Title: NOTICE OF PROPOSED RULEMAKING--Funding and Fiscal Affairs; Capital Adequacy and Minimum Capital Requirements--12 CFR Part 615
Issue Date: 07/23/1986
Agency: FCA
Federal Register Cite: 51 FR 26402
___________________________________________________________________________
FARM CREDIT ADMINISTRATION

12 CFR Part 615

Funding and Fiscal Affairs; Capital Adequacy and Minimum Capital Requirements

AGENCY: Farm Credit Administration.

ACTION: Notice of proposed rulemaking.

SUMMARY: The Farm Credit Administration (FCA), by the Farm Credit Administration Board (FCA Board), publishes for comment proposed regulations relating to capital adequacy and minimum capital for Farm Credit System (System) institutions. The proposed regulations implement section 4.3 to the Farm Credit Act of 1971, 12 U.S.C. 2154 (Act), as added by the Farm Credit Amendments Act of 1985, Pub. L. 99-205 (1985 Amendments), under which the FCA is directed to cause System institutions to achieve and maintain adequate capital.

DATE: Written comments must be received on or before September 22, 1986.

ADDRESS: Submit any comments in writing to Frederick R. Medero, General Counsel, Farm Credit Administration, McLean, VA 22102-5090. Copies of all communications received will be available for examination by interested parties in the Office of General Counsel, Farm Credit Administration.

FOR FURTHER INFORMATION CONTACT: Gary L. Norton, Senior Attorney, Office of General Counsel, Farm Credit Administration, McLean, VA 22102-5090, (703) 883-4020.

TEXT: SUPPLEMENTARY INFORMATION: Section 4.3 of the Act, 12 U.S.C. 2154, directs the FCA to cause System institutions to achieve and maintain adequate capital. The FCA is empowered to establish minimum capital requirements for System institutions and to use other means, at its discretion, to ensure that System institutions maintain adequate capital levels. Failure to maintain the capital level required may be deemed by the FCA to constitute an unsafe and unsound practice. The FCA is authorized to issue capital directives to require institutions that fail to meet the minimum capital requirements to submit and adhere to financial plans that are acceptable to the FCA. Such plans shall describe the means and timing by which the institution will attain the minimum capital level. Capital directives are enforceable under the provisions of section 5.31 of the Act, 12 U.S.C. 2267, and 12 CFR Part 622. The FCA may consider an institution's progress in achieving the minimum capital requirement when the institution requests approval for actions that affect earnings and capital.

The proposed regulations implement the requirements of the Act by establishing capital requirements for System institutions and providing for differential capital regulation. Under differential capital regulation, the FCA will exercise its statutory authority to approve and regulate activities and transactions of System institutions based on the capital level of the institution. The proposed regulations establish regulatory zones within which System institutions will be authorized to take a number of actions that previously required FCA prior approval. Such actions include the establishment of interest rates, payment of dividends, and distribution of earnings. The proposed regulations provide FCA approval for well-capitalized institutions to undertake these actions when they are carried out in accordance with the institutions' financial plans. For an institution whose capital strength has deteriorated and which has been placed into a lower regulatory zone, the proposed regulations limit or withdraw automatic FCA approval for certain actions that affect the institution's capital level. Regulatory intervention by the FCA into the operations of System institutions will correspond directly to the degree of financial risk inherent in the institution. Differential capital regulation is intended to minimize the FCA's involvement in the management of strongly capitalized and soundly operated System institutions and to focus greater regulatory attention on institutions in a financially weak condition.

Proposed regulation 615.5206 establishes capital requirements that are based on the level of unallocated retained earnings of each System institution. The unallocated retained earnings of each institution is a critical capital component, which protects the institution's owner-borrowers and holders of the System's debt obligations by providing a buffer to prevent the institution's insolvency during adverse economic cycles or as a result of unexpected losses. Proposed regulation 615.5214 establishes capital requirements that are based on the total capital of System institutions, which includes unallocated retained earnings, member-invested stock, and equities allocated to members. The allowance for loan losses, which protects an institution from known loan-related losses, is not considered capital for purposes of either regulation.

In determining minimum capital requirements, the FCA recognizes that the various types of System institutions are exposed to different levels of risk depending on the lending environment in which they operate, their organizational structure, and statutory capitalization requirements. Accordingly, the proposed regulations establish different capital requirements for institutions operating under different titles of the Act. Institutions operating under the same title of the Act are subject to uniform capital requirements regardless of asset size, geographic location, or the type of agriculture served. The proposed regulations provide that the FCA may adjust the capital requirements from time to time to reflect changes in the System's operating environment or other factors which alter the System's risk exposure.

Proposed regulation 615.5206 establishes four regulatory zones, Zones A, B, C, and D, which apply to each System institution based on its level of unallocated retained earnings. Institutions classified in Zone A are in a strong capital position and therefore no restrictions are placed on their capital-related activities, such as establishment of interest rates and distribution of earnings. The level of restrictions on each institution's activities increases when the institution is classified in lower regulatory zones. Additionally, each institution is precluded from taking any action that would cause it to be classified in a regulatory zone where such action is prohibited.

