Letter permitting bank to lawfully acquire a minority, non-controlling interest in a limited purpose national bank. (06/08/98)

For purposes of this opinion, the terms “limited purpose national bank” and “limited purpose

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national trust company” are used interchangeably.

The acquisition will not require [ Bank1 ] to file a notice under the Change in Bank Control

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Act, since it will be less than 25 percent. See 12 U.S.C. § 1817(j)(8).

Comptroller of the Currency

Administrator of National Banks

500 North Akard

1600 Lincoln Plaza

Dallas, Texas 75201-3394

(214) 720-0656

Interpretive Letter #831

June 8, 1998

June 1998

12 U.S.C. 24(7)

Gentlemen:

This responds to your letter of April 2, 1998, requesting confirmation that [

], [ City, State ] (“Bank1”) may lawfully acquire a minority, noncontrolling interest in

[ ] (“Bank2”), [ City, State ]. For the reasons set

forth below, it is our opinion that this transaction is legally permissible in the manner and as

described herein.

I. BACKGROUND

The OCC has received an application to charter [ Bank2 ], a limited purpose national bank in

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[ City ]. [ Bank2 ] is being organized on behalf of [ ]

(“LLC1”), an [ State ] limited liability company, and its sole owner, [

] (“LLC2”), also an [ State ] limited liability company. Shortly after the approval of

the charter and the organization and capitalization of [ Bank2 ], it is proposed that [ LLC1 ]

will sell 24.9 percent of the outstanding stock of [ Bank2 ] to [ Bank1 ].2

[ Bank2 ] is being organized in order to provide trust services primarily in the [ City ]

area. [ Bank2 ] will limit its activities to the provision of fiduciary services, focusing

exclusively on the personal trust business. Such services will include financial and estate

planning, management of investments, real estate, and oil and gas properties, and agency and

o [ Bank1 ].2

[ Bank2 ] is being organized in order to provide trust services primarily in the [ City ]

area. [ Bank2 ] will limit its activities to the provision of fiduciary services, focusing

exclusively on the personal trust business. Such services will include financial and estate

planning, management of investments, real estate, and oil and gas properties, and agency and

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See Interpretive Letters No. 737, [1996-1997 Transfer Binder] Fed. Banking L. Rep. (CCH) ¶

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81-101 (Aug. 19, 1996); No. 732, [1995-1996 Transfer Binder] Fed. Banking L. Rep. (CCH) ¶ 81-049

(May 10, 1996); No. 694, [1995-1996 Transfer binder] Fed Banking L. Rep. (CCH) ¶ 81-009 (Dec. 13,

1995); and No. 692, [1995-1996 Transfer Binder] Fed. Banking L. Rep (CCH) ¶ 81-007 (Nov. 1, 1995).

See also Interpretive Letter No. 697, [1995-1996 Transfer Binder] Fed. Banking L. Rep. (CCH) ¶ 81-012

(Nov. 15, 1995) (national bank may indirectly own a 25 percent interest in a state-chartered trust

company); and Interpretive Letter No. 815, [Current] Fed. Banking L. Rep. (CCH) ¶ 81-263 (Dec. 2,

1997) (national bank may retain a 15 percent interest in a state-chartered trust company).

custody services. Corporate and pension services may be offered in the future. Under the

proposed organization plan, [ Bank1 ] will have two directors on [ Bank2 ]’s five-person

board.

II. ANALYSIS

[ Bank1 ]’s purchase of a 24.9% interest in [ Bank2 ] raises the issue of the authority of a

national bank to hold a minority, noncontrolling interest in an enterprise. In a variety of

circumstances the OCC has permitted national banks to own, either directly, or indirectly

through an operating subsidiary, a minority interest in an entity. The entity may take different

forms, including a limited partnership, a corporation, or a limited liability company.3

These letters have concluded that such minority, noncontrolling investments are legally

permitted provided that four criteria or standards are met

has permitted national banks to own, either directly, or indirectly

through an operating subsidiary, a minority interest in an entity. The entity may take different

forms, including a limited partnership, a corporation, or a limited liability company.3

These letters have concluded that such minority, noncontrolling investments are legally

permitted provided that four criteria or standards are met. These standards, which have been

distilled from our previous decisions in the area of permissible minority investments for

national banks and their subsidiaries, are: (1) the activities of the enterprise in which the bank

invests must be limited to activities that are part of, or incidental to, the business of banking;

(2) the bank must be able to prevent the enterprise from engaging in activities that do not meet

the foregoing standard, or be able to withdraw its investment; (3) the bank’s loss exposure

must be limited, as a legal and accounting matter, and the bank must not have open-ended

liability for the obligations of the enterprise; and (4) the investment must be convenient or

useful to the bank in carrying out its business and not a mere passive investment unrelated to

that bank’s banking business. Each of these standards is discussed below and applied to the

proposed investment by [ Bank1 ].

1. The activities of the enterprise in which the bank invests must be limited to

activities that are part of, or incidental to, the business of banking.

