Annual Independent Audits and Reporting Requirements

SUMMARY: The FDIC is amending its regulations concerning annual

independent audits and reporting requirements. Section 314 of the

Riegle Community Development and Regulatory Improvement Act of 1994

(RCDRIA) amended sections 36(i) and 36(g)(2) of the Federal Deposit

Insurance Act (FDI Act). Section 36 of the FDI Act is generally

intended to facilitate early identification of problems in financial

management at larger insured depository institutions through annual

independent audits, assessments of the effectiveness of internal

controls and of compliance with designated laws and regulations, and

more stringent reporting requirements. Section 314(a) provides relief

from certain duplicative reporting under section 36 of the FDI Act for

sound, well managed insured depository institutions with over $9

billion in total assets which are subsidiaries of multibank holding

companies. Section 314(b) requires the Corporation to notify a large

insured depository institution in writing if it decides a review by an

independent public accountant of such an institution's quarterly

financial reports is required. This regulation governs annual

independent audits and implements section 36 of the FDI Act. This

amendment conforms the regulations to the amended statute.

In addition, the FDIC is making several technical amendments to the

Guidelines and Interpretations (Guidelines) that were published as an

appendix to the annual independent audit regulations. The FDIC also is

amending Schedule A to the appendix, ``Agreed Upon Procedures for

Determining Compliance with Designated Laws'', to implement recent

amendments to the federal regulations concerning loans to insiders,

improve the format of the procedures, streamline the specific

procedures, and eliminate ambiguities. These amendments reflect the

experience of the Corporation, financial institutions, and accountants

using the existing procedures during the past two years.

EFFECTIVE DATE: April 1, 1996.

FOR FURTHER INFORMATION CONTACT: Doris L. Marsh, Examination

Specialist, Division of Supervision (202) 898-8905, FDIC, 550 17th

Street NW., Washington, DC 20429, or Sandra Comenetz, Counsel, Legal

Division, (202) 898-3582, FDIC, 550 17th Street NW., Washington, DC

20429.

SUPPLEMENTARY INFORMATION:

I. Paperwork Reduction Act

The collection of information contained in this amendment has been

reviewed and approved by the Office of Management and Budget under

control number 3064-0113, pursuant to section 3504(h) of the Paperwork

Reduction Act (44 U.S.C. 3501 et seq.). This information collection is

mandated by section 36 of the FDI Act (12 U.S.C. 1831m), which was

added by section 112 of FDICIA (Pub. L., 102-242, 105 Stat. 2242).

The total estimated reporting burden for the collection under Part

363 is:

Number of Respondents: 450.

Number of Responses per Respondent: 3.19.

Total Annual Responses: 1,435.5.

Hours per Response: 40.38.

Total Annual Burden Hours: 57,970.

The changes to this collection of information have been reviewed

and approved by OMB pursuant to the Paperwork Reduction Act. Comments

on the accuracy of the burden estimate, and suggestions for reducing

the burden, should be directed to the Office of Management and Budget,

Paperwork Reduction Project 3064-0113, Washington, D.C. 20503, with

copies of such comments to Steven F. Hanft, Office of the Executive

Secretary, Room F-400, 550 17th St. N.W., Washington, D.C. 20429.

II. Regulatory Flexibility Act

The rule expressly exempts insured depository institutions having

assets of less than $500 million, and, for that reason, is inapplicable

to small entities. Therefore, pursuant to section 605(b) of the

Regulatory Flexibility Act (Pub. L. 96-354, 5 U.S.C. 601 et seq.), it

is certified that the rule would not have a significant impact on a

substantial number of small entities.

III. Background

Section 112 of the Federal Deposit Insurance Corporation

Improvement Act of 1991 (FDICIA) added section 36, ``Independent Annual

Audits of Insured Depository Institutions'', to the FDI Act (12 U.S.C.

1831m). Section 36 requires the FDIC, in consultation with the

appropriate federal banking agencies, to promulgate regulations

requiring each insured depository institution over a certain asset size

(covered institution) to have an annual independent audit of its

financial statements performed in accordance with generally accepted

auditing standards and section 37 of the FDI Act (12 U.S.C. 1831n), and

to provide a management report and an independent public accountant's

attestation concerning both the effectiveness of the institution's

internal controls for financial reporting and its compliance with

designated safety and soundness laws. Section 36 also requires each

covered institution to have an independent audit committee. The audit

committee of each large covered institution (total assets exceeding $3

billion) must meet certain additional requirements.

Section 36 also requires the FDIC, in consultation with the other

federal banking agencies, to designate laws and regulations concerning

safety and soundness. This section requires the institution's

independent public accountant to perform procedures agreed upon by the

Corporation to determine an institution's compliance with such

designated laws and regulations. The laws and regulations selected by

the Corporation (Designated Laws) are the federal laws and regulations

concerning loans to insiders and the federal and state laws and

regulations concerning dividend restrictions.

In June 1993, the FDIC published 12 CFR Part 363 (58 FR 31332, June

2, 1993) to implement the provisions of

[[Page 6488]]

section 36 of the FDI Act. Under Part 363, the requirements of section

36 apply to each insured depository institution with $500 million or

more in total assets at the beginning of any fiscal year that begins

after December 31, 1992. Part 363 also includes Guidelines and

Interpretations (Appendix A to Part 363), which are intended to assist

institutions and independent public accountants in understanding and

complying with Section 36 and Part 363. Appendix A to Schedule A

contains the agreed-upon procedures that must be performed by an

institution's independent public accountant in order to permit the

accountant to report on the extent of compliance with the Designated

Laws as required by Section 36(e)(1) and (2).

Section 314 of RCDRIA amends sections 36(i) and 36(g)(2) of the FDI

Act (12 U.S.C. 1831m(i) and (g)(2)). The purpose of section 314(a) is

to provide relief from certain duplicative reporting under section 36

of the FDI Act for sound, well managed insured depository institutions

with over $9 billion in total assets which are subsidiaries of

multibank holding companies. Section 314(b) requires the FDIC to notify

a large insured depository institution in writing if the FDIC decides

to require a review by an independent public accountant of such

institution's quarterly financial reports.

Section 36(g)(2) of the FDI Act authorizes the FDIC to require

independent public accountants for ``large institutions'' to review

such institutions' quarterly financial reports. When the FDIC adopted

Part 363, it elected not to exercise its authority in this area for

reasons of cost and limited expected benefits, preferring instead to

request such reviews on a case-by-case basis. The FDIC continues to

believe that this is appropriate. Should the FDIC decide to request an

independent public accountant's review of the quarterly financial

statements of a large insured depository institution, it will make the

request in writing. The regulation is being amended to reflect section

314(a); no regulatory action is needed for section 314(b) which speaks

for itself.

In addition, the regulation is being amended to reflect the current

provisions of federal regulations concerning loans to insiders (Federal

Reserve Board Regulation O, 12 CFR Part 215), which are included in one

of the Designated Laws, but were amended themselves during 1994.

Lastly, Section 303 of RCDRIA requires the each federal banking

agency to streamline and modify its regulations and policies in order

to improve efficiency and reduce unnecessary burden. The FDIC believes

that Part 363 and its final amendment are consistent with the

requirements of section 303.

IV. Proposed Rule

The FDIC sought public comment on proposed amendments to Part 363

and the Guidelines in February 1995 (60 FR 8583, February 15, 1995).

The FDIC proposed to amend certain paragraphs of 12 CFR Part 363 to

conform to the amended statute. The FDIC also proposed to make

technical and clarifying changes to the Guidelines in Appendix A.

In addition, initial experience with Part 363 indicated that

certain clarifications of the specific procedures in Schedule A to

Appendix A of the Guidelines would make them more efficient and less

burdensome. The FDIC therefore proposed amending Schedule A to Appendix

A--Agreed Upon Procedures for Determining Compliance with Designated

Laws, to eliminate ambiguities, improve the format of the procedures,

streamline the specific procedures, and reflect the recent amendments

to the federal regulations concerning loans to insiders (12 CFR Part

215). The proposal reflected the experience of the Corporation,

institutions, and accountants with the existing procedures during the

period since their adoption in June 1993.

A. Proposed Amendments to the Rule

Section 363.1--Scope. To make Sec. 363.1(b) consistent with section

314(a)(1) of RCDRIA, the phrase ``but less than $9 billion'' was

proposed to be deleted from the provisions of the regulation describing

the institutions eligible to report using the holding company exception

set forth in section 36(i). Section 36 originally required each

institution with total assets exceeding $9 billion to have its own

audit committee and to file a management report and attestations by the

independent public accountant on internal controls and compliance with

designated laws and regulations. This has been particularly burdensome

for many large institutions which are subsidiaries of multibank holding

companies because they have had to have their own separate audit

committee, whose function was often duplicative of the holding company

audit committee. In addition, the holding company typically has had to

file two sets of management reports and attestations by the independent

public accountant: one on the institution which exceeded $9 billion in

total assets and another on the holding company group in order to cover

the smaller institutions also subject to Part 363. In many cases, these

reports were duplicative since the large institution was the dominant

institution in the holding company group. Section 314(a) eliminates

this duplication by permitting sound, well-managed insured depository

institutions with over $9 billion in total assets which are

subsidiaries of multibank holding companies to use the holding company

audit committee and to submit reports as part of the holding company

group.