The Farm Credit System Capital Corporation (Capital Corporation) was chartered by the FCA on February 24, 1986. The Capital Corporation is authorized to obtain funds from System institutions to purchase loans and provide financial assistance to System institutions experiencing financial difficulties. The Capital Corporation obtains funds by requiring other System institutions to pay assessments and purchase the Capital Corporation's stock and debt obligations. The payment of assessments and the purchase of Capital Corporation stock and debt obligations can affect the capital levels of contributing System institutions. The FCA has determined that for the purpose of determining the regulatory zone of an institution, adjustments should be made to compensate for contributions to the Capital Corporation. Accordingly, proposed regulation 615.5206(c) authorizes contributing institutions to adjust their unallocated retained earnings percentage by adding a percentage of the amounts paid as assessments and the interest expense that is incurred as a result of purchasing the Capital Corporation's stock or debt obligations. The adjustments will be phased out over a 3-year period ending in 1988. The adjustments authorized in paragraph (c) are not reflected on the institution's financial statements, which must be prepared in accordance with Generally Accepted Accounting Principles (GAAP).

Proposed regulation 615.5208 requires each System institution to calculate its unallocated retained earnings percentage and total capital percentage on a monthly basis and submit a certified statement to the FCA within 30 days following the end of each calendar quarter, and whenever the institution's regulatory zone changes. Proposed regulation 615.5210 provides that the FCA may adjust an institution's unallocated retained earnings percentage or regulatory zone whenever the FCA determines that the institution is exposed to greater than normal risks as a result of the institution's management or operations or when the institution's financial position is not fairly stated. Such adjustments may be made when the FCA determines an institution's allowance for losses is not established in accordance with GAAP; when unallocated retained earnings are diverted to avoid providing funds to the Capital Corporation; or when unrecognized gains, unrecognized contingent liabilities, or other non-balance sheet items materially distort the institution's financial condition. The FCA will notify the institution of the reason for the adjustments and the institution's revised regulatory zone within 20 days of submission of the institution's certified report.

Proposed regulation 615.5220 requires each System institution to adopt a financial plan and to conduct its operations in accordance with the plan. Each financial plan shall describe the institution's financial goals for the following 3 fiscal years and the institution's strategies for achieving its net worth, earnings, and other financial objectives. The financial plan shall include the financial objectives of the institution relating to profitability, liquidity, loan growth, loan mix, credit quality, and other key objectives. In addition, each financial plan must contain quarterly standards, pro forma financial statements, and monthly operating budgets. The board of directors of each bank and association is required to approve the institution's financial plan no later than 30 days prior to the beginning of the fiscal year. Each institution is required to operate in accordance with the board-approved financial plan and all changes to the plan must be approved by the board of directors.

Proposed regulation 615.5225 requires institutions classified in Zone D and banks and large production credit associations classified in Zone C to submit their financial plans to the FCA for approval. The same approval requirement also applies to any institution that fails to meet the minimum total capital levels provided for in 615.5214. There is an exception to this approval requirement in proposed regulation 615.5225(d) that applies to any institution that has complied with the assessment directives of the Capital Corporation and has achieved the earnings requirements set forth in the regulation.

Proposed regulation 615.5230 establishes interim requirements for conserving System capital that must be incorporated into each institution's financial plan during the period in which the Capital Corporation is in operation. The interim requirements limit dividends payable by each institution to the average amount paid as a percent of net income during the 3-year period 1983 to 1985. Institutions are prohibited from changing capital plans and programs if such changes would result in a reduction in the earnings ability of the institutions as measured by the average interest margin attained by the institutions during 1983 to 1985. Limitations are also placed on each institution's authority to reduce interest rates. An institution may reduce its base spread only if the amount of such decrease can be demonstrated to result in an increase in total loan interest income over the amount that would have resulted in the absence of the decrease in spread.

List of Subjects in 12 CFR Part 615

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

As stated in the preamble, it is proposed that Part 615 of Chapter VI, Title 12, of the Code of Federal Regulations be revised as follows:

1. The authority citation for Part 615 is revised to read as follows:

Authority: Secs. 4.3, 5.9, 5.17, Pub. L. 99-205, 99 Stat. 1678, 12 U.S.C. 2154, 2243, 2252.

2. The title for Part 615 is revised to read as follows:

PART 615 -- FUNDING AND FISCAL AFFAIRS

* * * * *

3. Subpart H is revised to read as follows:

Subpart H -- Capital Requirements

Sec.

615.5200 General.

615.5202 Definitions.

615.5204 Capital adequacy of System institutions.

615.5206 Capital requirements -- unallocated retained earnings.

615.5208 Unallocated retained earnings percentage, total capital percentage -- computation and reporting.

615.5201 Determination of regulatory zone.

615.5212 Differential capital regulation -- general.

615.5213 Regulatory standards.

615.5214 Total capital -- minimum standards.

Subpart H -- Capital Requirements

615.5200 General.

This subpart contains requirements pertaining to capital adequacy and minimum capital for Farm Credit System institutions. Section 615.5202 contains definitions applicable to each regulation. Section 615.5204 prescribes the responsibilities of boards and management of each System institution for maintaining adequate capital. The two capital requirements that are applicable to System institutions are set forth in 615.5206 and 615.5214. Sections 615.5208, 615.5210, 615.5212, and 615.5213 set forth requirements related to computation and reporting, procedures applicable to the determination of regulatory zones, and the regulatory standards for each zone.