Our precedents on minority stock ownership have recognized that the enterprise in which the

bank takes an equity interest must confine its activities to those that are part of, or incidental

ow and applied to the

proposed investment by [ Bank1 ].

1. The activities of the enterprise in which the bank invests must be limited to

activities that are part of, or incidental to, the business of banking.

Our precedents on minority stock ownership have recognized that the enterprise in which the

bank takes an equity interest must confine its activities to those that are part of, or incidental

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See, e.g., Letter from Robert B. Serino, Deputy Chief Counsel (Nov. 9, 1992) (since the

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operation of an ATM network is “a fundamental part of the basic business of banking,” an equity

investment in such a network is permissible); Interpretive Letter No. 380, [1988-1989 Transfer Binder]

Fed. Banking L. Rep. (CCH) ¶ 85,604 n.8 (Dec. 29, 1986) (since a national bank can provide options

clearing services to customers, it can purchase stock in a corporation providing options clearing services).

to, the business of banking. In the present case, the application represents that [ Bank2 ] is

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being

organized for the limited purpose of providing trust and fiduciary services, including the

normal and customary services associated with administering trusts and estates, providing

agency and custody services, and serving in various fiduciary capacities. Pension and

employee benefit services may be provided in the future. It is well established that national

banks may engage in trust activities to the same extent as state-chartered institutions in the

same state. 12 U.S.C. § 92a. Banks in [ State ] are permitted to exercise fiduciary

powers. [ State Stat. Ann. ]. Moreover, as previously mentioned, the OCC has specifically

approved minority investments in trust banks. Interpretive Letter No. 815, supra; Interpretive

Letter No. 697, supra. Thus, the activities to be performed by [ Bank2 ] are activities that are

part of, or incidental to, the business of banking, and the first standard is satisfied.

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d to exercise fiduciary

powers. [ State Stat. Ann. ]. Moreover, as previously mentioned, the OCC has specifically

approved minority investments in trust banks. Interpretive Letter No. 815, supra; Interpretive

Letter No. 697, supra. Thus, the activities to be performed by [ Bank2 ] are activities that are

part of, or incidental to, the business of banking, and the first standard is satisfied.

2. The bank must be able to prevent the enterprise from engaging in activities

that do not meet the foregoing standard, or be able to withdraw its investment.

This is an obvious corollary to the first standard. The activities of an enterprise in which a

national bank invests must be part of, or incidental to, the business of banking not only at the

time the bank initially acquires its ownership, but they must remain so for as long as the bank

has an ownership interest. This standard may be met if the bank is able to exercise a veto

power over the activities of the enterprise, or is able to dispose of its interest. See, e.g.,

Interpretive Letter No. 711, [1995-1996 Transfer Binder] Fed. Banking L. Rep. (CCH) ¶ 81-

026 (February 23, 1996); Interpretive Letter No. 692, supra. This ensures that the bank will

not become involved in activities that are not part of, or incidental to, the business of banking.

The application documents in this case reflect that [ Bank2 ] will be engaged in the provision

of fiduciary services, which is a permissible activity for national banks. The proposed Articles

of Association for [ Bank2 ] provide that its business will be limited to the operations of a trust

department and related support activities, and that [ Bank2 ] will not expand or alter its

business beyond the stated activities without the prior approval of the Comptroller of the

Currency. Upon its formation, [ Bank2 ] will also be prohibited from engaging in activities

that are not incidental to the business of banking, under the provisions of 12 U.S.C. § 24(7)

ed to the operations of a trust

department and related support activities, and that [ Bank2 ] will not expand or alter its

business beyond the stated activities without the prior approval of the Comptroller of the

Currency. Upon its formation, [ Bank2 ] will also be prohibited from engaging in activities

that are not incidental to the business of banking, under the provisions of 12 U.S.C. § 24(7).

Thus, [ Bank2 ] will be prevented as a matter of law from engaging in activities that are not a

part of, or incidental to, the business of banking.

In addition to these restrictions, the proposed bylaws of [ Bank2 ] provide that the directors

will have veto power over any activities which they deem unsuitable for the trust company.

Also, the purchase of shares by [ Bank1 ] is subject to a shareholder’s agreement which

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provides that [ Bank1 ] sell its shares in [Bank2 ], with [ LLC1 ] having a right of first

refusal. Thus, [ Bank1 ] may exercise a veto power over [ Bank2 ]’s activities, or dispose of

its interest. Accordingly, the second standard is satisfied.

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3. The bank’s loss exposure must be limited, as a legal and accounting matter,

and the bank must not have open-ended liability for the obligations of the

enterprise.

A primary concern of the OCC is that national banks should not be subjected to undue risk.

Where an investing bank will not control the operations of the entity in which the bank holds

an interest, it is important that a bank’s investment not expose it to unlimited liability. Such is

the case here. As a legal matter, the stockholders of national banks are not, as a general rule,

personally liable for the debts and acts of the bank. See 9 C.J.S. Banks and Banking § 506

to undue risk.

