common equity tier 1 
capital (CET1) requirement.
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    \1\ See 12 CFR part 217. Savings and loan holding companies that 
are substantially engaged in insurance underwriting or commercial 
activities are exempt temporarily from the revised capital 
framework. See 12 CFR 217.2, ``Covered savings and loan holding 
company.'' In addition, earlier this year, the Board issued a final 
rule that raised the asset threshold for applicability of the 
Board's Small Bank Holding Company Policy Statement (12 CFR part 
225, Appendix C) from less than $500 million to less than $1 billion 
and made corresponding revisions to the applicability provisions of 
Regulation Q to exempt small SLHCs from Regulation Q to the same 
extent as small BHCs. See 12 CFR 217.1(c)(1)(ii) and (iii); 80 FR 
20153 (April 15, 2015).
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    Following issuance of Regulation Q, several depository institution 
holding companies sought clarification as to how the CET1 requirement 
would apply in light of their capital structures. These holding 
companies included BHCs and SLHCs organized in non-stock form (non-
stock holding companies) (such as partnerships or limited liability 
corporations (LLCs)), estate trusts that are SLHCs (estate trust 
SLHCs), and employee stock ownership plans that are BHCs or SLHCs (ESOP 
holding companies).
    On December 12, 2014, the Board invited comment on a proposed rule 
that described how the CET1 requirement would apply to holding 
companies organized as partnerships or LLCs and that would have 
temporarily excluded estate trust SLHCs and ESOP holding companies from 
Regulation Q.\2\
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    \2\ 79 FR 75759 (December 19, 2014).
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    The Board received two comments on the proposal--one from a 
financial services trade association and another from a savings and 
loan holding company--both of which expressed support for the proposal. 
After reviewing these comments, the Board is adopting the proposal 
largely as proposed, with certain clarifying edits and non-substantive 
changes to order and formatting.