The FDIC also proposed to add a paragraph, consistent with section

314(a)(3) of RCDRIA, to explain that the appropriate federal banking

agency may require a large institution subsidiary of a holding company

to have its own audit committee and report separately if it determines

that the institution's use of the holding company exception in section

36(i) would create a significant risk to the affected deposit insurance

fund.

Section 363.4--Filing and notice requirements. It was proposed to

correct Sec. 363.4(b) so that it would be clear that only the annual

report in Sec. 363.4(a)(1) is available for public inspection and that

the attestation by the independent public accountant concerning

compliance with Designated Laws is not a document available to the

public.

Section 363.5--Audit committees. A new sentence was proposed to be

added to make the Rule consistent with section 314(a) of RCDRIA, which

prohibits any large customers of a large insured depository institution

from being members of the audit committee of the institution's holding

company if the institution relies on the audit committee of the holding

company to comply with this rule.

B. Amendments to Appendix A to Part 363--Guidelines and Interpretations

4. Comparable Services and Functions--Guideline 4(c) under ``Scope

of Rule'' was proposed to be amended to replace the phrase ``all

subsidiary institutions'' with the phrase ``those subsidiary

institutions'' to clarify that only information pertaining to covered

institutions, not all subsidiaries of a holding company, must be

included in reports filed under Part 363.

9. Safeguarding of Assets. The last two sentences of Guideline 9

and the footnote to the Guideline, which explained how the independent

public accountant should treat the lack of criteria against which

``safeguarding of assets'' may be judged for financial reporting, were

proposed to be revised. The FDIC's concern over the lack of criteria,

which existed at the time of the adoption of Part 363, was eliminated

in May 1994, as a result of the issuance by

[[Page 6489]]

Committee of Sponsoring Organizations (COSO) of the Treadway Commission

of an Addendum to the ``Reporting to External Parties'' volume of

COSO's September 1992 Internal Control--Integrated Framework (COSO

Report). The Addendum expanded the discussion of the scope of a

management report on internal controls to address additional controls

pertaining to safeguarding of assets. The FDIC proposed to replace the

last two sentences of the Guideline with specific references to types

of safeguarding that should be covered by management and the

independent public accountant in their reports.

10. Standards for Internal Controls. In the footnote to Guideline

10, the Addendum to the COSO Report was proposed to be added to the

list of sources of information on safeguarding of assets and standards

for internal controls for financial reporting that may be considered

for use by institutions. In addition, it was proposed that the American

Institute of Certified Public Accountants' (AICPA) Statement on

Auditing Standards No. 55 (SAS 55), ``Consideration of the Internal

Control Structure in a Financial Statement Audit,'' should replace

AICPA Statement on Auditing Standards No. 30 (SAS 30), ``Reporting on

Internal Accounting Control,'' in the footnote to Guideline 10.

15. Peer Reviews--Guideline 15 requires each independent accountant

to be enrolled in or have received a peer review that meets certain

guidelines. These guidelines state that the peer review must be

consistent with American Institute of Certified Public Accountants

(AICPA) standards. Since the AICPA combined the two of its three

standards for performing and reporting on peer reviews, those for

Private Companies Practice Section and for its Quality Reviews into one

standard on Peer Reviews, the footnote to Guideline 15 was proposed to

be amended to identify the two remaining acceptable AICPA standards:

Standards for Performing and Reporting on Peer Reviews, contained in

Volume 2 of the AICPA's Professional Standards, and Standards for

Performing and Reporting on Peer Reviews, codified in the SEC Practice

Section Reference Manual.

24. Relief from Filing Deadlines--This Guideline explains the

circumstances in which an institution may request an extension of a

filing deadline, but makes reference to section 36 in doing so. The

phrase referring to section 36 of the FDI Act in Guideline 24 was

proposed to be deleted since section 36 does not grant authority to the

FDIC to provide relief to, or exempt institutions from, provisions in

the statute.

31. Holding Company Audit Committees--The proposal sought to revise

Guideline 31 because it had been widely misunderstood. The existing

Guideline provides that members of a holding company's independent

audit committee may serve as the audit committee of any subsidiary

institution if they are otherwise independent of the subsidiary's

management. However, this was not intended to apply where an insured

depository institution subsidiary has $5 billion or more in total

assets, and a 3, 4, or 5 composite CAMEL rating and is not eligible to

use the holding company exception in section 36(i). Such a subsidiary

must have its own audit committee separate from the audit committee of

the holding company. Guideline 31 was proposed to be amended to clarify

this point.

In addition, existing Guideline 31 did not make it clear that when

an institution eligible to use the holding company exception relies on

a holding company audit committee in order to comply with this rule,

the holding company audit committee must meet the requirements for the

audit committee of the largest subsidiary institution. To be eligible

to use the holding company exception, an insured depository institution

subsidiary must have either less than $5 billion in total assets, or $5

billion or more in total assets and a 1 or 2 composite CAMEL rating,

and its holding company must perform services and functions comparable

to those required by the statute. Accordingly, it was proposed to amend

Guideline 31 to clearly indicate that when an eligible institution

chooses to rely on the holding company's audit committee, the members

of the audit committee of the holding company are expected to meet the

membership requirements of the largest subsidiary depository

institution and may perform the duties of the audit committee for a

subsidiary institution without becoming directors of the institution.

32. Duties--The second sentence of Guideline 32 was proposed to be

amended to complete the citation to certain sections of Part 363. As

proposed, the sentence would state that the duties of a covered

institution's audit committee should be appropriate to the size of the

institution and the complexity of its operations, and should include

reviewing with management and the independent public accountant the

basis for the reports issued under Secs. 363.2(a) and (b) and 363.3(a)

and (b) of the Rule. At present, the citation refers only to

Sec. 363.2(b) of the Rule.

C. Amendments to Schedule A to Appendix A--Agreed Upon Procedures for

Determining Compliance With Designated Laws

The agreed upon procedures in Schedule A were proposed to be

amended to clarify the numbering system, make the procedures consistent

with amendments to insider loan regulations, and adopt suggestions of

institutions and accountants to make the performance of the agreed upon

procedures more efficient and less burdensome.

Proposed formatting changes included renumbering the paragraphs and

adding more subject titles. The procedures applicable to insider

extensions of credit granted, insider extensions of credit outstanding,

aggregate insider extensions of credit outstanding, overdrafts,

limitations on extensions of credit to executive officers, and reports

on indebtedness to correspondent banks were proposed to be placed in

separate subsections of the procedures for more efficient performance

of the procedures and ease of reference. The amendments to the Federal

Reserve Board's Regulation O (12 CFR Part 215), the federal rules

governing insider loans, necessitated numerous citation changes.

As proposed, accountants would be permitted to use the most

recently completed Reports of Condition and Income (Call Report) or

Thrift Financial Report (TFR) when the procedures are being performed

rather than requiring the use of only the year-end Call Report or TFR.

The scope of the required reading of board and committee minutes and

reports under the Securities Exchange Act of 1934 was proposed to also

be more clearly defined. Inadvertent overdrafts in an aggregate amount

of $1,000 or less, which are exempt from Regulation O proscriptions

(see 12 CFR 215.4(e)), were proposed to no longer be separately tracked

by institutions, listed when certain representations are made by

management, or tested by the accountant. Where accountants had

previously been expected to compare insider transactions to

transactions with nonaffiliated persons, the comparison period within

which nonaffiliated transactions can take place was proposed to be

expanded from four to eight weeks. In addition, where no maximum number

of transactions (to which comparisons must be made) had previously been

included, comparisons were proposed to be limited to a maximum of

three. An alternative procedure that permitted the terms of the insider

transaction to be compared

[[Page 6490]]

to existing lending policies also was proposed.

To ensure that some tests were performed on each category of

extension of credit, including overdrafts and loans from correspondent

banks, the existing agreed-upon procedures directed accountants to

obtain three separate samples. Based on suggestions received for

improving the procedures covering extensions granted and outstanding

during the year, the proposal had accountants focus the testing on a

sample of insiders rather than a sample of transactions.

