OCC Bulletin 2007-1| January 5, 2007
Complex Structured Finance Transactions: Notice of Final Interagency Statement
Chief Executive Officers of National Banks, Department and Division Heads, All Examining Personnel, and Other Interested Parties
The guidance attached to this bulletin continues to apply to federal savings associations.
The Office of the Comptroller of the Currency, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the Office of Thrift Supervision, and the Securities and Exchange Commission (the agencies) are adopting the attached "Interagency Statement on Sound Practices Concerning Complex Structured Finance Activities" that may pose heightened legal or reputational risks to financial institutions. The statement was issued on January 5, 2007, and will be published in the Federal Register.
In May 2004, the agencies issued and requested comment on a proposed "Interagency Statement on Sound Practices Concerning Complex Structured Finance Activities" (initial statement). After carefully considering comments received, the agencies issued a revised statement for comment in May 2006. The modifications to the initial statement addressed issues and concerns raised by commenters. These modifications made the statement more principles-based; focused the statement on those complex structured finance transactions (CSFTs) that may pose heightened levels of legal or reputational risk to the relevant institution (referred to as elevated risk CSFTs); recognized more explicitly that an institution’s review and approval process for elevated risk CSFTs should be commensurate with, and should focus on, the potential risks presented by the transaction to the institution; clarified that the statement does not create any private rights of action, nor does it alter or expand the legal duties and obligations that a financial institution may have to a customer, to its shareholders, or to other third parties under applicable law; and noted that it does not affect the vast majority of financial institutions, including most small financial institutions. The agencies have adopted the final statement with minor modifications designed to clarify, but not alter, the principles outlined in the revised statement.
Examples of CSFTs that often pose elevated risks and thus would be covered by the final statement include transactions that:
- Lack economic substance or business purpose;
- Are designed or used primarily for questionable accounting, regulatory, or tax objectives, particularly when the transactions are executed at year end or at the end of a reporting period for the customer;
- Raise concerns that the client will report or disclose the transaction in its public filings or financial statements in a manner that is materially misleading or inconsistent with the substance of the transaction or with applicable regulatory or accounting requirements;
- Involve circular transfers of risk (either between the financial institution and the customer or between the customer and other related parties) that lack economic substance or business purpose;
- Involve oral or undocumented agreements that, when taken into account, would have a material impact on the regulatory, tax, or accounting treatment of the related transaction, or the client’s disclosure obligations;
- Have material economic terms that are inconsistent with market norms (e.g., deep "in the money" options or historic rate rollovers); or
- Provide the financial institution with compensation that appears substantially disproportionate to the services provided or investment made by the financial institution or to the credit, market, or operational risk assumed by the institution.
The statement points out that if a financial institution determines through its due diligence that participation in a particular CSFT would create significant legal or reputational risks for the institution, the institution should take appropriate steps to address those risks. Such actions may include declining to participate in the transaction, or conditioning its participation upon the receipt of representations or assurances from the customer that reasonably address the heightened legal or reputational risks presented by the transaction. The statement also establishes that a financial institution should decline to participate in an elevated risk CSFT if, after conducting appropriate due diligence and taking appropriate steps to address the risks from the transaction, the institution determines that the transaction presents unacceptable risk to the institution or would result in a violation of applicable laws, regulations, or accounting principles.
For further information about this bulletin, contact the Office of the Chief National Bank Examiner (202) 649-6360.
Emory W. Rushton
Senior Deputy Comptroller and Chief National Bank Examiner
Douglas W. Roeder
Senior Deputy Comptroller for Large Bank Supervision