II. Description of the Proposed and Final Rules

1. Application of the Eligibility Criteria for Common Equity Tier 1 
Instruments to LLC and Partnership Interests

    Regulation Q includes a CET1 requirement of 4.5 percent of risk-
weighted assets. The purpose of the requirement is to ensure that 
banking organizations subject to Regulation Q hold sufficient high-
quality regulatory capital that is available to absorb losses on a 
going concern basis.\3\ In particular, CET1 must be the most 
subordinated form of capital in an institution's capital structure and 
thus available to absorb losses first.\4\ CET1 is composed of common 
stock and instruments issued by mutual banking organizations that meet 
certain eligibility criteria.\5\
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    \3\ 12 CFR 217.20(b); 78 FR 62018, 62029.
    \4\ 78 FR 62018, 62044.
    \5\ The qualifying criteria under Regulation Q for a CET1 
instrument are at 12 CFR 217.20(b)(1).
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    In a stock company, common stock generally is the most subordinated 
element of its capital structure. While a non-stock holding company 
does not issue common stock, it generally should also have the ability 
to issue capital instruments that have loss absorbency features similar 
to those of common stock.
    In addition, a stock company may issue capital instruments that are 
not the most subordinated elements of its capital structure, such as 
preferred stock with a liquidation preference and cumulative dividend 
rights. Similarly, non-stock holding companies may issue capital 
instruments that are not the most subordinated elements of their 
capital structure. Regardless of whether the issuer is a stock company 
or a non-stock company, a capital instrument that is not the most 
subordinated element of a company's capital structure would not qualify 
as CET1 under Regulation Q.\6\
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    \6\ See 12 CFR 217.20(b)(1)(i).
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    Features that cast doubt on whether a particular class of capital 
instruments is the most subordinated and therefore available to absorb 
losses first include unlimited liability for the general partner in a 
partnership, allocation of losses among classes that is 
disproportionate to amounts invested, mandatory distributions, minimum 
rates of return, and/or reallocations of earlier distributions. If such 
features limit or could limit the ability of capital instruments to 
bear first losses or effectively absorb losses then such features are 
inconsistent with Regulation Q's eligibility criteria for CET1 
instruments and therefore may not qualify as such under Regulation 
Q.\7\
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    \7\ To the extent that the economic rights of one class of 
ownership interests differ from those of another class, each class 
should be evaluated separately to determine qualification as common 
equity tier 1 capital.
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    The proposed rule would have clarified, through examples, how the 
definition of CET1 would apply to ownership interests issued by non-
stock holding companies.\8\ In general, the examples showed that an LLC 
or partnership could issue capital that would qualify as CET1 provided 
that all ownership classes shared equally in losses, even if all 
ownership classes do not share equally in profits. The examples also 
showed that other features of capital instruments, such as a mandatory 
capital distribution upon the occurrence of an event or a date, 
different liquidation preferences among ownership classes, or unequal 
sharing of losses, could prevent a capital instrument from qualifying 
as CET1.
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    \8\ See 79 FR 75759, 75761-2.
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    As noted, the Board received two comments on the proposal. One 
comment related to the application of the eligibility criteria for CET1 
instruments to LLC and partnership interests. The commenter expressed 
concern that Regulation Q did not adequately address the special 
characteristics of non-stock holding companies and observed that the 
proposal facilitated the application of Regulation Q to such holding 
companies.
    The final rule follows the same basic structure of the proposal, 
and adds some clarifications. The Board reordered the examples in the 
final rule to group together those examples discussing similar 
structures. In addition, the Board revised examples related to loss 
sharing to clarify that each distribution must be reviewed separately 
and to clarify that losses must be borne equally by all holders of CET1 
instruments when investment proceeds are distributed.
    In particular, Example (3) in the proposal related to an LLC with 
two classes of membership interests that share proportionately in 
losses, return of contributed capital, and profits up to a set rate of 
return. However, the classes of membership interests share 
disproportionately in profits above a particular level. This example 
provided that both classes of membership interest could qualify as CET1 
so long as the classes always share any losses proportionately among 
the classes or among the instruments in each class, even if there is 
disproportionate allocation of profits. In the final rule, this 
example, renumbered as Example (4), clarifies that disproportionate 
sharing of profits does not prevent qualification as CET1, so long as 
the classes bear the losses pro rata. Despite the potential for 
disproportionate allocations of profits from a distribution, the 
classes of capital instruments would bear losses pro rata, placing them 
at the same level of seniority in bankruptcy or liquidation.
    In the proposal, Example (7) related to an LLC with two classes of 
membership interests where one class could be required, under certain 
circumstances, to return previously received distributions that would 
then be allocated to the other class. The example provided that a class 
of capital instruments advantaged by an arrangement such that the 
advantaged

[[Page 76376]]

class might not bear losses pro rata with the other class, would not 
qualify as CET1. The example also offered general suggestions for 
revising such arrangements so that such class of capital instrument 
could count as CET1. In the final rule, the Board revised Example (7) 
to emphasize the concern that a reallocation of distributions may 
affect the analysis of whether a class of capital instruments is in a 
first-loss position. In addition, the Board revised Example (7) to 
state that reallocations that were limited to reversing prior 
disproportionate allocations of profits would not raise this concern. 
Finally, the Board removed general suggestions in Example (7) regarding 
potential alternative structures to avoid confusion for the reader.
    Section 217.501 of the final rule does not differ fundamentally 
from the existing CET1 eligibility criteria in Regulation Q. Instead, 
it expands on and clarifies the application of these criteria in 
particular circumstances in substantially the same manner as the 
proposal.
    In addition, the proposed rule would have allowed an LLC or 
partnership with outstanding capital instruments that would not have 
qualified under the proposed rule as CET1 to continue to treat these 
instruments as CET1 until January 1, 2016. The Board proposed this 
extension to provide time for depository institution holding companies 
organized as LLCs or partnership to assess whether their capital 
instruments comply with the Regulation Q eligibility criteria and to 
make any needed modifications. The final rule extends this compliance 
date to July 1, 2016.
    The Board expects that all holding companies that are subject to 
Regulation Q and that have issued capital instruments that do not 
qualify as CET1 under sections 217.20 and 217.501 to be in full 
compliance with Regulation Q by July 1, 2016. A non-stock holding 
company subject to Regulation Q, such as a company organized as an LLC 
or partnership, that has capital instruments that do not meet the 
applicable eligibility criteria under Regulation Q may need to take 
steps to ensure compliance with Regulation Q, including modifying its 
capital structure or the governing documents of specific capital 
instruments or issuing additional qualifying capital.
    The Board may consider the appropriate treatment under Regulation Q 
for specific capital instruments on a case-by-case basis. Further, the 
Board reserves the authority to determine that a particular capital 
instrument may or may not qualify as any form of regulatory capital 
based on its ability to absorb losses or other considerations, or 
whether the capital instrument qualifies as an element of a particular 
regulatory capital component under Regulation Q.\9\
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    \9\ 12 CFR 217.1(d)(2).
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2. Estate Trust SLHCs