Under the present guidelines, an institution may choose to have

some of the required testing in the agreed-upon procedures performed by

its internal auditor with less testing performed by its independent

public accountant. However, in some situations in multibank holding

companies, the internal auditor may be required to perform more testing

than was required of the external auditor. When the holding company

exception set forth in section 36(i) is used at a holding company with

more than one covered subsidiary institution, the FDIC proposed to

extend to internal auditors the same testing requirements that have

been applicable to independent public accountants. Specifically, this

would eliminate the existing requirement that internal auditors perform

the procedures on each covered subsidiary every year. Thus, the testing

of samples from all covered subsidiaries every two or three years that

has been required of independent public accountants was proposed to

also apply to internal auditors. It was further proposed that the lead

institution or a few very large covered subsidiary institutions be

included every year in the testing by both accountants and internal

auditors. However, in response to the proposed reduction in testing

requirements applicable to internal auditors, the FDIC proposed to

increase the size of the samples required to be tested by the

independent public accountant from the present 20 percent to 30 percent

of the size of the samples used by the internal auditor. This change

was not expected to generally result in any increase in the number of

transactions tested by the independent public accountant for reports on

holding companies with two or more covered subsidiary institutions.

V. Discussion of Final Rule and Public Comments

The FDIC received 16 comment letters concerning the proposed

amendments. Ten of the comment letters were from large banks, thrifts,

and holding companies; three from banking trade organizations; two from

accounting and auditing organizations; and one from an accounting firm.

The letters supported the addition to the rule of the changes

mandated by the Riegle Community Development and Regulatory Improvement

Act of 1994. They also were generally supportive of the proposal's goal

to make the agreed-upon procedures in Schedule A to Appendix A less

burdensome. However, many commenters stated their belief that Section

36 and its implementing rule were unnecessary and costly to comply

with. Many commenters urged that the sections of the statute concerning

compliance with safety and soundness laws and regulations, including

both the management report and accountant's attestation, be eliminated.

Nevertheless, barring any Congressional action in this regard, the

commenters supported the Corporation's efforts to revise and reformat

the agreed-upon procedures in Schedule A to Appendix A.

Regarding the specific changes to the procedures, commenters

approved not having to list smaller overdrafts in the insiders'

extensions list. Permitting internal auditors to do the same amount of

testing on holding companies as external auditors was also supported.

Commenters also agreed with the amendment to Sec. 363.4(b) to clarify

that the attestation by the independent public accountant concerning

compliance with Designated Laws is not a document available to the

public.

One respondent recommended that the FDIC limit the time in which it

may require the review of a large institution's quarterly financial

statements to no later than 30 days after the end of each quarter. This

suggestion was not adopted because the FDIC anticipates that any

request would be made prior to that time. Moreover, since this

authority has never been used, the need for a time limit has not been

established.

As discussed in the following paragraphs, the FDIC has considered

respondents' comments concerning the specific aspects of the proposed

amendments to Part 363, Appendix A to Part 363, and Schedule A to

Appendix A.

A. Amendments to Part 363

One commenter suggested that the FDIC define ``large institution''

for purposes of section 363.5, Audit committees, as institutions with

$5 billion or more in total assets. The FDIC previously defined that

term to mean any insured depository institution with total assets

exceeding $3 billion when it adopted Part 363 in 1993 and is not

convinced the definition should be changed. Another commenter

recommended that when dealing with reporting by a holding company, the

term ``large customer'' in section 363.5 should be compared to the

assets of an entire holding company, not any single institution.

However, section 314(a)(2) of the RCDRIA precludes such a change

because it provides that ``the audit committee of the holding company

of [a large] institution shall not include any large customers of the

institution.'' [Emphasis added.]

B. Amendments to Appendix A to Part 363--Guidelines and Interpretations

The amendments to Appendix A that are discussed below are

identified by the number and caption of the revised Guideline.

4. Comparable Services and Functions. Two commenters suggested that

the rule be revised to require that when covering a holding company,

the accountant's attestation on the adequacy of internal controls over

financial reporting cover all subsidiaries of that holding company,

including subsidiaries that are not insured depository institutions.

These commenters stated that professional standards for attestation

engagements (i.e., Statement of Standards for Attestation Engagements

No. 2, ``Reporting on an Entity's Internal Control Structure Over

Financial Reporting'' (AICPA, Professional Standards, vol. 1, AT sec.

400), which superseded Statement of Auditing Standards No. 30,

``Reporting on Internal Accounting Control) require that all entities

covered by the financial report must be included in the attestation on

internal controls for financial reporting. However, the statute applies

only to insured depository institutions. Thus, the FDIC may not have

the authority to enforce the rule against other entities. Nevertheless,

the FDIC would not take exception to the inclusion of all entities

covered by the financial report in the internal control attestation.

9. Safeguarding of Assets. Numerous commenters appeared to

misunderstand the proposed revision of this guideline. It was not

intended to require the use of the phrase ``safeguarding of assets'' in

either the management report or accountant's attestation, and the final

amendment so states. The proposed replacement of the two sentences of

the original Guideline with specific references to types of

safeguarding has been revised. The sentence from the original

Guideline, ``The FDIC does not require the accountant to attest to the

adequacy of safeguards, but does require the accountant to determine

whether

[[Page 6491]]

safeguarding policies exist,'' which had been proposed for elimination,

is being retained.

32. Duties. In this Guideline's discussion of the audit committee's

duty to review the reports prepared by management and the independent

public accountant under this rule, the words ``the reports'' have been

changed to ``their respective reports.'' This clarifies that the audit

committee should review management reports with management, and the

reports of the independent public accountant with the accountant.

C. Amendments to Schedule A to Appendix A

Several commenters expressed concern about the action an accountant

must take when a change occurs in the information that had previously

been provided to the accountant in a written representation. A new

statement has been added to Schedule A to clarify that unless otherwise

stated, the date of any required representation should be the same as

the date of the attestation report, and the representation should

provide information available as of that date.

A new sentence also has been added at the beginning of Schedule A

explaining that where any representation is required, it should be

obtained in writing.

One commenter observed that the agreed-upon procedures required

that calculations be compared to the total risk-based capital reported

on the bank Reports of Condition and Income (Call Report). However,

this amount, which was formerly reported in item 3 of Schedule RC-R,

was deleted from the Call Report as of March 31, 1995, but the Federal

Financial Institutions Examination Council has approved its restoration

to the Call Report in March 1996. Therefore, no change is made to

Schedule A. Nevertheless, for the period this item is not reported in

the bank Call Report, no exception need be reported for the inability

to perform this comparison procedure.

1. Section I. Procedures for Individual Institutions

Many suggestions for clarifying the text were adopted in the final

rule.

a. Loans to Insiders. In response to concern about the burden

associated with the amount of information that the accountant must

read, the procedures in section I.A.1. of Schedule A of Appendix A have

been revised to more specifically identify the sections and paragraphs

of the laws and regulations that must be read. More specifically, the

accountant is required to read only those laws and regulations that

pertain to the institution based on its charter and primary federal

banking agency. To lessen the burden of reading all board of directors

and appropriate committee minutes and all SEC filings, the final

procedures have been revised to require the accountant to read only

those documents which management represents contain pertinent insider

lending information. In addition, Tables 1 and 2, which identify the

designated laws and regulations, have been included at the end of

Schedule A to Appendix A to clarify the applicable reading for each

type of insured institution.

Several respondents expressed concerned about the burden of

obtaining or maintaining all ``other records'' about insider loans in

one location when they had numerous officers and worldwide operations.

This reflected an apparent misunderstanding of the requirement in

paragraph I.A.2.a.(4) of Schedule A to Appendix A. Federal Reserve

Board Regulation O permits institutions to conduct an annual survey of

all insiders or to maintain ``other records'' rather than the survey.

The proposed wording, ``and/or,'' was drafted to try to accommodate

this Regulation O provision. However, for clarity, only the word ``or''

is used in the final amendment so that it is understood that all

insider loan records need not be accumulated in one location in order

for these procedures to be performed.

To make the procedures more consistent with the requirements of

Regulation O and the operations of many institutions, footnote 2 has

been revised to permit overdrafts of $1,000 or less without overdraft

protection, and overdrafts of $5,000 or less with overdraft protection,

to be omitted from the Insiders Extensions List.

Many commenters sought clarification of the phrase ``most recently

completed Call Report.'' They inquired whether the FDIC meant the most

recently completed Call Report whether or not it had been filed, the

most recently filed Call Report whether or not its editing had been

completed by the appropriate federal banking agency for release to the

public, or the most recently filed Call Report that was available for

release to the public. Appendix A has been revised throughout to

indicate that the most recently filed Call Report, whether or not it is

available for release to the public, should be used. In this regard, a

new footnote has been added to describe what should be done when the

procedures call for information during the previous fiscal year and a

Call Report for a date other than a calendar year-end Call Report is

used. The footnote indicates that the accountant should use information

pertaining to the period beginning from the date of the most recently

filed Call Report back to the latest Call Report date for which these

procedures were performed in the prior year.

The proposal required management to represent that any persons

``excluded'' from being executive officers were named as such in a

board resolution or the by-laws. Many commenters stated that boards

typically ``include'' persons as executive officers either specifically

by name or by specific office occupied. Paragraph I.A.2.a.(7)(b) of

Schedule A has been revised to require management to confirm the

``inclusion'' of executive officers by board resolution or in the by-

laws.