615.5202 Definitions.

For the purposes of this subpart, the following definitions shall apply (account numbers contained in these definitions refer to numbers in the Chart and Description of Accounts for each System institution maintained by the Farm Credit Administration):

(a) "Allowances for losses" means the allowance for losses on loans (Account 420); allowance for losses on investments in paid-in surplus -- PCA (Account 422); allowance for losses on loans in process of foreclosure, judgments, etc. (Account 424); allowance for losses on acquired property (Account 428); and any valuation account established and maintained in accordance with Farm Credit Administration instructions or approval.

(b) "Average total assets" for a year or portion thereof means (year-end total assets of the prior year plus month-end total assets for each month of the current year) (1 plus number of months to date).

(c) "Capital stock" means all classes of capital stock and participation certificates.

(d) "Generally accepted accounting principles" has the same meaning as that term as defined in 621.2(a) of this chapter.

(e) "Net interest margin percentage" means year-to-date interest income minus interest expense, divided by average total assets, expressed as an annualized percentage. The Farm Credit Administration shall issue specific instructions governing the calculation of this percentage.

(f) "Qualified public accountant" has the same meaning as that term as defined in 621.2(21) of this chapter.

(g) "Return on assets" means the year-to-date net income of a System institution divided by its average total assets expressed as an annualized percentage.

(h) "Total assets" means the total assets of an institution as determined in accordance with Farm Credit Administration instructions for the preparation of financial and statistical reports (FCA F&R). For banks for cooperatives, total assets shall be increased by participation loans sold by a bank for cooperatives to the Central Bank for Cooperatives and reduced by its investment in the Central Bank for Cooperatives.

(i) "Total capital" means capital stock, unallocated retained earnings, and

(1) For Federal intermediate credit banks, legal reserve reduced by impairment (Accounts 456-10, 456-16, and 459);

(2) For production credit associations, equity reserve reduced by impairment (Accounts 453 and 454), allocated surplus (Account 464), and paid-in surplus reduced by impairment (Accounts 475 and 476);

(3) For banks for cooperatives, allocated surplus (Accounts 464.05 and 464.10), and reserves for contingencies allocate to patrons (Account 480).

(j) "Total capital percentage" means the relationship between the total capital of an institution and its total assets reflected as a percentage. The percentage is calculated by dividing total capital by total assets.

(k) "Unallocated retained earnings" means the undistributed earnings of an institution that have not been allocated to the institution's members or patrons. The unallocated retained earnings for each type of institution are contained in the following accounts:

(1) For Federal land banks:

(i) Legal reserve, reduced by impairment (Accounts 456 and 459);

(ii) Surplus reserve (Account 462); and

(iii) Earned surplus (Account 471).

(2) For Federal land bank associations:

(i) Legal reserve, reduced by impairment (Accounts 456 and 459);

(ii) Surplus reserve (Account 462); and

(iii) Earned surplus (Account 471).

(3) For Federal intermediate credit banks:

(i) Surplus -- unallocated (Account 465-05);

(ii) Surplus -- reserved, reduced by impairment (Accounts 465-10 and 468);

(iii) Undistributed earnings (Account 478); and

(iv) Reserve for contingencies -- unallocated (Account 481)

(4) For production credit associations:

(i) Surplus reserved (Account 465-10);

(ii) Undistributed earnings (Account 478);

(iii) Earnings reserved for stock dividends (Account 482); and

(iv) Earnings reserved for patronage distributions (Account 484).

(5) For banks for cooperatives:

(i) Unallocated surplus (Account 465-05);

(ii) Surplus reserved (Account 465-10); and

(iii) Undistributed earnings (Account 478).

(l) "Unallocated retained earnings percentage" means the relationship between the unallocated retained earnings of an institution and its total assets reflected as a percentage. The percentage is calculated by dividing unallocated retained earnings by total assets. 615.5204 Capital adequacy of System institutions.

(a) Responsibilities. The Farm Credit Administration is required to establish minimum levels of capital for System institutions. The board of directors and management of each System institution are responsible for the maintenance of adequate capital to protect the institution against the business and financial risks faced by the institution.

(b) Measures of capital adequacy. The adequacy of capital of each System institution is determined on the basis of its unallocated retained earnings percentage and its total capital percentage. Section 615.5206 prescribes unallocated retained earnings percentages that are used to determine the regulatory zones applicable to System institutions. Minimum total capital percentages are set forth in 615.5214.

(c) Adjustment of standards. Capital adequacy standards may be adjusted from time to time by the Farm Credit Administration to reflect changes in the operating environment of the System, which, in the judgment of the Farm Credit Administration, affect the level of capital necessary to protect the institutions' borrowers and investors.

615.5206 Capital requirements -- unallocated retained earnings.

(a) Base of protection. Each System institution shall maintain a level of unallocated retained earnings sufficient to protect against business and financial risks. The actions of System institutions that can affect the capital position of the institutions are subject to differential regulation by the Farm Credit administration based on the level of unallocated retained earnings of the institutions. The unallocated retained earnings percentage of each institution and the regulatory zone in which each institution operates are determined in accordance with this section and 615.5208 and 615.5210.

