WASHINGTON - National banks will be able to offer new products and services through "financial subsidiaries" under rules issued this week by the Office of the Comptroller of the Currency.

Implementing the Gramm-Leach-Bliley Act of 1999, the office followed rules issued Wednesday by the Federal Reserve Board that explain how bank holding companies may convert to financial holding companies to offer both securities and insurance products.

The two agencies are posing different ways to accomplish the same goal: selling banking, brokerage, and insurance under one roof. Whether a company chooses direct bank subsidiaries or holding company units will depend on a variety of factors, and most industry observers expect both vehicles to be used.

"So much depends on their structure, their strategy, and their size," said Steve Roberts, partner in charge of national regulatory advisory services at KPMG LLP.

The Comptroller's Office and the Fed are clearly selling themselves, too, trying to convince the private sector that their regulation and oversight will be as painless as possible. As Congress intended, rules from both agencies require a minimum of paperwork and promise quick responses.

"Both of the regulators are attempting to … make the process of engaging in new activities as efficient and as little burdensome as they can," said Richard M. Whiting, executive director and general counsel of the Financial Services Roundtable. "The test of whether the promises of simplification and modernization will be realized is how these regs are applied."

Under the Comptroller's rule, national banks may set up financial subsidiaries to provide an array of services that are "financial in nature" or "incidental to financial activity." The rule contains a list of examples including securities underwriting, insurance sales, and anything bank holding companies are permitted to do overseas, such as operate travel agencies. The Treasury Secretary, in consultation with the Fed, will decide what else fits these terms.

But some activities are off-limits. Congress explicitly barred financial subsidiaries from insurance underwriting, real estate investment and development, and most merchant banking activities.

The OCC rules outline two options for creating financial subsidiaries.

A national bank may choose to identify its depository institutions and certify that each is well capitalized and managed. Then, when the bank wants to enter a new business, it just files a written notice with the agency stating the original certification remains valid, describing the financial subsidiary's operations, and citing the specific authority permitting the new activity to be conducted.

The second option simply combines these two steps and must be filed at least five business days prior to starting the new business. Approval is automatic.

However, the rules give the OCC plenty of latitude to step in if a national bank's condition deteriorates. "The OCC may impose limitations on the conduct or activities of the national bank or any subsidiary … that the OCC determines appropriate," according to the rule.

To take advantage of the law and establish a financial subsidiary, a national bank must clear five hurdles. Three mirror the Fed's rules: National banks must be well capitalized and well managed and they must hold a satisfactory rating under the Community Reinvestment Act.

The definition of well capitalized is 6% Tier 1 capital and 10% total capital to risk-adjusted assets and 5% Tier 1 capital to total assets. Well managed means a composite Camels score of 1 or 2 on the 5-point scale and a similar score on the management and compliance components.

But national banks are subject to two more tests.

The aggregate consolidated total assets of all financial subsidiaries may not exceed $50 billion or 45% of the bank's consolidated total assets, whichever is lower.

The 100 largest banks must have at least one issue of outstanding eligible debt rated in one of the three highest investment grades by a national agency. The debt must have a maturity of 360 days or longer.

Once a financial subsidiary is established, the OCC rules impose six other requirements such as limits on transactions with the parent bank.

In its 35-page rule, the Comptroller's Office also makes it clear that "operating subsidiaries" are still an option.

The agency created op-subs, as they are called, several years ago as a way for banks to enter businesses that were then barred to them, such as securities underwriting. But the move angered some lawmakers, and Gramm-Leach-Bliley prohibits op-subs from doing anything a bank may not do directly.

Still, there is potential for banks to use operating subsidiaries to enter new businesses - even those explicitly barred by the new law. The OCC would have to declare an activity to be "part of, or incidental to, the business of banking."

"I think there's a lot of room for flexibility," said Bert Ely, president of Ely & Associates in Alexandria, Va. "We now have two different kinds of subsidiaries. I think a lot of people have overlooked that, but the OCC hasn't."

However, an OCC lawyer on Thursday clarified remarks made this week that many interpreted as meaning op-subs would be permitted to conduct merchant banking.

"I am not saying merchant banking is part of the business of banking generally; I can't foresee that," said Deputy Chief Counsel Ray Natter. "But I can say that where there is specific statutory authority, that is something that is not foreclosed by Gramm-Leach-Bliley."

The OCC rule kicks in March 11, when the Gramm-Leach-Bliley law takes effect. Comments on the rule are due Feb. 14. For the full text of the Fed or OCC rules, go to the links in the on-line version of this story at www.americanbanker.com or to the agencies' own Web sites, www.federalreserve.com and www.occ.treas.gov.

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