    Estate trust SLHCs with total consolidated assets of more than $1 
billion became subject to Regulation Q on January 1, 2015.\10\ Many 
estate trusts, however, do not issue capital instruments that would 
qualify as regulatory capital under Regulation Q or prepare financial 
statements under U.S. Generally Applicable Accounting Principles 
(GAAP). Such estate trust SLHCs, therefore, may not be able to meet the 
minimum regulatory capital ratios under Regulation Q, and requiring 
these institutions to develop and implement the management information 
systems necessary to prepare financial statements to demonstrate 
compliance with Regulation Q could impose significant burden and 
expense. In addition, a temporary exemption from Regulation Q for 
estate trust SLHCs does not appear to raise significant supervisory 
concerns because the estate planning purpose of these entities 
generally results in limited operations and leverage.\11\ To address 
these issues, the proposed rule would have excluded estate trust SLHCs 
from Regulation Q, pending development by the Board of an alternative 
capital regime for these institutions.
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    \10\ While the Home Owners' Loan Act contains a narrow exemption 
for testamentary trusts from the definition of savings and loan 
holding company, there are approximately 107 family and personal 
trusts that do not qualify for this exemption and thus, are savings 
and loan holding companies. As of January 1, 2015, some of these 
entities became subject to Regulation Q. The Bank Holding Company 
Act exempts certain testamentary and inter vivos trusts from the 
definition of ``company.''
    \11\ A review of estate trust SLHCs found that these 
institutions generally hold high levels of capital, with an 
estimated median leverage ratio of approximately 99 percent and an 
estimated mean leverage ratio of approximately 94 percent. Leverage 
was measured as the ratio of assets minus liabilities over assets. 
However, estate trust SLHCs do not file regular financial reports 
with the Board, and estimated median and mean leverage ratios are 
based on data collected from a significant number of estate trust 
SLHCs in 2014.
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    The Board received one comment on this aspect of the proposal. This 
commenter noted that it was a closely held SLHC with an ownership 
structure that included estate trusts and a limited partnership. This 
commenter expressed concern over the application of Regulation Q and 
other prudential regulations to family estate planning vehicles and 
expressed support for the Board's proposed temporary exclusion of 
estate trust SLHCs from Regulation Q.
    The final rule adopts the exclusion for SLHCs that are estate 
trusts without modification. For these entities, the Board intends to 
develop alternative capital adequacy standards.\12\
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    \12\ Any alternative capital standard must be consistent section 
171 of the Dodd-Frank Wall Street Reform and Consumer Protection Act 
(Dodd-Frank Act). Section 171 of the Dodd-Frank Act generally 
requires that the Board impose minimum leverage and risk-based 
capital requirements on depository institution holding companies, 
including estate trust SLHCs.
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3. ESOPs