Where an investing bank will not control the operations of the entity in which the bank holds

an interest, it is important that a bank’s investment not expose it to unlimited liability. Such is

the case here. As a legal matter, the stockholders of national banks are not, as a general rule,

personally liable for the debts and acts of the bank. See 9 C.J.S. Banks and Banking § 506

(1996); Williamson v. American Bank, 115 F. 793 (1902); 12 U.S.C. § 64a. Thus, [ Bank1

]’s loss exposure for the liabilities of [ Bank2 ] is limited as a matter of law.

In assessing a bank’s loss exposure as an accounting matter, the OCC has previously noted that

the appropriate accounting treatment for a minority investment is to report it as an

unconsolidated entity under the equity method of accounting. Under this method, unless the

bank has extended a loan to the entity, guaranteed any of its liabilities, or has other financial

obligations to the entity, losses are generally limited to the amount of the investment shown on

the investor’s books. See generally, Accounting Principles Board, Op. 18 § 19 (1971) (equity

method of accounting for investments in common stock); Interpretive Letter No. 692, supra.

[ Bank1 ] will have a 24.9 percent ownership interest in [ Bank2 ], and will account for its

investment under the equity method. [ Bank1 ]’s loss exposure is limited to the amount of its

investment, and is also subject to [ Bank1 ]’s right to dispose of its shares by selling its interest

to the majority shareholder. You have represented that [ Bank1 ] will not make any loans to [

Bank2 ], and will not guarantee any of [ Bank2 ]’s obligations or be otherwise obligated on

any liabilities of [ Bank2 ].

Accordingly, for both legal and accounting purposes, [ Bank1 ]’s potential loss exposure

relative to [ Bank2 ] should be limited to the amount of its investment. That exposure is

quantifiable and controllable, and [ Bank1 ] will not have open-ended liability for the liabilities

of [ Bank2 ]

l not guarantee any of [ Bank2 ]’s obligations or be otherwise obligated on

any liabilities of [ Bank2 ].

Accordingly, for both legal and accounting purposes, [ Bank1 ]’s potential loss exposure

relative to [ Bank2 ] should be limited to the amount of its investment. That exposure is

quantifiable and controllable, and [ Bank1 ] will not have open-ended liability for the liabilities

of [ Bank2 ]. The third standard is therefore satisfied.

4. The investment must be convenient or useful to the bank in carrying out its

business and not a mere passive investment unrelated to that bank’s banking

business.

Under 12 U.S.C. § 24(Seventh), a national bank is given all incidental powers that are

necessary to carry on the business of banking. “Necessary” has been judicially construed to

mean “convenient or useful.” Arnold Tours, Inc. v. Camp, 472 F.2d 427, 432 (1st Cir.

1972). A national bank’s investment in an enterprise or entity that is not an operating

subsidiary of the bank must also satisfy the requirement that the investment have a beneficial

connection to the bank’s business, i.e., be convenient or useful to the investing bank’s business

activities, and not be a mere passive investment unrelated to its business activities. OCC

precedents concerning stock ownership have consistently indicated that such ownership must be

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convenient or useful to the bank in conducting that bank’s business. The investment must

benefit or facilitate that business and cannot be a mere passive or speculative investment.

In the present case, you have represented that [ Bank1 ] has valid business reasons for its

investment in [ Bank2 ]. You state that [ Bank1 ] currently possesses fiduciary powers, but has

not actively exercised those powers. The proposed minority investment in [ Bank2 ] will

afford [ Bank1 ] the opportunity to provide a wider scope of trust services to its customers,

and also to expand into new trust markets

case, you have represented that [ Bank1 ] has valid business reasons for its

investment in [ Bank2 ]. You state that [ Bank1 ] currently possesses fiduciary powers, but has

not actively exercised those powers. The proposed minority investment in [ Bank2 ] will

afford [ Bank1 ] the opportunity to provide a wider scope of trust services to its customers,

and also to expand into new trust markets. Thus, the investment is convenient or useful to [

Bank1 ], and is not merely passive or speculative. Accordingly, the fourth standard is

satisfied.

III. CONCLUSION

Based upon the information and representations you have provided, and for the reasons

discussed above, it is our opinion that [ Bank1 ] is legally permitted to acquire and hold a non-

controlling interest in [ Bank2 ] in the manner and as described herein, subject to the following

conditions:

1.

[ Bank2 ] will engage only in activities that are a part of, or incidental

to, the business of banking;

2.

[ Bank1 ] will have veto power over any activities and major decisions of

[ Bank2 ] that are inconsistent with condition number one, or will

withdraw from [ Bank2 ] in the event that it engages in an activity that is

inconsistent with condition number one;

3.

[ Bank1 ] will account for the investment in [ Bank2 ] under the equity

method of accounting; and

4.

[ Bank2 ] will be subject to OCC supervision, regulation and

examination.

These conditions are conditions imposed in writing by the OCC in connection with its action

on the request for a legal opinion confirming that [ Bank1 ]’s investment is permissible under

12 U.S.C. § 24(Seventh) and, as such, may be enforced in proceedings under applicable law.

If you have any questions, please contact me or Stephen Brown, Senior Attorney, at (214)

720-7012.

Sincerely,

/s/

Randall M. Ryskamp

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District Counsel