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4000 - Advisory Opinions
Whether Bank May Act as Agent for Sale of Fixed Rate Annuities and
Permit Sale of Mutual Funds on Its Premises Through "Dual
Employees" and Registered Broker-Dealer
FDIC--92--74
October 29, 1992
Pamela E.F. LeCren, Counsel
Your letter to Alfred J. T. Byrne, General Counsel, Federal Deposit
Insurance Corporation, requesting an opinion on whether your client
bank may act as agent for the sale of fixed rate annuities and whether
the bank may permit the sale of mutual funds on its premises through
"dual employees" of the bank and a registered broker-dealer was
forwarded to me for response.
Initially let me point out that the question of whether a bank is
authorized to enter into the type of arrangements described in your
letter is a matter of state law. Of course, as you no doubt are aware,
even if state law allows for the relationships to be established,
federal statute or regulation may prohibit or restrict the bank from
doing so.
Securities Brokerage Networking Arrangements
The FDIC has had occasion from time to time to review a number of
securities brokerage networking programs primarily for the purpose of
determining whether or not the participation of an insured nonmember
bank in such an arrangement would cause the participating bank to be in
violation of § 21 of the Glass-Steagall Act (12 U.S.C. 378). The
first such program reviewed by the FDIC was a program known as INVEST
which is offered by ISFA Corporation (see FDIC advisory opinion
83--21). Upon reviewing that program, it was the FDIC's conclusion that
participation by an insured nonmember bank in the INVEST program would
not cause the bank to be in violation of the Glass-Steagall Act. The
FDIC specifically declined, however, to endorse the program. What is
more, despite the fact that our letter indicated that "the FDIC does
not at this time perceive any excessive or undue risk arising from
nonmember bank participation in INVEST", the review undertaken by
the FDIC at that time did not constitute a complete safety and
soundness review.
When subsequently asked to review securities brokerage networking
programs, the FDIC has for the most part confined itself to a
determination of whether the program would involve a violation of the
Glass-Steagall Act. If a program is found to be substantially similar
to INVEST, the conclusion necessarily follows that the program would
not involve a participating bank in a violation of the Glass-Steagall
Act.
We have on occasion commented on one particular aspect or another
regarding a program under review if something about the program
appeared to be problematical or potentially so. In that vein, FDIC
advisory opinion 86--18 raised the possibility that
compensating bank employees who act as registered representatives on
the basis of the volume of the business generated by the
representative could lead to a conflict of interest that may be the
basis for criticism by the FDIC. It was also noted that a conflict of
interest could arise if a participating bank receives bonuses based
upon the volume of business generated under the program. Again, it was
noted that this could be the basis of criticism by the FDIC. Lastly,
the same letter indicates that use by a participating bank of the
program
{{2-28-93 p.4685}}to accomplish trades on behalf of
fiduciary accounts could raise questions as to a possible breach of
fiduciary obligation and questions of whether the bank met its best
execution obligations. The opinion raised these issues for the sole
purpose of reinforcing to the requestor that the FDIC was not endorsing
the program but was specifically reserving the right to object in the
future to the program and/or how it is operated if the circumstances so
warranted. 1
We think that the referenced letters should provide you with
sufficient guidance on the Glass-Steagall Act issue as well as other
aspects of securities brokerage networking arrangements that may give
rise to adverse comment by the FDIC during an examination. Please note
also that it is the FDIC's posture that networking arrangements of this
type trigger the applicability of Part 344 of the FDIC's regulations
(12 C.F.R. 344) which makes a bank responsible for record keeping and
confirmations with respect to securities
transactions. 2
As a practical matter, in most such arrangements that we have seen, the
registered broker-dealer keeps records regarding the transactions,
sends out confirmations to customers, etc. so the only outstanding
obligation a participating bank may have to itself perform under Part
344 would be to disclose to customers the remuneration it receives in
connection with the transactions. Even that obligation may in some
instances be discharged by the broker-dealer if the confirmation
contains the relevant information.
All of the letters referenced above, with the exception of our
July 16, 1992 unpublished opinion, were written prior to the enactment
of § 24 of the Federal Deposit Insurance Act ("FDI Act'', 12
U.S.C. 1831a). Under that provision of law, after December 19, 1992, no
insured state bank may engage as principal in any activity that is not
permissible for a national bank without obtaining the FDIC's consent.