    ESOPs are entities created as part of employee benefits 
arrangements that hold shares of the sponsoring entities' stock. An 
ESOP may be a holding company due to its ownership interest in the 
banking organization that sponsors the ESOP. Under U.S. GAAP, the 
assets and liabilities of ESOP holding companies are consolidated onto 
the balance sheet of the banking organization that sponsors the ESOP 
(either a depository institution or a holding company that may be 
subject to Regulation Q). Thus, an ESOP holding company may be 
considered the top-tier holding company in a banking organization for 
ownership purposes but not considered the top-tier holding company for 
accounting purposes. This distinction has created confusion regarding 
the application of Regulation Q to ESOP holding companies, which 
generally do not issue capital instruments.
    The proposed rule would have excluded ESOPs from Regulation Q until 
the Board clarifies the regulatory capital treatment for these 
entities. The Board did not receive any comments on the aspects of the 
proposal related to ESOPs and is adopting the proposed temporary 
exclusion for ESOPs without modification.
    For a banking organization that has an ESOP holding company within 
its structure, the Board will evaluate compliance with Regulation Q by 
assessing the regulatory capital of an ESOP holding company's sponsor 
banking organization.

4. Early Compliance

    The final rule will be effective January 1, 2016. As noted above, 
the final rule includes an extended compliance date of July 1, 2016, to 
allow time for non-stock holding companies to assess whether their 
capital instruments comply with Regulation Q and to make any necessary 
modifications. However, any banking organization subject to Regulation 
Q may elect to treat the final rule as effective before the effective 
date. Accordingly, the Board will not

[[Page 76377]]

object if an institution wishes to apply the provisions of the final 
rule beginning with the date it is published in the Federal Register.

III. Regulatory Analysis

A. Paperwork Reduction Act (PRA)

    In accordance with the Paperwork Reduction Act of 1995 (44 U.S.C. 
3506; 5 CFR 1320, Appendix A.1), the Board reviewed the final rule 
under the authority delegated to the Board by the Office of Management 
and Budget. The final rule contains no requirements subject to the PRA.

B. Regulatory Flexibility Act Analysis

    The Board is providing a final regulatory flexibility analysis with 
respect to this final rule. As discussed previously, the final rule 
provides examples of how the Board will apply the eligibility criteria 
for CET1 under Regulation Q to instruments issued by non-stock holding 
companies and provides certain exclusions from Regulation Q. The 
Regulatory Flexibility Act, 5 U.S.C. 601 et seq. (RFA), generally 
requires that an agency provide a final regulatory flexibility analysis 
in connection with a final rule. Under regulations issued by the Small 
Business Administration, a small entity includes a BHC, bank, or SLHC 
with assets of $550 million or less (small banking organization).\13\ 
As of December 31, 2014, there were approximately 3,833 small BHCs and 
271 small SLHCs.
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    \13\ See 13 CFR 121.201. Effective July 14, 2014, the Small 
Business Administration revised the size standards for banking 
organizations to $550 million in assets from $500 million in assets. 
79 FR 33647 (June 12, 2014).
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    The Board received no comments from the public or from the Chief 
Counsel for Advocacy of the Small Business Administration in response 
to the initial regulatory flexibility analysis. Thus, no issues were 
raised in public comments related to the Board's initial Regulatory 
Flexibility Act analysis and no changes are being made in response to 
such comments.
    The final rule would apply to top-tier depository institution 
holding companies that are subject to Regulation Q. A substantial 
number of small depository institution holding companies are exempt 
from Regulation Q through the application of the Board's Small Bank 
Holding Company Policy Statement.\14\ In addition, the Board does not 
believe that the final rule would have a significant impact on small 
banking organizations because the Board considers the final rule as 
clarifying the CET1 eligibility criteria and providing specific 
guidance on the application of the eligibility criteria to entities 
subject to Regulation Q, rather than imposing significant new 
requirements. The temporary exemptions from Regulation Q provided for 
estate trust SLHCs and ESOP holding companies relieve burden on covered 
small banking organizations, rather than imposing burden.
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    \14\ See 12 CFR 217.1; 12 CFR part 225, Appendix C; 80 FR 5666 
(February 3, 2015).
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    The Board is not aware of any other Federal rules that duplicate, 
overlap, or conflict with the final rule. The Board believes that the 
final rule will not have a significant economic impact on small banking 
organizations supervised by the Board and therefore believes that there 
are no significant alternatives to the final rule that would reduce the 
economic impact on small banking organizations supervised by the Board.