Commenters also stated that requiring accountants to trace and

agree every loan and extension of credit on the Insiders Extensions

List in Paragraph I.A.2.b.(2) of Schedule A was burdensome in a large

institution with many officers and directors. To lessen that burden,

the final regulation has been changed so that only a ``sample'' of such

loans needs to be traced and agreed.

The proposal considered the following to be issues for which boards

of directors would have adopted specific policies: revising the

institution's policies to reflect subsequent changes in laws and

regulations; educating employees about legal requirements and

management's related policies and procedures; and reporting insider

loans to regulatory agencies on the institution's Call Report or TFR.

However, these issues are not typically addressed in board policies.

For that reason, although they had been included in the existing

regulation, they have been removed from Paragraph I.A.3.b. of Schedule

A.

Several commenters suggested that the FDIC set size limits for the

samples to be tested under the various agreed-upon procedures in

Schedule A. The FDIC remains opposed to this because it believes that

setting sample sizes for testing should remain the responsibility of

the auditing profession. The American Institute of Certified Public

Accountants has previously suggested the following sample sizes for

purposes of testing under Part 363. The FDIC has raised no objection.

------------------------------------------------------------------------

Population No. (N) Sample size

------------------------------------------------------------------------

100 or greater............................ 60

50 to 100................................. 25

0 to 50................................... N or 20, whichever is

smaller

------------------------------------------------------------------------

[[Page 6492]]

There were many comments on Paragraphs I.A.5.b.(2) and (3) of

Schedule A, which address the calculation of an institution's

individual lending limit and the number of transactions involving each

insider in the sample that must be tested. The Offices of the

Comptroller of the Currency (OCC) and Thrift Supervision (OTS) now

permit institutions to calculate the individual lending limit as of the

Call Report or TFR date immediately preceding the loan origination

date, rather than requiring them to calculate the limit on the exact

date the loan was granted. Commenters urged the FDIC to incorporate

this method in the procedures. They also suggested that the burden of

these procedures could be reduced by testing one transaction per

insider, not all types of transactions, and that eliminating or

substantially lengthening the time frame for comparing the terms of

transactions to see whether they are preferential. Many of these

changes have been made. However, the time frame for the comparison of

loans has not been eliminated. Instead, this time frame was extended

from the existing two weeks and proposed four weeks before or after the

granting of the loan to 90 days prior or subsequent to the grant date.

This provides a window of approximately six months in which to find

similar loans. The FDIC concluded that a longer period would not be

appropriate because significant changes in market interest rates may

occur during such a period. As an alternative, each insider loan in the

sample may be compared with the institution's approved policies

delineating the interest rate and other terms and conditions in effect

for similar extensions of credit to unaffiliated borrowers.

Commenters also requested that, for purposes of paragraph

I.A.5.b.(3), examples of ``similar extensions of credit'' and ``terms

of the transactions'' be included. Paragraph I.A.5.b.(3) has been

revised to include such examples.

The final wording of paragraph I.A.6.b.(4) has been narrowed so

that it applies only if the credit extended is a real estate loan

granted for the purchase, construction, maintenance, or improvement of

the executive officer's residence. The proposed wording would have

included home equity loans for general consumer purchases, but this

type of loan is not covered by the provision of the Designated Laws

being tested under paragraph I.A.6.b.(4).

Several commenters mentioned that performing the procedures based

on their most recently filed Call Report or TFR permitted them to

perform the procedures prior to year end, but requiring the use of the

reports on indebtedness to correspondent banks, which is not due until

January 31 of the following year, kept them from completing the

procedures in a timely manner. To remedy this problem, paragraph

I.A.9.a.(1) of the final rule permits institutions that use a calendar

year fiscal year to use the reports on indebtedness to correspondent

banks prepared for the prior year in order to perform the procedures.

Any duplication during the first year that this procedure may cause

need not be performed, and in future years the institution should

continue to use the preceding year's report. However, should an

institution that has previously made this choice decide to revert to

using the reports of indebtedness to correspondent banks filed in the

following year, it will be expected to perform the procedures for the

two years' reports so that continuity in the coverage of the procedures

is maintained.

b. Dividend Restrictions. A sentence has been added to explain that

since laws and regulations pertaining to dividend restrictions cover

institutions and not holding companies, the procedures in Part B should

be followed for each institution and subsidiary institution of a

holding company covered by this part. However, if the holding company

has more than five subsidiary institutions covered by this part, the

procedures may be performed on a sample of dividend declarations. The

number ``five'' was chosen based on sample sizes suggested by the

American Institute of Certified Public Accountants. The AICPA stated

that when there are fewer than 50 transactions in the population to be

sampled, the smaller of the total number of transactions, or 20 items,

were to be tested. In this regard, if each of five covered institutions

declared dividends quarterly, there would be 20 transactions to test.

Commenters suggested that the FDIC should permit the most recent

quarter end (or month end, if available) to be used for determining

whether the declaration of a dividend would cause the institution to be

undercapitalized rather than requiring the institution to perform this

calculation as of the exact date the dividend is declared. This

suggested method would be consistent with recent rulings by the OCC and

OTS that quarter-end Call Reports may be used for calculating legal

lending limits. The final rule permits use of quarter-end date.

2. Section II. Procedures for the Independent Public Accountant

The proposal would have required that if an internal auditor

performed part of the procedures in Section I, a summary of

``significant'' findings and management's response should be filed with

the FDIC and appropriate federal banking agency as part of the

institution's annual submission. However, it is now noted that if any

findings are ``significant,'' they should be disclosed in management's

report and attestation. For that reason, the word ``significant'' has

been deleted from Section II, but the requirement for a summary is

retained so that the agencies receive information about the internal

auditor's findings.

As proposed, the amount of testing the independent public

accountant would be required to perform under paragraph II.B.3.a. was

raised from 20 to 30 percent of the size of the sample tested by the

internal auditors. This change was suggested because the proposal

reduced the amount of testing that internal auditors would be required

to perform on a holding company. Several commenters stated the increase

was burdensome and unnecessary. The FDIC continues to believe that

independent public accountants will be performing far fewer tests than

under the current procedure and that some increase in the percentage is

warranted. For that reason and to limit burden, the percentage has been

reduced to 25 percent in the final rule.

The changes and reformatting in the procedures from the current

rule to the final rule are outlined in the Table A below:

[[Page 6493]]

Table A.--Reformatting Changes to Schedule A to Appendix A

----------------------------------------------------------------------------------------------------------------

Subject Old section I New section I

----------------------------------------------------------------------------------------------------------------

Insider loans:

Designated Laws and Regulations........... A.1............................ A.1.

General Information....................... A.2.a.......................... A.2.a.

Calculations.............................. A.2.b.......................... A.4.

Policies and Procedures................... A.2.c.......................... A.3.

Insider Transactions...................... A.2.d.......................... A.5.

Loans to Correspondent Banks.............. A.2.d.(1)...................... A.9.

Aggregate Indebtedness.................... A.2.d.(2)(a) A.2.d.(7)......... A.2.b.(2) A.7.

Executive Officers........................ A.2.d.(2)(b) & (c) A.2.e.(ii).. Deleted A.6.

Insider Extensions of Credit.............. A.2.d.(2)(d) & (e) A.2.d.(5) & A.5.

(6).

Overdrafts................................ A.2.d.(3)...................... A.8.

Reports on Indebtedness to Correspondent A.2.e.......................... A.9.

Banks.

Dividend Restrictions:

Designated Laws and Regulations........... B.1............................ B.1.

General Information....................... B.2............................ B.2.

Policies and Procedures................... B.2.b.......................... B.3.

Board Minutes............................. B.2.c.......................... B.4.

Calculation of Undercapitalization........ B.2.d.......................... B.5.

Dividends Declared by Banks............... B.2.e.......................... B.6.

Dividends Declared by Savings Associations B.2.f.......................... B.7

----------------------------------------------------------------------------------------------------------------

Subject Old section II New section II

----------------------------------------------------------------------------------------------------------------

Procedures for the independent public

accountant:

Designated Laws and Regulations........... A. & B.1....................... A. & B.1.

Internal Auditor's Workpapers............. B.2............................ B.2

Testing................................... C.............................. B.3.

Reports Concerning Holding Companies...... D.............................. B.4.

----------------------------------------------------------------------------------------------------------------

D. Timing and Effective Date

Since the majority of covered institutions have fiscal years that

coincide with the calendar year, many are in the process of preparing

annual reports and having the agreed-upon procedures performed. In

order to make this process less burdensome for institutions and their

accountants, the FDIC will raise no objection if an institution chooses

to have its independent public accountant perform the agreed-upon

procedures in Schedule A to Appendix A of the existing rule, the

February 1995 proposal, or this final amendment to Schedule A to

Appendix A for fiscal years ending on or before March 31, 1996.