(b) Regulatory zones. Table 1 sets forth the regulatory zones for each type of System institution and identifies the unallocated retained earnings percentage applicable to each zone. The percentages in Table 1 represent the bottom limit for each zone. There are four zones for each type of institution. Zone A represents institutions that have a strong unallocated retained earnings position. Zones B, C, and D represent institutions with decreasing levels of unallocated retained earnings.

(c) Adjustments for contributions. (1) During 1986, 1987, and 1988, the determination of each System institution's unallocated retained earnings percentage for purposes of determining its regulatory zone shall be adjusted to compensate for the payment of assessments to and purchase of obligations of the Farm Credit System capital Corporation. In each of these years, a percentage of the amounts provided to the Capital Corporation shall be added to the institution's unallocated retained earnings.

(2) For each of the y86-88, a decreasing percentage of the cumulative amounts of assessments paid or obligations purchased after January 23, 1986, shall be added to the institutions' unallocated retained earnings as follows:
___________________________________________________________________________

Year Percent
1986 75
1987 50
1988 25
___________________________________________________________________________

(3) In determining cumulative amounts supplied:

(i) assessments for operating expenses shall be included at their full amounts.

(ii) Purchases of obligations of the Capital Corporation shall be included to the extent of the imputed costs of foregone interest resulting from this purchase. Imputed interest shall be computed on the basis of average System debt costs during the period minus any dividend or interest paid by the Capital Corporation.

(iii) Losses incurred on debt, stock, or any other such obligation shall be included at the amount of such loss when recognized in accordance with generally accepted accounting principles under instructions issued by the Capital Corporation.
___________________________________________________________________________

Table 1. -- Regulatory Zones Unallocated Retained Earnings Percentage

[Percentages represent the bottom of the indicated zone]

Institution Zone
A B C D
1. Federal Land Bank 1 6.6 5.4 1.5 0
2. Federal Land Bank Association 6.6 5.4 1.5 0
3. Federal Intermediate Credit Bank 1.0 0.7 0.4 0
4. Production Credit Association 16.1 9.2 2.3 0
5. Districtwide Production Credit Association 11.0 7.9 4.8 0
6. Combined District Federal Intermediate Credit Bank
and Production Credit Associations 2 12.0 8.5 5.0 0
7. Bank for Cooperatives 2.2 1.5 0.8 0
8. Central Bank for Cooperatives 1.5 1.0 0.5 0
___________________________________________________________________________

1 A Federal land bank may compute its unallocated retained earnings and percentage by including the unallocated retained earnings of the Federal land bank associations in the district if such retained earnings are, by contract or otherwise, available to the Federal land bank. The combined group shall be determined on the basis of a combined financial statement after elimination of intercompany accounts.

2 The combined group rating for the district Federal intermediate credit bank and production credit associations is determined on the basis of a combined financial statement after elimination of intercompany accounts.

615.5208 Unallocated retained earnings percentage, total capital percentage -- computation and reporting.

(a) Each System institution shall compute its unallocated retained earnings percentage monthly and determine its regulatory zone on the basis of 615.5206, Table 1. Each System institution shall file a certified report with the Farm Credit Administration, not more than 30 days following the last day of each calendar quarter, which shall identify the unallocated retained earnings percentage for the institution for the month-end of each month of such calendar quarter. The report shall also disclose the institution's total capital percentage for purposes of 615.5214. The report shall be in such form and include such technical components as determined by the Farm Credit Administration. The report shall be dated and manually signed on behalf of the institution by the person designated by the board of directors to certify the reports of condition and performance in accordance with 621.12 of this chapter and the chief executive officer. The name and position title of each person signing the report shall be typed or printed beneath each signature. The statement to which the signers of the report shall attest shall read as follows:

The undersigned certify that this report has been prepared in accordance with all applicable statutory and regulatory requirements and that the information contained herein is true, correct, and complete to the best of his/her knowledge.

(b) In addition to filing quarterly reports in accordance with paragraph (a) of this section, each institution that, on the basis of its monthly computation of its unallocated retained earnings percentage, determines that the regulatory zone for the institution is lower than the zone designation made at the beginning of the quarter shall file a certified report not later than 30 days after the end of the month that identifies the new unallocated retained earnings percentage.

615.5210 Determination of regulatory zone.

(a) The zone determination of each institution made in accordance with 615.5208(a) for the last month of the quarter, or in accordance with 615.5208(b) for a month within a quarter, shall be the regulatory zone within which the institution will operate for the following quarter or remainder of a quarter, except when the Farm Credit Administration makes a determination to change such zone in accordance with the provisions of this section.

(b) (1) Upon receipt of the quarterly report of each institution required by 615.5208(a), or interim report in accordance with 615.5208(b), the Farm Credit Administration shall review the zone determination made by the institution and, where appropriate, adjust the retained earnings percentage calculation of the institution in accordance with paragraph (c) of this section, or change the zone determination of the institution in accordance with the criteria contained in paragraph (d) of this section.