C. Plain Language

    Section 722 of the Gramm-Leach-Bliley Act requires the Federal 
banking agencies to use plain language in all proposed and final rules 
published after January 1, 2000. The Board has sought to present the 
final rule in a simple and straightforward manner. The Board did not 
receive any comments on its use of plain language in the proposed rule.

List of Subjects in 12 CFR Part 217

    Administrative practice and procedure, Banks, Banking, Capital, 
Federal Reserve System, Holding companies, Reporting and recordkeeping 
requirements, Securities.

Board of Governors of the Federal Reserve System

12 CFR CHAPTER II

Authority and Issuance

    For the reasons set forth in the preamble, part 217 of chapter II 
of title 12 of the Code of Federal Regulations is amended as follows:

PART 217--CAPITAL ADEQUACY OF BANK HOLDING COMPANIES, SAVINGS AND 
LOAN HOLDING COMPANIES AND STATE MEMBER BANKS (REGULATION Q)

0
1. The authority citation for part 217 continues to read as follows:

    Authority: 12 U.S.C. 248(a), 321-338a, 481-486, 1462a, 1467a, 
1818, 1828, 1831n, 1831o, 1831p-l, 1831w, 1835, 1844(b), 1851, 3904, 
3906-3909, 4808, 5365, 5368, 5371.

0
2. Add subpart I to read as follows:

Subpart I--Application of Capital Rules

Sec.
217.501 The Board's Regulatory Capital Framework for Depository 
Institution Holding Companies Organized as Non-Stock Companies.
217.502 Application of the Board's Regulatory Capital Framework to 
Employee Stock Ownership Plans that are Depository Institution 
Holding Companies and Certain Trusts that are Savings and Loan 
Holding Companies.


Sec.  217.501  The Board's Regulatory Capital Framework for Depository 
Institution Holding Companies Organized as Non-Stock Companies.

    (a) Applicability. (1) This section applies to all depository 
institution holding companies that are organized as legal entities 
other than stock corporations and that are subject to this part 
(Regulation Q, 12 CFR part 217).\1\
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    \1\ See 12 CFR 217.1(c)(1) through (3).
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    (2) Notwithstanding Sec. Sec.  217.2 and 217.10, a bank holding 
company or covered savings and loan holding company that is organized 
as a legal entity other than a stock corporation and has issued capital 
instruments that do not qualify as common equity tier 1 capital under 
Sec.  217.20 by virtue of the requirements set forth in this section 
may treat those capital instruments as common equity tier 1 capital 
until July 1, 2016.
    (b) Common equity tier 1 capital criteria applied to capital 
instruments issued by non-stock companies. (1) Subpart C of this part 
provides criteria for capital instruments to qualify as common equity 
tier 1 capital. This section describes how certain criteria apply to 
capital instruments issued by bank holding companies and covered 
savings and loan holding companies that are organized as legal entities 
other than stock corporations, such as limited liability companies 
(LLCs) and partnerships.
    (2) Holding companies are organized using a variety of legal 
structures, including corporate forms, LLCs, partnerships, and similar 
structures.\2\ In the Board's experience, some depository institution 
holding companies that are organized in non-stock form issue multiple 
classes of capital instruments that allocate profit and loss from a 
distribution differently among classes, which may affect the ability of 
those classes to qualify as common equity tier 1 capital.\3\
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    \2\ A stock corporation's common stock should satisfy the CET1 
criteria so long as the common stock does not have unusual features, 
such as a limited duration.
    \3\ Notably, voting powers or other means of exercising control 
are not relevant for purposes of satisfying the CET1 eligibility 
criteria. Thus, the fact that a particular partner or member 
controls a holding company, for instance, due to serving as general 
partner or managing member, is not material to qualification of 
particular interests as CET1.
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    (3) Common equity tier 1 capital is defined in Sec.  217.20(b). To 
qualify as