However, when an institution and its independent public accountant

choose a version of the agreed-upon procedures for the fiscal year, the

accountant must use a single version of the procedures for both of the

Designated Laws. For any institution with a fiscal year that ends after

March 31, 1996, the accountant should use the procedures of this

amendment.

List of Subjects in 12 CFR Part 363

Accounting, Attestation, Audit committee, Banks, banking, Internal

controls, Management letter, Peer review, Reporting and recordkeeping

requirements.

For the reasons set forth in the preamble, the Board of Directors

of the FDIC hereby amends Part 363 of title 12, chapter III, of the

Code of Federal Regulations as follows:

PART 363--ANNUAL INDEPENDENT AUDITS AND REPORTING REQUIREMENTS

1. The authority citation for Part 363 continues to read as

follows:

Authority: 12 U.S.C. 1831m.

2. Section 363.1 is amended by revising paragraph (b) to read as

follows:

Sec. 363.1 Scope.

* * * * *

(b) Compliance by subsidiaries of holding companies. (1) The

audited financial statements requirement of Sec. 363.2(a) may be

satisfied for an insured depository institution that is a subsidiary of

a holding company by audited financial statements of the consolidated

holding company.

(2) The other requirements of this part for an insured depository

institution that is a subsidiary of a holding company may be satisfied

by the holding company if:

(i) The services and functions comparable to those required of the

insured depository institution by this part are provided at the holding

company level; and

(ii) The insured depository institution has as of the beginning of

its fiscal year:

(A) Total assets of less than $5 billion; or

(B) Total assets of $5 billion or more and a composite CAMEL rating

of 1 or 2.

(3) The appropriate federal banking agency may revoke the exception

in paragraph (b)(2) of this section for any institution with total

assets in excess of $9 billion for any period of time during which the

appropriate federal banking agency determines that the institution's

exemption would create a significant risk to the affected deposit

insurance fund.

3. Section 363.4 is amended by revising paragraph (b) to read as

follows:

Sec. 363.4 Filing and notice requirements.

* * * * *

(b) Public availability. The annual report in paragraph (a)(1) of

this section shall be available for public inspection.

* * * * *

4. Section 363.5 is amended by revising paragraph (b) to read as

follows:

Sec. 363.5 Audit committees.

* * * * *

(b) Committees of large institutions. The audit committee of any

insured

[[Page 6494]]

depository institution that has total assets of more than $3 billion,

measured as of the beginning of each fiscal year, shall include members

with banking or related financial management expertise, have access to

its own outside counsel, and not include any large customers of the

institution. If a large institution is a subsidiary of a holding

company and relies on the audit committee of the holding company to

comply with this rule, the holding company audit committee shall not

include any members who are large customers of the subsidiary

institution.

5. Appendix A to Part 363 is amended by revising paragraphs 4(c),

9, 24, 31, the introductory text of paragraph 32, footnote 2 in

paragraph 10, and footnote 3 in paragraph 15(b) to read as follows:

Appendix A to Part 363--Guidelines and Interpretations

* * * * *

4. Comparable Services and Functions. * * *

* * * * *

(c) Prepares and submits the management assessments of the

effectiveness of the internal control structure and procedures for

financial reporting (internal controls), and compliance with the

Designated Laws defined in guideline 12 based on information

concerning the relevant activities and operations of those

subsidiary institutions within the scope of the rule.

* * * * *

9. Safeguarding of Assets. ``Safeguarding of assets'', as the

term relates to internal control policies and procedures regarding

financial reporting, and which has precedent in accounting

literature, should be encompassed in the management report and the

independent public accountant's attestation discussed in guideline

18. Testing the existence of and compliance with internal controls

on the management of assets, including loan underwriting and

documentation, represents a reasonable implementation of section 36.

The FDIC expects such internal controls to be encompassed by the

assertion in the management report, but the term ``safeguarding of

assets'' need not be specifically stated. The FDIC does not require

the accountant to attest to the adequacy of safeguards, but does

require the accountant to determine whether safeguarding policies

exist.\1\

\1\ It is management's responsibility to establish policies

concerning underwriting and asset management and to make credit

decisions. The auditor's role is to test compliance with

management's policies relating to financial reporting.

---------------------------------------------------------------------------

10. * * * \2\

\2\ In considering what information is needed on safeguarding of

assets and standards for internal controls, management may review

guidelines provided by its primary federal regulator; the Federal

Financial Institutions Examination Council's ``Supervisory Policy

Statement on Securities Activities''; the FDIC's ``Statement of

Policy Providing Guidance on External Auditing Procedures for State

Nonmember Banks'' (Jan. 16, 1990), ``Statement of Policy Regarding

Independent External Auditing Programs of State Nonmember Banks''

(Nov. 16, 1988), and Division of Supervision Manual of Examination

Policies; the Federal Reserve Board's Commercial Bank Examination

Manual and other relevant regulations; the Office of Thrift

Supervision's Thrift Activities Handbook; the Comptroller of the

Currency's Handbook for National Bank Examiners; standards published

by professional accounting organizations, such as the American

Institute of Certified Public Accountants' (AICPA) Statement on

Auditing Standards No. 55, ``Consideration of the Internal Control

Structure in a Financial Statement Audit''; the Committee of

Sponsoring Organizations (COSO) of the Treadway Commission's

Internal Control--Integrated Framework, including its addendum on

safeguarding of assets; and other internal control standards

published by the AICPA, other accounting or auditing professional

associations, and financial institution trade associations.

---------------------------------------------------------------------------

* * * * *

15. * * *

(b) * * * \3\

\3\ These would include Standards for Performing and Reporting

on Peer Reviews, codified in the SEC Practice Section Reference

Manual, and Standards for Performing and Reporting on Peer Reviews,

contained in Volume 2 of the AICPA's Professional Standards.

---------------------------------------------------------------------------

* * * * *

24. Relief from Filing Deadlines. Although the reasonable deadlines

for filings and other notices established by this part are specified,

some institutions may occasionally be confronted with extraordinary

circumstances beyond their reasonable control that may justify

extensions of a deadline. In that event, upon written application from

an insured depository institution, setting forth the reasons for a

requested extension, the FDIC or appropriate federal banking agency

may, for good cause, extend a deadline in this part for a period not to

exceed 30 days.

* * * * *

31. Holding Company Audit Committees. When an insured depository

institution subsidiary fails to meet the requirements for the holding

company exception in Sec. 363.1(b)(2) or maintains its own separate

audit committee to satisfy the requirements of this part, members of

the independent audit committee of the holding company may serve as the

audit committee of the subsidiary institution if they are otherwise

independent of management of the subsidiary, and, if applicable, meet

any other requirements for a large subsidiary institution covered by

this part. However, this does not permit officers or employees of a

holding company to serve on the audit committee of its subsidiary

institutions. When the subsidiary institution satisfies the

requirements for the holding company exception in Sec. 363.1(b)(2),

members of the audit committee of the holding company should meet all

the membership requirements applicable to the largest subsidiary

depository institution and may perform all the duties of the audit

committee of a subsidiary institution, even though such holding company

directors are not directors of the institution.

32. Duties. The audit committee should perform all duties

determined by the institution's board of directors. The duties should

be appropriate to the size of the institution and the complexity of its

operations, and include reviewing with management and the independent

public accountant the basis for their respective reports issued under

Secs. 363.2(a) and (b) and 363.3(a) and (b). Appropriate additional

duties could include:

* * * * *

6. Schedule A to Appendix A to Part 363 is revised to read as

follows:

Schedule A to Appendix A--Agreed Upon Procedures for Determining

Compliance With Designated Laws

1. The Agreed Upon Procedures set forth in this schedule are

referred to in guideline 19. They should be followed by the

institution's independent public accountant (or, with respect to the

procedures set forth in section I of this schedule, by the

institution's internal auditor if the accountant is to perform the

procedures set forth in section II) in order to permit the accountant

to report on the extent of compliance with the Designated Laws (defined

in guideline 12) as required by sections 36(e)(1) and (2). Unless

otherwise stated, the date of any required representation should be the

same as the date of the attestation report and the representation

should provide information to the extent available as of that date.

2. For purposes of this Schedule A, ``insiders'' means directors,

executive officers, and principal shareholders, and includes their

related interests. All terms not defined in this schedule have the

meanings given them in this part, the Guidelines, and professional

accounting and auditing literature.

3. Additional guidance concerning the role of the institution, its

internal auditor, and its independent public accountant in assessing

the institution's compliance with the Designated Laws is set forth in

the Guidelines.

Section I--Procedures for Individual Institutions

The following procedures should be performed by the institution's

independent public accountant in accordance with generally accepted

standards for attestation engagements, or by the institution's internal

auditor if the procedures set forth in section II of

[[Page 6495]]

this schedule are to be performed by the independent public accountant.

