Fed Exempts Bond Interest From Securities-Unit Cap On Underwriting

The Federal Reserve Board ruled Wednesday that most corporate and municipal bond interest should be excluded from the 10% cap on commercial underwriting revenue.

The decision, released after the markets closed, allows section 20 subsidiaries to earn more from underwriting activities without hitting the revenue cap.

The Fed estimated that the change would let 11 securities affiliates, including those run by J.P. Morgan & Co., Bankers Trust New York Corp., and Citicorp, to boost underwriting activities between 19% and 79%. The new rule would have little effect on the 29 other section 20 units.

"This certainly will help," said Melanie Fein, a partner at the Washington law firm of Arnold & Porter. "It gives them more elbow room."

The measure, effective Nov. 12, was one of three section 20 reforms the Fed proposed Aug. 5. Proposals to raise the revenue limit to 25% and to eliminate some firewalls that separate commercial and investment banking remain pending.

Bankers had complained that the bond interest rule was unfair because banks could hold the bonds in their own portfolios without penalty but section 20 units had to count the interest toward the revenue cap. The Fed agreed, saying section 20 affiliates can exclude commercial and municipal bond interest, provided the security can easily be sold.

Also Wednesday, the Fed revised the list of fees banks must disclose under the Truth-in-Lending Act.

The changes, effective Oct. 21, require lenders to exclude premiums paid for debt cancellation contracts from the finance charge.

These agreements are similar to credit insurance. Borrowers pay lenders extra for the assurance that the bank will forgive the loan if the collateral is destroyed.

Banks also should exclude from finance charges any fee paid to prepare loan documents or to inspect for pest and flood hazards, the Fed said.

New fees also were added to the list. Lenders will be required to include all mortgage broker fees paid by the borrower. These fees are now only included in the finance charge if the lender requires the use of a broker or if it keeps part of the fee.

The Fed also provided some lawsuit protection for banks that misstate finance charges. It said banks can avoid liability as long as they don't understate the finance charge by more than $100. It also provided a safe harbor for banks that overstate the finance charge. Current rules let banks deviate by less than $10 from the true finance charge.

Most of the Fed's changes are in response to the Truth-in-Lending Act Amendments of 1995. Congress adopted these changes to protect lenders from a rash of class-actions by consumers claiming they shouldn't have to pay a mortgage because the lender left out a courier or other minor fee from the finance charge.

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