[[Page 76378]]

common equity tier 1 capital, capital instruments must satisfy a number 
of criteria. This section provides examples of the application of 
certain common equity tier 1 capital criteria that relate to the 
economic interests in the company represented by particular capital 
instruments.
    (c) Examples. The following examples show how the criteria for 
common equity tier 1 capital apply to particular partnership or LLC 
structures.\4\
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    \4\ Although the examples refer to specific types of legal 
entities for purposes of illustration, the substance of the 
Regulation Q criteria reflected in the examples applies to all types 
of legal entities.
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    (1) LLC with one class of membership interests. (i) An LLC issues 
one class of membership interests that provides that all holders of the 
interests bear losses and receive dividends proportionate to their 
levels of ownership.
    (ii) Provided that the other criteria in Sec.  217.20(b) are met, 
the membership interests would qualify as common equity tier 1 capital.
    (2) Partnership with limited and general partners. (i) A 
partnership has two classes of interests: General partnership interests 
and limited partnership interests. The general partners and the limited 
partners bear losses and receive distributions allocated 
proportionately to their capital contributions. In addition, the 
general partner has unlimited liability for the debts of the 
partnership.
    (ii) Provided that the other criteria in Sec.  217.20(b) are met, 
the general and limited partnership interests would qualify as common 
equity tier 1 capital. The fact of unlimited liability of the general 
partner is not relevant in the context of the eligibility criteria of 
common equity tier 1 capital instruments, provided that the general 
partner and limited partners share losses equally to the extent of the 
assets of the partnership, and the general partner is liable after the 
assets of the partnership are exhausted. In this regard, the general 
partner's unlimited liability is similar to a guarantee provided by the 
general partner, rather than a feature of the general partnership 
interest.
    (3) Senior and junior classes of capital instruments. (i) An LLC 
issues two types of membership interests, Class A and Class B. Holders 
of Class A and Class B interests participate equally in operating 
distributions and have equal voting rights. However, in liquidation, 
holders of Class B interests must receive the entire amount of their 
contributed capital in order for any distributions to be made to 
holders of Class A interests.
    (ii) Class B interests have a preference over Class A interests in 
liquidation and, therefore, would not qualify as common equity tier 1 
capital as the Class B interests are not the most subordinated claim 
(criterion (i)) and do not share losses proportionately (criterion 
(viii) (Sec.  217.20(b)(1)(i) and (viii), respectively).
    (A) If all other criteria are satisfied, Class A interests would 
qualify as common equity tier 1 capital.
    (B) Class B interests may qualify as additional tier 1 capital, or 
tier 2 capital, if the Class B interests meet the applicable criteria 
(Sec.  217.20(c) and (d)).
    (4) LLC with two classes of membership interests. (i) An LLC issues 
two types of membership interests, Class A and Class B. To the extent 
that the LLC makes a distribution, holders of Class A and Class B 
interests share proportionately in any losses and receive proportionate 
shares of contributed capital. To the extent that a capital 
distribution includes an allocation of profits, holders of Class A and 
Class B interests share proportionately up to the point where all 
holders receive a specific annual rate of return on capital 
contributions, and, if the distribution exceeds that point, holders of 
Class B interests receive double their proportional share and holders 
of Class A interests receive the remainder of the distribution.
    (ii) Class A and Class B interests would both qualify as common 
equity tier 1 capital, provided that under all circumstances they share 
losses proportionately, as measured with respect to each distribution, 
and that they satisfy the common equity tier 1 capital criteria. The 
holders of Class A and Class B interests may receive different 
allocations of profits with respect to a distribution, provided that 
the distribution is made simultaneously to all members of Class A and 
Class B interests. Despite the potential for disproportionate profits, 
Class A and Class B interests have the same level of seniority with 
regard to potential losses and therefore they both satisfy all the 
criteria in Sec.  217.20(b), including criterion (ii) (Sec.  
217.20(b)(1)(ii)).
    (5) Alternative LLC with two classes of membership interests. (i) 
An LLC issues two types of membership interests, Class A and Class B. 
In the event that the LLC makes a distribution, holders of Class A 
interests bear a disproportionately low level of any losses, such that 
the Class B interests bear a disproportionately high level of losses at 
the distribution. In contrast to the example in paragraph (c)(4) of 
this section, the different participation rights apply to distributions 
in situations where losses are allocated, including losses at 
liquidation.
    (ii) Because holders of the Class A interests do not bear a 
proportional interest in the losses (criterion (ii) (Sec.  
217.20(b)(1)(ii)), the Class A interests would not qualify as common 
equity tier 1 capital.
    (A) Companies with such structures may revise their capital 
structures in order to provide for a sufficiently large class of 
capital instruments that proportionally bear first losses in 
liquidation (that is, the Class B interests in this example).
    (B) Alternatively, companies with such structures could revise 
their capital structure to ensure that all classes of capital 
instruments that are intended to qualify as common equity tier 1 
capital share equally in losses in liquidation consistent with criteria 
(i), (ii), (vii), and (viii) in Sec.  217.20(b)(1)(i), (ii), (vii), 
respectively, even if each class of capital instruments has different 
rights to allocations of profits, as in paragraph (c)(4) of this 
section.
    (6) Mandatory distributions. (i) A partnership agreement contains 
provisions that require distributions to holders of one or more classes 
of capital instruments on the occurrence of particular events, such as 
upon specific dates or following a significant sale of assets, but not 
including any final distributions in liquidation.
    (ii) Any class of capital instruments that provides holders with 
rights to mandatory distributions would not qualify as common equity 
tier 1 capital because a holding company must have full discretion at 
all times to refrain from paying any dividends and making any other 
distributions on the instrument without triggering an event of default, 
a requirement to make a payment-in-kind, or an imposition of any other 
restriction on the holding company (criterion (vi) in Sec.  
217.20(b)(1)(vi)). Companies must ensure that they have a sufficient 
amount of capital instruments that do not have such rights and that 
meet the other criteria of common equity tier 1 capital, in order to 
meet the requirements of Regulation Q.
    (7) Features that Reallocate Prior Distributions. (i) An LLC issues 
two types of membership interests, Class A and Class B. The terms of 
the LLC's membership interests provide that, under certain 
circumstances, holders of Class A interests must return a portion of 
earlier distributions, which are then distributed to holders of Class B 
interests (sometimes called a ``clawback'').
    (ii) If the reallocation of prior distributions described in 
paragraph (c)(7)(i) of this section could result in holders of the 
Class B interests bearing