(See section II.B.3. for information concerning testing by the

independent public accountant when the institution's internal auditor

is performing the procedures in Section I.)

A. Loans to Insiders. To the extent permitted by Sec. 363.1(b)(2),

these procedures may be performed on a holding company basis rather

than at each covered subsidiary insured depository institution.

1. Designated Laws. The following federal laws and regulations

(Designated Insider Laws), to the extent that they are applicable to

the institution,1 should be read:

\1\ The laws and regulations applicable to each type of

institution are listed in Table 1 of this Schedule A to Appendix A.

---------------------------------------------------------------------------

a. Laws: 12 U.S.C. 375a, 375b, 1468(b), 1828(j)(2), and

1828(j)(3)(B); and

b. Regulations: 12 CFR 23.5, 31, 215, 337.3, 349.3, and 563.43.

2. General.

a. Information. Obtain from management of the institution the

following information for the institution's fiscal year: 2

\2\ If the institution chooses to have these procedures

performed using its most recently filed Call Report rather than its

year end Call Report, all references to ``fiscal year'' in these

procedures shall mean the period beginning with the latest Call

Report date for which these procedures were performed in the prior

year and ending with the date of the most recently filed Call

Report. If these procedures were not previously performed, the 12

month period immediately preceding the date of the most recently

filed Call Report (or such shorter period during which the

institution was covered by this Part 363) should be used.

---------------------------------------------------------------------------

(1) Management's assessment of compliance with the Designated

Insider Laws;

(2) All minutes (including minutes drafted, but not approved) of

the meetings of the board and of those committees of the board which

management represents have been delegated authority pertaining to

insider lending;

(3) The relevant portions of reports of examination, supervisory

agreements, and enforcement actions issued by the institution's primary

federal and state regulators, if applicable, which management

represents contain information pertaining to insider lending;

(4) The annual survey which identifies all insiders of the

institution (pursuant to 12 CFR 215.8(b)) or other records maintained

on insiders of the institution's affiliates (pursuant to 12 CFR

215.8(c));

(5) The relevant portions of the following Securities Exchange Act

of 1934 filings, which management represents contain information

pertaining to insider lending:

(a) Forms 10-K, 10-Q, and 8-K and proxy statements (or information

statements) filed with the SEC, Federal Reserve Board, OCC, or OTS, or

(b) Forms F-2, F-3, and F-4 and proxy statements (or information

statements), filed with the FDIC;

(6) A list of loans, including overdrafts of executive officers and

directors,3 and other extensions of credit to insiders (including

their related interests) outstanding at any time during the fiscal year

(and which identifies those extensions granted during the year). This

list should also include the amount outstanding of each extension of

credit as of the date of the most recently filed Call Report or TFR

(Insider Extensions List); and

\3\ Management may exclude from this list overdrafts of an

executive officer or director in an aggregate amount of $1,000 or

less without overdraft protection and those of $5,000 or less with

overdraft protection as specified in 12 CFR 215.3(b)(6) if

management provides the independent accountant with a representation

that policies and procedures are in effect to report as extensions

of credit all overdrafts that do not meet the criteria listed in

paragraphs A.8.a.(2)(a) through (c) of this section.

---------------------------------------------------------------------------

(7) Management's representation concerning:

(a) The completeness of the Insider Extensions List; 4 and

\4\ See footnote 3 of this schedule.

---------------------------------------------------------------------------

(b) The inclusion of all required insiders on the annual survey

obtained in paragraph A.2.a.(4) of this section including persons who

have been designated as executive officers by resolution of the board

or a committee of the board or in the by-laws of the institution.

b. Procedures:

(1) Read the foregoing information.

(2) Trace and agree a sample of insider loans and other extensions

of credit disclosed in the documents listed in paragraphs A.2.a.(2)

through (5) of this section to see that they are included on the

Insider Extensions List.

3. Policies and Procedures.

a. Information. Obtain the institution's written policies and

procedures concerning its compliance with the Designated Insider Laws,

including any written ``Code of Ethics'' or ``Conflict of Interest''

policy statements. If the institution has no written policies and

procedures, obtain a narrative from management that describes the

methods for complying with such laws and regulations, and includes

provisions similar to those listed in paragraph A.3.b. of this section.

b. Procedures. Ascertain that the policies and procedures include,

or incorporate by reference, provisions consistent with the Designated

Insider Laws for:

(1) Defining terms;

(2) Restricting loans to insiders;

(3) Maintaining records of insider loans;

(4) Requiring reports and/or disclosures by the institution and by

executive officers, directors, and principal shareholders (and their

related interests);

(5) Disseminating policy information to employees and insiders; and

(6) Prior approval of the board of directors.

4. Calculations of Lending Limits.

a. Information. Obtain management's calculation of the following

items as of the date of the institution's most recently filed Call

Report or TFR and as of a Call Report or TFR date six or nine months

earlier:

(1) The institution's unimpaired capital and surplus (the aggregate

lending limit for all insiders); and

(2) The institution's individual lending limit (12 CFR 215.2(i)).

b. Procedures. Recalculate the amounts in paragraph A.4.a. of this

section for mathematical accuracy, and trace the amounts used in

management's calculations to the Call Reports or TFRs for the two dates

used in paragraph A.4.a. of this section.

5. Insider Extensions of Credit Granted.

a. Information. Obtain management's representation regarding

whether the terms and creditworthiness of insider extensions of credit

granted during the fiscal year are comparable to those that would have

been available to unaffiliated third parties.

b. Procedures. Select a sample of insiders who were granted or had

outstanding extensions of credit during the fiscal year from the

Insider Extensions List. For each extension of credit granted during

the fiscal year to each insider in the sample selected:

(1) If the amount of a credit granted during the year (when

aggregated with all other extensions of credit to that person and to

all related interests of that person) exceeds $500,000, determine

whether the minutes of the meetings of the board of directors indicate

that:

(a) The credit was approved in advance by the board, and

(b) The insider, if a director, abstained from participating

directly or indirectly in voting on the transaction;

(2) Obtain management's calculation of the institution's individual

lending limit for insiders pursuant to 12 CFR 215.2(i) as of the date

of the Call Report or TFR filed immediately prior to the date when the

extension of credit was granted, and if not already done under

[[Page 6496]]

paragraph A.4.b. of this section, recalculate the lending limits for

mathematical accuracy, and trace the amounts used in management's

calculations to the Call Report or TFR for that date. Ascertain whether

the amount of the extension of credit being granted to the insider,

when combined with all other extensions of credit to that insider,

exceeds such limit; and

(3) For one transaction involving each insider in the sample

selected in paragraph A.5.b. of this section, perform the procedures in

either paragraph (a) or (b) as follows:

(a) Select three (or such smaller number that exists) similar

extensions of credit (e.g., commercial real estate loans, floor plan

loans, residential mortgage loans, consumer loans) granted to

unaffiliated borrowers (i.e., persons who are not insiders or employees

of the institution or its affiliates) within 90 days before or after

the granting of the insider extension of credit. Compare the terms of

the transactions with unaffiliated borrowers (i.e., rate or range of

interest rates, maturity, payment terms, collateral, and any unusual

provisions or conditions) to those with the insiders, and note in the

findings any differences in the terms favorable to the insiders

compared to the terms of the transactions with unaffiliated borrowers.

(b) Alternatively, compare the terms of each insider transaction in

the sample to approved policies delineating the interest rate and other

terms and conditions then in effect for similar extensions of credit to

unaffiliated borrowers. Note in the findings any differences in the

terms favorable to the insiders compared to the terms of the approved

policies for an extension of credit to persons not affiliated with the

institution or its affiliates.

6. Limitation on Extensions of Credit to Executive Officers.

a. Information. From the sample selected in paragraph A.5.b. of

this section, select the executive officers who were granted extensions

of credit during the fiscal year.

b. Procedures.

(1) For each executive officer selected, obtain management's

calculation as of the two dates used in paragraph A.4.a. of this

section of:

(a) The aggregate amount of extensions of credit to the executive

officer, and

(b) 2.5 percent of the institution's unimpaired capital and

surplus.

(2) Recalculate management's computations from paragraph A.6.b.(1)

of this section for mathematical accuracy. Trace amounts used in

management's computations from paragraph A.6.b.(1) to the Call Reports

or TFRs for the two dates used in paragraph A.4.a. of this section.

(3) Ascertain whether the aggregate amount of the extensions of

credit to the executive officer does not exceed the greater of $25,000

or 2.5 percent of the institution's unimpaired capital and surplus, but

in no event more than $100,000. The aggregate amount should exclude the

types of extensions of credit set forth in 12 CFR 215.5(c)(1) through

(3).

(4)(a) Obtain documentation for any credits for which management

represents that:

(i) The purpose is for the purchase, construction, maintenance, or

improvement of the executive officer's residence;

(ii) The credit is secured by a first lien on the residence; and

(iii) The executive officer owns or expects to own the residence

after the extension of credit.

