Agencies request comment on proposed rule to require large banks to maintain long-term debt to improve financial stability and resolution

On August 29, 2023, the Office of the Comptroller of the Currency (OCC), the Board of Governors of the Federal Reserve System (FED), and the Federal Deposit Insurance Corporation (FDIC) (collectively referred to as the „agencies“ or „regulators“) jointly issued a notice of proposed rulemaking. This proposal aims to mandate certain large depository institution holding companies, U.S. intermediate holding companies of foreign banking organizations (referred to as large banking organizations or LBOs), and specific insured depository institutions (IDIs) to establish and maintain a minimum amount of long-term debt (LTD) which typically includes instruments that can be converted into equity such as contingent convertible bonds, may be written down, or have a subordinated debt ranking.
The primary objective of this LTD requirement is to enhance the resolvability of these LBOs and IDIs in case of financial distress. The measure is also expected to reduce costs to the Deposit Insurance Fund and mitigate contagion and financial stability risks by minimizing the potential losses incurred by uninsured depositors. Finally, the measure seeks to align the LTD requirement of other large banking organizations with those of global systemically important banking organizations (GSIBs) which already face stringent requirements as to the holding of LTD.
#### The key provisions of the proposal are as follows:
(1) Applicability: The proposed rule would extend the minimum LTD requirements to other LBOs and certain IDIs of LBOs. Specifically, covered institutions would include Category II, III, and IV bank holding companies (BHCs), savings and loan holding companies (SLHCs), and U.S. intermediate holding companies (IHCs) of foreign banking organizations (FBOs) that are not classified as GSIBs. Additionally, the LTD requirement would also apply to four categories of IDIs that are not consolidated subsidiaries of U.S. GSIBs, including the following:
– IDIs with total consolidated assets of at least $100 billion, affiliated with a covered entity or a U.S. IHC of a foreign GSIB.
– IDIs with total consolidated assets of at least $100 billion not controlled by a parent entity.
– IDIs with total consolidated assets of at least $100 billion, either consolidated subsidiaries of non-covered entity companies, U.S. GSIBs, or foreign GSIBs subject to the Federal Reserve’s total loss-absorbing capacity (TLAC) rule, or controlled but not consolidated by another company.
– Any IDI, regardless of size, associated with an IDI falling into the previous three categories.
(2) Calculation of the LTD requirement: The minimum LTD requirement would be calculated as the largest of:
– 6 percent of risk weighted assets,
– 3.5 percent of average total consolidated assets, and for banks subject to the supplementary leverage ratio,
– 2.5 percent of total leverage exposure under the supplementary leverage ratio.
(3) Type of Debt: LBOs would be required to issue LTD externally; that means that subsidiaries and institutions of the same group would not be eligible to hold any debt of such LBOs. IDIs affiliated with LBOs with at least $100 billion in total assets could generally issue LTD internally to ensure sufficient loss-absorbing resources.
(4) Restriction on LTD repurchase and additional LTD requirements:
Covered entities would be prohibited from redeeming or repurchasing eligible LTD without prior Federal Reserve approval if this action would cause the entity to fall below its minimum LTD requirement. Furthermore, supervising agencies would be empowered to instruct an external LTD issuer to exclude certain eligible debt securities from its outstanding LTD amount. This exclusion applies to debt securities with characteristics that could substantially hinder their capacity to absorb losses during resolution.
(5) LTD instrument requirements: Eligible LTD instruments would need to meet specific criteria, such as being unsecured, plain vanilla, governed by U.S. law, contractually subordinated, and having a maturity exceeding one year. Certain instruments with maturities between one and two years would have a 50 percent haircut, while those exceeding two years would not.
(6) Phased transition period: A three-year phased-in transition period is proposed, with banks required to meet 25 percent of the requirement at the end of year one, 50 percent at the end of year two, and 100 percent at the end of year three. Future banks crossing the $100 billion threshold would also undergo this phased transition.
(7) Grandfathering provisions: The proposal also includes provisions to grandfather certain outstanding debt instruments even if they do not fully meet the eligibility requirements.
Also, certain banks would be required to deduct investments in other banks‘ LTD that exceed specific thresholds.
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As these are only the key provisions outlined in the proposal, please consult the original legal document for more detailed, comprehensive information.