Systemically Important Financial Companies: Federal Reserve Issues Proposed Rules Implementing Enhanced Prudential Supervision Regime

Sullivan & Cromwell LLP - December 22, 2011

On December 20, 2011, the Board of Governors of the Federal Reserve System (“FRB”) issued for public comment a notice (the “Notice”) of proposed rulemaking (the “Proposed Rule(s)”) implementing the wide-ranging enhanced prudential standards and early remediation requirements that will apply to (i) bank holding companies (“BHCs”) with $50 billion or more in total consolidated assets (“Covered BHCs”) and (ii) nonbank financial companies designated as systemically important by the Financial Stability Oversight Council (“FSOC”) (“Covered Nonbank Companies” and, together with Covered BHCs, “Covered Companies”). These rules are mandated by Sections 165 and 166 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”). The Notice is 173 pages and poses 95 specific questions. Comments are due by March 31, 2012.

In order to prevent or mitigate risks to U.S. financial stability that may arise from the material financial distress, failure, or ongoing activities of large, interconnected financial institutions, Section 165 of Dodd-Frank requires the FRB to establish prudential standards for Covered BHCs and Covered Nonbank Companies that must be “more stringent” than those applicable to non-covered companies and must increase in stringency as the size and complexity of the Covered Company increases. Under the statute, the FRB must establish enhanced prudential standards for:

  • risk-based capital requirements and leverage limits;
  • liquidity requirements;
  • overall risk management requirements;
  • resolution plan and credit exposure reporting; and
  • concentration/credit exposure limits.

With the exception of the resolution plans, which were the subject of a previous rulemaking, and credit exposure reporting, which remains pending, each of these enhanced standards is addressed in the Proposed Rules.

The FRB is also authorized, but not required by Section 165, to establish additional standards regarding:

  • contingent capital;
  • enhanced public disclosures;
  • short-term debt limits; and
  • any other prudential standards the FRB determines to be appropriate.

The Proposed Rules do not address these standards.

The Proposed Rules also implement Section 166 of Dodd-Frank, which requires the FRB to establish requirements to provide for the early remediation of financial distress of a Covered Company in order to minimize the possibility that the company will become insolvent and pose a risk to U.S. financial stability.

The requirements generally would become effective on the first day of the fifth calendar quarter after the effective date of the final rule (or the date a company becomes a Covered Company), although certain requirements have different transition provisions, which are noted in the relevant sections below.