(2) Not later than 20 days following receipt of a report filed in accordance with 615.5208, the Farm Credit Administration may notify the reporting institution that the regulatory zone within which such institution will be operating is different from the zone determination made by the institution. In the event of such determination, the Farm Credit Administration shall provide the institution with the following information:

(i) An explanation of the adjustments to the unallocated retained earnings percentage calculation made in accordance with paragraph (c) of this section, including the amount of and basis for such adjustments.
(ii) An explanation of any changes to the zone determination based on the operating and management criteria contained in paragraph (d) of this section.

(iii) An explanation of any corrective actions the institution can take that have not previously been communicated to the institution which will correct the deficiencies cited.

(c) The Farm Credit Administration may adjust the unallocated retained earnings percentage calculation contained in the report filed by the institution based on one or more of the following factors:

(1) The amount of the allowance for losses as determined by the institution is less than the amount that is determined in accordance with generally accepted accounting principles.

(2) The institution faces risk of material loss that is not reflected on its financial statements. Such risks may arise from unrecorded standby letters of credit, futures contracts, and other unrecorded financial risks.

(3) A determination by the Farm Credit Administration that financial statements reflect any transactions that are not necessary to the normal course of business.

(4) The institution has entered into transactions that elevate form over substance.

(5) The Farm Credit Administration has determined that it is necessary to compute the unallocated retained earnings percentage on the basis of average total assets in order to reflect accurately the financial condition of the institution.

(d) Zone changes. The Farm Credit Administration may change the zone determination for a System institution in accordance with paragraph (b) of this section by taking into account operating and management characteristics of the institution which can substantially increase the operating or business risk facing the institution including, but not limited to, the following:

(1) The Farm Credit Administration has commenced proceedings pursuant or ancillary to the provisions of Part C of Title V of the Act.

(2) The institution exhibits unusually high risk, due to inadequate asset liability matching, improper loan programs or pricing, or other factors.

(3) The institution's process for determining the level of loan and loan-related risk and establishing the allowance for losses is inadequate and such deficiency has received comment in the most recent report of an examination conducted or adopted by the Farm Credit Administration or in an opinion or management letter issued by the institution's qualified public accountant.

(4) The institution has an inadequate system of internal controls or operating procedures as documented in the most recent report of examination conducted or adopted by the Farm Credit Administration.

(5) The opinion of the qualified public accountant issued to a System institution on its most recent financial statements is other than unqualified.

615.5212 Differential capital regulation -- general.

The Farm Credit Administration shall exercise its statutory authority to approve and regulate activities and transactions of System institutions on the basis of differential capital regulation in accordance with the provisions of 615.5213. Generally, for institutions that have the highest capital ratios the Farm Credit Administration will provide regulatory approval for actions relating to the setting of interest rates, the distribution of earnings, and other matters subject to regulation or otherwise requiring Farm Credit Administration approval when such actions are carried out in accordance with the institution's financial plan. As the capital position of an institution deteriorates, automatic Farm Credit Administration approvals for actions affecting the institution's capital levels are withdrawn, or limited by the requirement for the Farm Credit Administration approval of the financial plan.

615.5213 Regulatory standards.

The Farm Credit Administration provides regulatory approval for the following activities of System institutions subject to any applicable approvals required by the district bank or other limitations or restrictions regarding such activities contained in paragraph (e) of this section, other regulations in this part, or the bylaws of the institutions. Approvals provided by this section are subject to the requirement that each institution is prohibited from taking any action that would cause its unallocated retained earnings to be reduced to the extent that the institution would be in a regulatory zone where such action would not be approved.

(a) Zone A. -- (1) Federal land banks. The Farm Credit Administration approves the following actions when taken in accordance with the institution's financial plan:

(i) The establishment of or changes to the rate of interest charged on loans made by the bank;

(ii) The payment of dividends on capital stock;

(iii) The payment of patronage refunds to borrowers;

(iv) The payment of any fair and reasonable salary to the chief executive officer of the bank.

(2) Federal intermediate credit banks. The Farm Credit Administration approves the following actions when taken in accordance with the bank's financial plan:

(i) The same actions as are provide for with respect to Federal land banks in accordance with paragraph (a)(1) of this section;

(ii) The provision of financial assistance to production credit associations, provided that the combined group district Federal intermediate credit bank/production credit association is classified as Zone B or A. If the combined group is classified as Zone C or below, financial assistance may only be provided in accordance with specific approval of the Farm Credit Administration.

(3) Banks for cooperatives. The Farm Credit Administration approves the following actions when taken in accordance with the institution's financial plan:

(i) The same actions provided for with respect to Federal land banks in accordance with paragraph (a)(1) of this section;

(ii) The retirement of capital stock and allocated equities.

(4) Federal land bank associations. The Farm Credit Administration approves the following actions when taken in accordance with the institution's financial plan:

(i) The payment of dividends on capital stock;

(ii) The payment of patronage refunds to borrowers;

(5) Production credit associations. The Farm Credit Administration approves the same actions provided for with respect to Federal land banks in accordance with paragraphs (a)(1) (i) through (iii) of this section when taken in accordance with the association's financial plan.