Consent can only be granted if the bank meets its capital requirements
and the FDIC determines that conducting the activity will not pose a
significant risk to the deposit insurance fund of which the bank is a
member. The statute does not define the phrase "as principal" nor
has the FDIC yet promulgated regulations doing so. It is staff's
initial opinion at this point, however, that any bank that enters into
a contract with another party should be considered to be acting as
principal with respect to that contract. Therefore, if a national bank
could not enter into the arrangement you have described, your client
bank could not do so without the FDIC's
consent. 3
The FDIC recently added Part 362 to the FDIC's regulations. Part 362
implements § 24 of the FDI Act in so far as equity investments of
insured state banks are concerned. It is expected that the FDIC will
propose an amendment to Part 362 in the near future that will address
the conduct by an insured state bank or its subsidiaries as principal
of activities that are not permissible for a national bank. Among the
definitions contained in Part 362 is a definition of the phrase
"significant risk to the insurance fund". As defined therein, a
significant risk to the insurance fund will be considered to be present
whenever there is a high probability that any insurance fund
administered by the FDIC may suffer a loss. Although that definition
was adopted in the context of equity investments, we do not anticipate
that the FDIC will propose to change that definition when it considers
amendments to Part 362.
Until such time as there may be a delegation of the authority to
make significant risk determinations with respect to the direct and
indirect activities of insured state banks, only the Board of Directors
can make those determinations. Staff is working on regulations that
should help resolve such questions as how one determines if an activity
is permissible for a national bank and which may establish application
procedures for banks that wish to obtain consent. Even if one were to
assume that your client bank would need to obtain the FDIC's consent to
enter into the contract at hand, you may draw some comfort, from
the
{{2-28-93 p.4686}}fact that to date the FDIC has not to
our knowledge prohibited any insured nonmember bank from participating
in securities brokerage networking programs.
Acting as Agent for Sale of Fixed Rate Annuities
In much the same way as the preceding discussion, the question of
whether an insured state bank may act as agent for the sale of fixed
rate annuities without the FDIC's consent under § 24 of the FDI Act
depends upon whether acting as agent is an "as principal'' activity
and whether a national bank could engage in the sale of fixed rated
annuities. As indicated above, the FDIC has not yet determined the
meaning of "as principal" for the purpose of § 24. Even
assuming, however, that acting as agent for the sale of fixed rate
annuities is an "as principal" activity, an insured state bank
could so engage without the FDIC's consent under § 24 as the Office
of the Comptroller of the Currency has determined that a national bank
may do so. (CCH Fed. Banking L. Rep. Par. 85,501).
The inquiry does not necessarily end there, however. Although the
FDIC does not have any regulations that require a bank to obtain the
FDIC's consent before conducting such activities, and the FDIC does not
have any regulations that would prohibit an insured state bank from
conducting such activities, acting as agent for the sale of annuities
can raise safety and soundness concerns.
One of the overriding concerns is that the individual's to whom
annuities are sold should be made aware that the annuities are not
insured deposits and that they are not obligations of the bank.
Additionally, the sales should be accomplished in such a manner as to
reduce to the fullest extent possible any customer confusion about what
is being purchased. For example, if the bank targets customers with
maturing certificates of deposits and informs them that their funds can
be put into a fixed rate annuity that the bank makes available, there
is a high probability that at least some of the customers will think
that they have simply rolled over their certificate of deposit. Not
only may a customer confuse the annuity with an insured deposit, if
bank employees recommend the purchase of the annuities or make any
representations about the safety of the annuities or their value as an
investment, customer confidence could be adversely affected if the
company that issues the annuities defaults on its obligations. In that
event, the customers may seek redress from the bank. (We note that the
bank plans to inform customers in writing that the annuities are not
insured deposits. We also note that the bank will not recommend the
annuities, that the bank will make clear that the bank is not
warranting the value of the annuity, and that the customers will be
informed that they have no recourse against the bank with respect to
the annuities.) Lastly, if bank employees are compensated on a volume
basis, certain conflicts of interest can arise that may be the subject
of criticism.
The above discussion is by no means intended to be a complete review
of all the possible safety and soundness and conflicts of interest
issues that can arise. It should serve, rather, as a reminder that the
FDIC will carefully scrutinize the conduct of such activity if it is
undertaken.
I hope that the above has been responsive to your inquiry. If you
have any further questions, please feel free to contact me at (202)
898-3730. Finally, in closing I would like to apologize for the delay
in responding to your inquiry. I sincerely hope that the delay has not
caused your client any
inconvenience.
1See also, FDIC advisory opinion 86--32. We are enclosing
another more recent letter for your information which to the best of
our knowledge has not to this point been published by the FDIC. Go Back to Text
2It is our opinion that for the purposes of Part 344 of the
FDIC's regulations, the participating bank would be "effecting"
securities transactions. Go Back to Text
3The Office of the Comptroller of the Currency has had occasion
to review the INVEST program and other similar arrangements and has
found several such programs to be permissible for national banks. We
are enclosing copies of those opinions for your information. Go Back to Text
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