(b) Note whether the documentation contains similar

representations.

(5) For each executive officer selected, ascertain that each

extension of credit granted during the fiscal year was:

(a) Preceded by submission of financial statements;

(b) Approved by, or, when appropriate, promptly reported to, the

board of directors no later than the next board meeting; and

(c) Made subject to the written condition that the extension of

credit will become, at the option of the institution, due and payable

at any time that the executive officer is indebted to other insured

institutions in an aggregate amount greater than the executive officer

would be able to borrow from the institution.

7. Aggregate Insider Extensions of Credit Outstanding.

a. Information. Obtain management's calculation of the aggregate

extensions of credit to executive officers, directors, and principal

shareholders of the institution and to their related interests,

excluding the types of extensions of credit set forth in 12 CFR

215.4(d)(3), as of the two dates selected in paragraph A.4.a. of this

section.

b. Procedures.

(1) Recalculate the amounts obtained in paragraph A.7.a. of this

section for mathematical accuracy and ascertain that this total,

excluding the types of extensions of credit set forth in 12 CFR

215.4(d)(3), is less than or equal to 100 percent of the institution's

unimpaired capital and surplus calculated in paragraph A.4.a.(1) of

this section.

(2) Using the sample of insiders selected in paragraph A.5.b. of

this section, trace and agree amounts outstanding from insiders in the

sample to the supporting documents, as applicable, for the line item

aggregating indebtedness of all insiders on the institution's most

recently filed Call Report or TFR.

8. Overdrafts.

a. Information. Select a sample of executive officers and directors

who had overdrafts outstanding during the fiscal year as shown on the

Insider Extensions List.

(1) For all overdrafts in the sample except those which are covered

by an overdraft protection line of credit with the same terms as

available to unaffiliated borrowers and meet the terms of that

overdraft protection line, obtain management's representation of the

history of the insider's overdrafts for the year and the completeness

of that history.

(2) If the institution's management has not provided a

representation as specified by footnote 3 to paragraph A.2.a.(6) of

this section, for each overdraft in the sample in an aggregate amount

of $1,000 or less for an executive officer or director who did not have

the overdraft covered by an overdraft protection line of credit, obtain

management's representation that:

(a) It believes the overdraft was inadvertent;

(b) The account was overdrawn in each case for no more than 5

business days; and

(c) The institution charged the executive officer or director the

same fee that it would charge any other customer in similar

circumstances.

b. Procedures. For each overdraft in the sample selected and used

in paragraph A.8.a.(1) of this section for which management did not

provide the representation in paragraph A.8.a.(2) of this section:

(1) Inquire whether cash items for the insider were being held by

the institution during the time that the overdraft was outstanding to

prevent additional overdrafts;

(2) Trace and agree subsequent payment by the insider of the

insider's overdrafts to records of the account at the institution; and

(3) For overdrafts of executive officers and directors that were

paid by the institution for the executive officer or director from an

account at the institution:

(a) Trace and agree to a written, pre-authorized, interest-bearing

extension of credit plan that specifies a method of repayment; or

(b) Trace and agree to a written, pre-authorized transfer of funds

from

[[Page 6497]]

another account of the insider at the institution.

9. Reports on Indebtedness to Correspondent Banks.

a. Information. Obtain from management:

(1) A list of executive officers and principal shareholders and

related interests thereof that filed reports of indebtedness to a

correspondent bank. This list should be prepared by management from

reports of indebtedness submitted for the calendar year for which the

management assessment and independent public accountant's attestation

are being filed or, if the institution is on a calendar year fiscal

year, at management's option, for the immediately preceding year. If

the institution is not on a calendar year fiscal year, the list should

be prepared for the calendar year that ended during its fiscal year;

and

(2) Its representation concerning the completeness of the list

prepared for paragraph A.9.a.(1) of this section.

b. Procedures. Select a sample of executive officers, principal

shareholders, and related interests thereof from the list obtained in

paragraph A.9.a.(1) of this section. For each executive officer and

principal shareholder (or related interest thereof) included in the

sample, ascertain that the report(s) of indebtedness was (were) filed

with the board of directors (on or before the January 31 following the

calendar year in paragraph A.9.a.(1) of this section) and that such

report(s) state(s):

(1) The maximum amount of indebtedness during that calendar year;

(2) The amount of indebtedness outstanding 10 days prior to report

filing; and

(3) A description of the loan terms and conditions, including the

rate or range of interest rates, original amount and date, maturity

date, payment terms, collateral, and any unusual terms or conditions.

B. Dividend Restrictions. If the institution has declared any

dividends during the fiscal year, the following procedures should be

performed for each dividend declared. (These procedures are not

applicable to mutual institutions and insured branches of foreign

banks.) For an institution that is a subsidiary of a holding company,

the procedures that follow should be applied to each subsidiary

institution subject to this part (covered subsidiary) because the laws

and regulations restricting dividends apply to individual institutions

and not holding companies. However, if the annual report under Part 363

is being prepared on a holding company basis and the holding company

has more than five covered subsidiaries, the following procedures may

be applied to a sample of dividend declarations to the extent permitted

by Sec. 363.1(b) and Section II.B.3. of this schedule.

1. Designated Laws. The following federal laws and regulations

(Designated Dividend Laws), to the extent that they are applicable to

the institution (see paragraph B.2 of this section),\5\ should be read:

\5\ The laws and regulations applicable to each type of

institution are listed in Table 2 of this Schedule A to Appendix A.

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a. Laws: 12 U.S.C. 56, 60, 1467a(f), 1831o; and

b. Regulations: 12 CFR 5.61, 5.62, 6.6, 7.6120, 208.19, 208.35,

325.105, 563.134, and 565.

2. General. The information requirements and procedures in

paragraphs B.2. through B.5. of this section are applicable to all

institutions. Paragraphs B.6. and B.7. of this section were designed to

be applicable to member banks (i.e., national banks and state member

banks) and federally-chartered savings associations, respectively.

However, the requirements in paragraphs B.6. and B.7. of this section

should be applied to a state nonmember bank or state savings

association if management represents that the state has dividend

restrictions substantially identical to those for a national bank or a

federally-chartered savings association.

a. Information. Obtain from management of the institution the

following information for the institution's most recent fiscal year:

(1) Its assessment of the institution's compliance with the

Designated Dividend Laws and any applicable state laws and regulations

cited in its assessment;

(2) A copy of any supervisory agreements with, orders by, or

resolutions of any regulatory agency (including a description of the

nature of any such agreements, orders, or resolutions) containing

restrictions on dividend payments by the institution; and

(3) Its representation whether dividends declared comply with any

restrictions on dividend payments under any supervisory agreements

with, orders by, or resolutions of any regulatory agency (including a

description of the nature of any such agreements, orders, or

resolutions).

b. Procedures.

(1) Read the foregoing information.

(2) If any restrictions on dividend payments exist in any documents

obtained in paragraph B.2.a.(2) of this section, test and agree

dividends declared with any such quantitative restrictions.

3. Policies and Procedures.

a. Information. Obtain the institution's written policies and

procedures concerning its compliance with the Designated Dividend Laws.

If the institution has no written policies and procedures, obtain from

the institution a narrative that describes the institution's methods

for complying with the Designated Dividend Laws, and includes

provisions similar to those in paragraph B.3.b of this section.

b. Procedures. Ascertain whether the policies and procedures

include, or incorporate by reference, provisions which are consistent

with the Designated Dividend Laws. These would include capital

limitation tests, including section 38 of the Federal Deposit Insurance

Act (12 U.S.C. 1831o), earnings limitation tests, transfers from

surplus to undivided profits, and restrictions imposed under any

supervisory agreements, resolutions, or orders of any federal or state

depository institution regulatory agency. In addition, for savings

associations, this would include prior notification to the OTS.

4. Board Minutes.

a. Information. Obtain the minutes of the meetings of the board of

directors for the most recent fiscal year to ascertain whether

dividends (either paid or unpaid) have been declared.

b. Procedures. Trace and agree total dividend amounts to the

general ledger records and the institution's most recently filed Call

Report or TFR.

5. Calculation of Undercapitalization.

a. Information. Obtain management's computation of the amount at

which declaration of a dividend would cause the institution to be

undercapitalized as of the quarter end (or more recent month end, if

available from management) immediately prior to the date on which each

dividend was declared during the fiscal year.

b. Procedures. Recalculate management's computation (for

mathematical accuracy) and compare management's calculations to the

amount of any dividend declared to determine whether it exceeded the

amount.

6. Dividends Declared by Banks.

a. Information. If the institution is a national bank or state

member bank, obtain management's computations concerning the bank's

compliance with 12 U.S.C. 56, ``Capital Limitation Test'', 12 U.S.C.