(b) Zone. B. -- (1) Federal land banks. The Farm Credit Administration approves the same actions provided for in paragraph (a)(1) of this section in accordance with the institution's financial plan, subject to the following limitations:

(i) Dividends on capital stock shall not exceed 8 percent per annum;

(ii) The portion of any patronage refund paid in cash shall not exceed 50 percent of the total amount of the patronage refund.

(2) Federal intermediate credit banks. The Farm Credit Administration approves the following actions when taken in accordance with the institution's financial plan:

(i) The same actions subject to the same restrictions as are applicable to Federal land banks as provided for in paragraph (b)(1) of this section;

(ii) The provisions of financial assistance to production credit associations provided that the combined group district Federal intermediate credit/bank production credit association's zone is B or above. If the combined group zone is C or below, financial assistance may only be provided in accordance with specific approval of the Farm Credit Administration.

(3) Banks for cooperatives. The Farm Credit Administration approves the following actions when taken in accordance with the institution's financial plan:

(i) The same actions subject to the same restrictions applicable to Federal land banks as provided for in paragraph (b)(1) of this section;

(ii) The retirement of capital stock and allocated equities.

(4) Federal land bank associations. The Farm Credit Administration approves the same actions provided for in paragraph (a)(4) of this section when taken in accordance with the institution's financial plan, subject to the following limitations:

(i) Dividends on capital stock shall not exceed 8 percent per annum;

(ii) The portion of any patronage refund paid in cash shall not exceed 50 percent of the total patronage refund.

(5) Production credit associations. The Farm Credit Administration approves the same actions provided for in paragraph (a)(5) of this section when taken in accordance with the institution's financial plan subject to the following limitations:

(i) Dividends on capital stock shall not exceed 8 percent per annum;

(ii) The portion of any patronage refund paid in cash shall not exceed 50 percent of the total patronage refund.

(c) Zone C. -- (1) Federal land banks. (i) The Farm Credit Administration approves the following actions when taken in accordance with the institution's financial plan approved by the Farm Credit Administration pursuant to 615.5225:

(A) The establishment of or changes to the rate of interest charged on loans;

(B) The payment of patronage refunds to borrowers, provided that the total amount of patronage refunds paid in a year shall not exceed 50 percent of the earnings of the institution for such year. The portion of any patronage refund paid in cash shall not exceed 25 percent of the total amount of the patronage refund.

(C) The payment of any fair and reasonable salary to the chief executive officer of the bank.

(ii) The institution may not pay dividends on capital stock.

(2) Federal intermediate credit banks. (i) The Farm Credit Administration approves the same actions subject to the same restrictions provided for with respect to Federal land banks in accordance with paragraph (c)(1) of this section when taken in accordance with the financial plan approved by the Farm Credit Administration pursuant to 615.5225.

(ii) The institution may only provide financial assistance to a production credit association with the specific approval of the Farm Credit Administration.

(3) Banks for cooperatives. The Farm Credit Administration approves the following actions when taken in accordance with the financial plan approved by the Farm Credit Administration pursuant to 615.5225:

(i) The same actions subject to the same restrictions provided for with respect to Federal land banks in accordance with paragraph (c)(1) of this section.

(ii) The retirement of capital stock and allocated equities.

(4) Federal land bank associations. (i) The Farm Credit Administration approves the payment of patronage refunds when done in accordance with the institution's financial plan, subject to the restrictions applicable to Federal land banks in accordance with the provisions of paragraph (c)(1) of this section.

(ii) The institution may not pay dividends on capital stock.

(5) Production credit associations. (i) The Farm Credit Administration approves the following action when taken in accordance with the institution's financial plan approved in accordance with 615.5225:

(A) The establishment of or changes to the rate of interest charged on loans;

(B) The payment of patronage refunds to borrowers, provided that the total amount of patronage refunds paid in a year shall not exceed 50 percent of the earnings of the institution for such year. The portion of any patronage refund paid in cash shall not exceed 25 percent of the total amount of the patronage refund.

(ii) The institution may not pay dividends on capital stock.

(d) Zone D. Institutions operating in Zone D have an inadequate level of unallocated retained earnings.

(1) Federal land banks. (i) The Farm Credit Administration approves the establishment of or changes to the rate of interest charges on loans when done in accordance with the institution's financial plan approved by the Farm Credit Administration pursuant to 615.5225.

(ii) The institution may not pay dividends on capital stock.

(iii) The institution may not pay patronage refunds.

(iv) Salary. The rate of compensation paid to the chief executive officer is subject to the specific approval of the Farm Credit Administration.

(2) Federal intermediate credit banks. (i) The Farm Credit Administration approves or denies approval for the same action taken in accordance with the institution's financial plan approved by the Farm Credit Administration pursuant to 615.5225, as is provided for with respect to Federal land banks in accordance with the provisions of paragraph (d)(1) of this section.

(ii) The institution shall not provide financial assistance to production credit associations.

(3) Banks for cooperatives. (i) The Farm Credit Administration approves or denies approval for the same actions taken in accordance with the institution's financial plan approved by the Farm Credit Administration pursuant to 615.5225, as is provided for with respect to Federal land banks in accordance with the provisions of paragraph (d)(1) of this section.

