WASHINGTON -- Former Treasury Secretary William E. Simon had proposed splitting his critically undercapitalized Western Federal Savings and Loan Association into a good bank specializing in minority loans and a bad bank.

But federal regulators -- who were asked to provide $150 million -- thought it a bad idea.

Late Friday the Officer of Thrift Supervision seized Western Federal, a $4 billion-asset thrift in Marina Del Rey, Calif., and turned it over to the Resolution Trust Corp., which promptly rechartered it as Western Federal Savings Bank.

Investors' Group

The failed thrift's holding company, WestFed Holdings Inc., is owned by a group of private investors led by Mr. Simon.

Other members are Preston Martin, a former vice chairman of the Federal Reserve Board and former Federal Home Loan Bank Board chairman; corporate attorney Gerald Parsky, and California real estate attorneys Larry Thrall and Roy Doumeni.

They claim to have lost the $210 million they had invested in Western Federal since merging it in 1988 with a failed thrift held by the federal government. That sum includes $120 million held by the thrift on Friday.

The OTS had instructed Western Federal to raise its risk-based capital levels to 9% from the 4.7% it reported at the end of the first quarter. The regulators also demanded that Western Federal raise its core capital to 5% from 2.2%.

Mr. Martin said the investors would have had to raise $150 million to comply.

Instead, Western Federal proposed breaking off about $1 billion of its assets into a "good bank," which Mr. Martin said would serve primarily as a community lender for Southern California minority neighborhoods.

The remaining $3 billion in assets would become a "bad bank" whose sole purpose would be to be liquidated.

Accord with Government

The investors group signed an agreement in 1988 with the Federal Savings and Loan Insurance Corp. and the Bank Board to acquire Western Federal and merge it with Bell Savings and Loan, a failed thrift.

Under the agreement, the agencies told investors they would treat the new Western Federal as if it were in capital compliance and allow it to grow its way out of its problems, Mr. Martin said.

A year later, Congress passed a law that changed the rules, the Financial Institutions Reform, Recovery, and Enforcement Act of 1989.

Lawsuit Against Government

As a result of the legislation, the partnership sued the government, charging breach of contract. Mr. Martin said the litigation would continue.

"Once FIRREA was passed and instead of growing, we had to shrink, then our opportunity to put earning assets on the books" came to an end, Mr. Martin said.

Separately, the OTS also on Friday closed Vista Federal Savings Association, a $94 million-asset thrift in Canoga Park, Calif. The RTC said it had approved paying off insured depositors and began making payments last weekend.

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