Bank Capital Plans and Stress Tests: Federal Reserve Issues Interim Final Rules Addressing Application of New Basel III-Based Capital Framework for Purposes of the 2013-2014 Capital Plan and Stress Test Cycle

Sullivan & Cromwell LLP - October 2, 2013

The Federal Reserve recently issued two interim final rules that clarify how covered companies must incorporate the new U.S. Basel III-based final capital rules (the “Basel III Capital Rules”) into their capital plan submissions and Dodd-Frank Act stress tests for the upcoming 2013-2014 cycle.

To address and clarify the potential issues created by the interaction of the overlap of the nine-quarter planning horizon of the Federal Reserve’s current version of the capital plan rule (the “Capital Plan Rule”) and the stress test requirements of Section 165(i) of the Dodd-Frank Act (the “Stress Test Rules”) and the phased-in implementation of certain aspects of the Basel III Capital Rules, as well as the differences between the calculation of the “T1C Ratio” under the Capital Plan Rule and the “CET1 Ratio” under the Basel III Capital Rules, the Federal Reserve’s first interim final rule amends the Capital Plan Rule and Stress Test Rules to require each covered bank holding company with $50 billion or more in total consolidated assets to:

  • continue to estimate its T1C Ratio using the methodology currently in effect under the existing general risk-based capital rules and not the Basel III Capital Rules over the nine-quarter planning horizon; and
  • separately calculate its regulatory minimum capital ratios under the applicable risk-based capital rules, including related phase-in provisions, as applicable for each quarter of the planning horizon (and, accordingly, including the new Basel III Capital Rules as they become effective).

In effect, this means that, for purposes of the revised Capital Plan Rule and Stress Test Rules, each covered company will need to calculate both (i) its T1C Ratio under the Basel I-based generally applicable risk-based capital rules as currently in effect (as to both the numerator and the denominator) over the entire nine-quarter planning horizon, and (ii) its applicable minimum capital ratios, including the new “CET1”, as applicable, under the Basel III Capital Rules as they come into effect for the particular institution depending on its size and whether, if it is an advanced approaches banking organization, it has received Federal Reserve approval to exit the parallel run and utilize internal models for purposes of calculating its risk-weighted assets prior to October 1, 2013.

The Federal Reserve’s second interim final rule provides a one-year transition period for most BHCs, savings and loan holding companies and state member banks with between $10 billion and $50 billion in total consolidated assets for purposes of the Stress Test Rules, which require companies to conduct their first company-run stress tests this fall.