(ii) The institution may not retire capital stock or allocated equities except with the specific approval of the Farm Credit Administration.

(4) Federal land bank associations. The institution may not pay patronage refunds or dividends on any class of stock.

(5) Production credit associations. (i) The Farm Credit Administration approves the establishment of or changes to the rate of interest charged on loans when done in accordance with the institution's financial plan approved in accordance with 615.5225.

(ii) The institution may not pay patronage refunds or dividends on any class of stock.

615.5214 Total capital -- minimum standards.

(a) For the purpose of protecting the interests of holders of System debt instruments, the Farm Credit Administration has established total capital requirements applicable to System institutions. The minimum total capital requirements are applicable to Federal land banks, Federal intermediate credit banks, production credit associations, banks for cooperatives, the Central Bank for Cooperatives, and the Farm Credit System Capital Corporation. Each System institution is required to maintain a level of total capital not less than the level set forth in paragraph (b) of this section. The minimum total capital requirements are separate from and in addition to the requirements set forth in 615.5206 for unallocated retained earnings.

(b) The minimum total capital percentages are as follows:
___________________________________________________________________________

Institution Minimum
total
capital
requirem
ents
(percent
)
Federal land bank 1 6.0
Federal intermediate credit bank 5.0
Production credit association 10.0
Bank for cooperatives 7.5
Central Bank for Cooperatives 6.0
Farm Credit System Capital Corporation 0
___________________________________________________________________________

1 A Federal land bank may compute its total capital and percentage by including the unallocated retained earnings of the Federal land bank associations in the district if such retained earnings are, by contract or otherwise, available to the Federal land bank. The combined group shall be determined on the basis of a combined financial statement after elimination of intercompany accounts.

(c) In addition to, or in lieu of, any other action authorized by law, the Farm Credit Administration may issue a directive to a System institution that fails to maintain its total capital percentage at or above its required level as established under paragraph (b) of this section. Such directive may require the System institution to submit and adhere to a plan acceptable to the Farm Credit Administration describing the means and timing by which the System institution shall achieve its required total capital percentage.

(d) Any System institution that fails to maintain a total capital percentage at or above its level provided for in paragraph (b) of this section shall be subject to the restrictions imposed by 615.5213 for institutions classified in Regulatory Zone D.

(e) Any Federal intermediate credit bank operating in a district where the total capital percentage for the combined district Federal intermediate credit bank and production credit associations is less than 10.5 percent shall be subject to the provisions of paragraphs (c) and (d) of this section. The total capital percentage for the combined production credit associations and Federal intermediate credit bank in a district is determined by combing the statements of each institution involved after elimination of intercompany accounts.

(f) Any Federal intermediate credit bank that fails to maintain a total capital percentage at or above its level as set forth in paragraph (b) of this section shall require each production credit association and other financing institutions to purchase such amounts of additional stock or participation certificates as are necessary to cause the total capital percentage of the bank to equal or exceed the level provided for in paragraph (b) of this section.

(g) The Farm Credit System Capital Corporation shall assess eligible System institutions for such amounts of additional capital as are necessary in order that the liabilities of the Corporation do not exceed its assets.

5. Subpart I is revised to read as follows:

Subpart I -- Financial Operations

Sec.

615.5220 Bank and association financial plans.

615.5225 Financial plans -- approval.

615.5230 Financial plans -- interim requirements.

Subpart I -- Operations

615.5220 Bank and association financial plans.

(a) General. The board of each bank and association, as a part of its strategic planning process, shall adopt and approve a financial plan not later than 30 days prior to the commencement of each fiscal year which shall address the financial operations of the institution for 3 or more years. Financial plans shall be prepared in accordance with technical instructions issued by the Farm Credit Administration.

(b) Content. Each institution's financial plan shall contain:

(1) The portion of the institution's strategic plan which contains the long-term goals for the institution's financial operations.

(2) Statements of the financial objectives which must be met in order to achieve the long-term goals of the institution. These shall include, but are not limited to, objectives relating to: profitability, liquidity, loan growth, loan mix, credit quality, asset/liability management, debt management, and loanable funds.

(3) The net worth objectives of the institution that include minimum and maximum levels of unallocated retained earnings and total capital and the institution's plan for achieving or maintaining those objectives.

(4) An earnings plan which incorporates the institution's asset/liability management strategy, loan pricing programs, operating budget, and other considerations necessary to achieve the institution's profitability objective.

(5) Specific quarterly standards for each of the financial objectives which can be used to evaluate and measure performance to determine whether the objectives are being achieved.
(6) Detailed pro forma financial statements for each fiscal quarter covered by the plan. These shall include income statements, balance sheets, summary statements of changes in financial position, and statements of changes in capital.

(7) A detailed monthly operating budget for the first year of the plan which itemizes all material operating expenses and income sources, and a summary operating budget for each subsequent year covered by the plan.

(8) An explanation of the institution's loan pricing programs which shall include:

(i) Lending rates and fees for variable rate, fixed rate, and differential rate lending programs;

(ii) Target levels of loan volume for each loan program as a percentage of the institution's total loan portfolio; and

(iii) An analysis of the contribution of each program to the earnings of the institution.