60, ``The Earnings Limitation Test'', and transfers from surplus to

undivided profits after declaration of the dividends referenced in

paragraph

[[Page 6498]]

B.4.a. of this section. If the institution is a state nonmember bank

and management represents that the bank is subject to state laws that

are similar to 12 U.S.C. 56 and 12 U.S.C. 60, obtain management's

corresponding computations.

b. Procedures. Recalculate management's computations (for

mathematical accuracy) and compare management's calculations to the

standards defined in the tests set forth in paragraph B.6.a. of this

section to ascertain whether the dividends declared fall within the

permissible levels under these standards. If dividends are not

permissible in the amounts declared under such standards, the

independent public accountant should ascertain that the dividends were

declared with the approval of the appropriate federal banking agency or

under any other exception to the standards.

7. Dividends Declared by Savings Associations.

a. Information. Obtain management's documentation of the OTS

determination whether the institution is a Tier 1, Tier 2, or Tier 3

savings association and management's computations of its capital ratio

after declarations of dividends under the Tier determined by the OTS.

For dividends declared, obtain copies of the savings association's

notifications to the OTS to ascertain whether notifications were made

at least 30 days before payment of any dividends.

b. Procedures. Recalculate management's computations (for

mathematical accuracy) and trace amounts used by management in its

calculations to the institution's TFRs.

Section II--Procedures for the Independent Public Accountant

If the internal auditor has performed the procedures set forth in

section I for either or both Designated Laws, the following procedures

may be performed by the independent public accountant if neither the

FDIC nor the appropriate federal banking agency has objected in

writing. The report of procedures performed and list of exceptions

found by the internal auditor, identifying the institution with respect

to which any exception was found, should be submitted to the audit

committee of the board of directors. Management should file a summary

of the internal auditor's findings and management's response to those

findings with the FDIC and the appropriate federal banking agency at

the same time as the independent public accountant's attestation report

is filed.6

\6\ Since this summary provides information similar to that

provided in the independent public accountant's report, the FDIC has

determined that the summary is exempt from public disclosure

consistent with the guidance in Guideline 18 in Appendix A to this

Part 363.

---------------------------------------------------------------------------

A. Review of Section I Procedures. Read the portion(s) of Section I

of this schedule that set forth the procedures performed by the

internal auditors.

B. Information and Procedures. Perform the following procedures:

1. Designated Laws. Read the Designated Laws referred to in Section

I of this schedule for the agreed-upon procedures performed by the

internal auditor. Obtain management's assessment contained in its

management report on the institution's or holding company's compliance

with the Designated Laws.

2. Internal Auditor's Workpapers.

a. Information. If an internal auditor performed the procedures in

Section I, obtain the internal auditor's workpapers documenting the

performance of those procedures on the institution and the chief

internal auditor's representation that:

(1) The internal auditor or audit staff, if applicable, performed

the procedures listed in section I on the institution;

(2) The internal auditor tested a sufficient number of transactions

governed by the Designated Laws so that the testing was representative

of the institution's volume of transactions;

(3) The workpapers accurately reflect the work performed by the

internal auditor and, if applicable, the internal audit staff;

(4) The workpapers obtained are complete; and

(5) The internal auditor's report, which describes the procedures

performed for the fiscal year as well as the internal auditor's

findings and exceptions noted, has been presented to the institution's

audit committee.

b. Procedures.

(1) Compare the workpapers to the procedures that are required to

be performed under section I. Report as an exception any procedures not

documented and any procedures for which the sample size is not

sufficient.

(2) Compare the exceptions and errors listed by the internal

auditor in its report to the audit committee to those found in the

workpapers, and report as an exception any exception or error found in

the internal auditor's workpapers and not listed in the internal

auditor's list of exceptions.

3. Testing.

a. The independent public accountant should perform the procedures

listed in Section I on representative samples of the insiders and/or

transactions of the institution to which the Designated Law applies. If

the institution's internal auditor performs the procedures in Section

I, the samples tested by the independent public accountant should be at

least 25 percent of the size of the samples tested by the internal

auditor although samples selected by the accountant should be from the

population at large. However, if there are so few transactions in any

area that the internal auditor cannot use sampling, but must test all

transactions, the independent public accountant should also test all

transactions.

b. If testing under this Schedule A to Appendix A is being

performed on a holding company with more than one subsidiary

institution that is subject to this Part 363, the samples tested should

include a combination of insiders and transactions from each covered

subsidiary with total assets (after deductions of intercompany amounts

that would be eliminated in consolidation) in excess of 25 percent of

the holding company's total assets every fiscal year. Samples should be

tested for each smaller covered subsidiary at least every other fiscal

year unless the holding company has more than eight covered

subsidiaries, in which case the samples to be tested for each

Designated Law should be drawn from each smaller covered subsidiary at

least every third fiscal year.

4. Reports Concerning Holding Companies. Only one report of any

exceptions noted from application of the procedures in section II

performed by the independent public accountant should be filed as

required by guideline 3 in Appendix A to this Part 363, but the report

should identify, for each exception or error noted, the identity of the

covered subsidiary to which it relates.

Tables to Schedule A to Appendix A

[[Page 6499]]

Tables to Schedule A to Appendix A

Table 1

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For engagements involving management assertions about compliance by:

Loans to insiders ----------------------------------------------------------------------------------------------

National banks State member banks State nonmember banks Savings associations

--------------------------------------------------------------------------------------------------------------------------------------------------------

Read the following parts and/or sections of Title 12 of the United States Code:

375a..................... Loans to Executive --Subsections

Officers of Banks. (g) and (h) only

375b..................... Prohibitions Respecting

Loans and Extensions of

Credit to Executive

Officers and Directors of

Banks, Political

Campaign, Committees, etc.

1468(b).................. Extensions of Credit to ...................... ...................... ......................

Executive Officers,

Directors, and Principal

Shareholders.

1828(j)(2)............... Provisions Relating to ...................... ......................

Loans, Extensions of

Credit, and Other

Dealings Between Member

Banks and Their

Affiliates, Executive

Officers, Directors, etc.

1828(j)(3)(B)............ Extensions of Credit Applies only ...................... Applies only

Applicability of to insured federal to insured state

Provisions Relating to branches of foreign branches of foreign

Loans, Extensions of banks. banks .

Credit, and Other

Dealings Between Insured

Branches of Foreign Banks

and Their Insiders.

Read the following parts and/or sections of Title 12 of the Code of Federal Regulations:

23.5..................... Application of Legal

Lending Limits;

Restrictions on

Transactions With

Affiliates.

31....................... Extensions of Credit to

National Bank Insiders.

215...................... Subpart A--Loans by Member (See 12 CFR Parts (See 12 CFR Parts

Banks to Their Executive 337.3 and 349.3). 563.43)

Officers, Directors, and

Principal Shareholders.

Subpart B--Reports of

Indebtedness of Executive

Officers and Principal

Shareholders of Insured

Nonmember Banks.

337.3.................... Limits on Extensions of ...................... ......................

Credit to Executive

Officers, Directors, and

Principal Shareholders of

Insured Nonmember Banks.

349.3.................... Reports by Executive ...................... ......................

Officers and Principal

Shareholders.

563.43................... Loans by Savings ...................... ...................... ......................

Associations to Their

Executive Officers,

Directors, and Principal

Shareholders.

--------------------------------------------------------------------------------------------------------------------------------------------------------

Table 2

--------------------------------------------------------------------------------------------------------------------------------------------------------

For engagements involving management assertions about compliance by:

Dividend restrictions -----------------------------------------------------------------------------------------------

National banks State member banks State nonmember banks Savings associations

--------------------------------------------------------------------------------------------------------------------------------------------------------

Read the following parts and/or sections of Title 12 of the United States Code:

56..................... Prohibition of Withdrawal

of Capital and Unearned

Dividends.

60..................... Dividends and Surplus Funds

1467a(f)............... Declaration of Dividends... ...................... ...................... ......................

1831o.................. Prompt Corrective Action--

Dividend Restrictions.

Read the following parts and/or sections of Title 12 of the Code of Federal Regulations:

5.61................... Payment of dividends;

capital limitation.

5.62................... Payment of dividends;

earnings limitation.

6.6.................... Prompt Corrective Action--

Dividend Restrictions.

7.6120................. Dividends Payable in

Property Other Than Cash.

208.19................. Payments of Dividends...... ......................

208.35................. Prompt Corrective Action... ......................

325.105................ Prompt Corrective Action... ...................... ......................

563.134................ Capital Distributions...... ...................... ...................... ......................

565.................... Prompt Corrective Action... ...................... ...................... ......................

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[[Page 6500]]

By order of the Board of Directors.

Dated at Washington, DC, this 6th day of February 1996.

Federal Deposit Insurance Corporation.

Jerry L. Langley,

Executive Secretary.

[FR Doc. 96-3569 Filed 2-20-96; 8:45 am]

BILLING CODE 6714-01-P