[[Page 76379]]

fewer losses on an aggregate basis than Class A interests, the Class B 
interests would not qualify as common equity tier 1 capital. However, 
where the membership interests provide for disproportionate allocation 
of profits, such as described in the example in paragraph (c)(4) of 
this section, and the reallocation of prior distributions would be 
limited to reversing the disproportionate portions of prior 
distributions, both the Class A and Class B interests could qualify as 
common equity tier 1 capital provided that they met all the other 
criteria in Sec.  217.20(b).


Sec.  217.502  Application of the Board's Regulatory Capital Framework 
to Employee Stock Ownership Plans that are Depository Institution 
Holding Companies and Certain Trusts that are Savings and Loan Holding 
Companies.

    (a) Employee Stock Ownership Plans. Notwithstanding Sec.  217.1(c), 
a bank holding company or covered savings and loan holding company that 
is an employee stock ownership plan is exempt from this part until the 
Board adopts regulations that directly relate to the application of 
capital regulations to employee stock ownership plans.
    (b) Personal or Family Trusts. Notwithstanding Sec.  217.1(c), a 
covered savings and loan holding company is exempt from this part if it 
is a personal or family trust and not a business trust until the Board 
adopts regulations that apply capital regulations to such a covered 
savings and loan holding company.

    By order of the Board of Governors of the Federal Reserve 
System, December 4, 2015.
Robert deV. Frierson,
Secretary of the Board.
[FR Doc. 2015-31013 Filed 12-8-15; 8:45 am]
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