(9) All key assumptions and estimates used in the development of the financial plan, including but not limited to, loan volume, interest rates, debt costs, loan chargeoffs, levels of nonaccrual loans and acquired property, and financial assistance to be provided to the Farm Credit System Capital Corporation and other System institutions. Key assumptions shall be developed using independent sources of information, quantitative analysis of independent variables, and statistical techniques.

(c) Monitoring, control, and reporting. Each institution shall maintain a monitoring, control, and reporting process that shall be used by the institution to objectively measure its performance under the financial plan. The institution shall prepare control reports for the board which compare the institution's performance against objectives in the plan and which contain price and volume variance analyses for interest income, costs of debt obligations, net interest margin, and net income.

(d) Changes to financial plans. Changes to the institution's financial plan shall be approved by its board of directors. Each approved change shall be supported with sufficient documentation to isolate the reason for the change and the effect of the change upon attainment of each of the institution's financial objectives. Changes resulting from revisions in assumptions or estimates should be clearly stated and contain evidence of the corrective action taken by the institution to improve its future forecasting of assumptions or estimates.

(e) Adherence to financial plans. The operation of each System institution shall be in accordance with its financial plan.

615.5225 Financial plans -- approval.

(a) Banks. Each System bank that, in accordance with 615.5206, is classified in Zone C or D shall submit its financial plan prepared in accordance with 615.5220 to the Farm Credit Administration for approval, except as provided in paragraph (d) of this section. Financial plans of System banks shall be submitted to the Farm Credit Administration not later than 25 days prior to the beginning of a fiscal year, or, in the case of the reclassification of a bank not later than 30 days after the last day of the calendar quarter. The Farm Credit Administration shall notify the bank of the date of receipt of the financial plan. Within 30 days after the date of receipt of the financial plan, the Farm Credit Administration may provide the institution with notice of approval or disapproval of the plan or of deficiencies in the plan which must be corrected in order for the plan to be analyzed and acted on. If the institution has received no communication regarding the plan from the Farm Credit Administration within 30 days after the date of the notice of receipt of the financial plan by the Farm Credit Administration, the financial plan shall be deemed to have been approved.

(b) Production credit associations. (1) Each production credit association that, in accordance with 615.5210, is classified in Zone D and each production credit association in Zone C that has total assets in an amount greater than 50 percent of total assets of the combined district Federal intermediate credit bank and production credit associations shall submit financial plans and be subject to the same approval procedures applicable to banks in accordance with paragraph (a) of this section, except as provided in paragraph (d) of this section.

(2) Financial plans of production credit associations that are not subject to the provisions of paragraph (b)(1) of this section shall be approved by the district Federal intermediate credit bank in accordance with procedures established by the bank.

(c) Federal land bank associations. Financial plans of Federal land bank associations shall be approved by the district Federal land bank in accordance with procedures established by the bank.

(d) Exceptions. The provisions of this section that require the approval of financial plans of banks and associations classified in Zone C shall not apply to any institution that:

(1) Has paid all current assessments and made all required purchases of obligations issued by the Farm Credit System Capital Corporation; and

(2) Is maintaining the lesser of:

(i) Return on assets, excluding any payment of assessments of or purchases of obligations issued by the Farm Credit System Capital Corporation, and payment of income taxes of 1.00 percent for banks for cooperatives and 0.75 percent for institutions other than banks for cooperatives; and

(ii) Net interest margin percentage of not less than 1.00 percent for Federal land banks or 1.50 percent for institutions other than Federal land banks.

615.5230 Financial plans -- interim requirements.

During the period in which the Capital Corporation is in operation, the financial plans of each System institution prepared in accordance with 615.5220 shall conform with the following requirements:

(a) The amount of dividends paid as a percentage of unallocated retained earnings shall not exceed the amount of the average annual dividend paid as a percentage of unallocated retained earnings for the years 1983, 1984, and 1985. The amount of patronage refunds paid as a percentage of net income shall not exceed the amount of the average annual patronage refund paid as a percentage of net income for the years 1983, 1984, and 1985.

(b) Changes in the institution's capitalization resulting form decreases in stock purchase requirements, modifications of equity revolvement periods, or other changes in the institution's capital plans or programs shall not reduce the institution's projected net interest margin percentage below the sum of the net interest margin percentages for the years 1983, 1984, and 1985, divided by three. For purposes of this paragraph, projected net interest margin percentage shall be increased by foregone interest resulting from Capital Corporation assessments and purchases of its obligations.

(c) Any decrease in the base spread of the institution shall be justified on the basis of a statistical and economic analysis that demonstrates that such decrease will increase total loan interest income over the level that the institution would have realized without the spread decrease. Base spread means the higher of (1) the weighted average loan rate on July 23, 1986, minus the weighted average rate paid for its outstanding interest-bearing obligations on the same date or (2) the sum of the weighted average spreads on the first day of each month in the years 1983, 1984, and 1985, divided by 36.

Frank W. Naylor, Jr.,

Chairman.

[FR. Doc. 86-16489 Filed 7-22-86; 8:45 am]

BILLING CODE 6705-01-M