Seal of the Board of Governors of the Federal Reserve System BOARD OF GOVERNORS

WASHINGTON, D. C.  20551
SR 02-9
March 20, 2002


SUBJECT:   Guidance Regarding Significant Changes in the General Character of a State Member Bank’s Business and Compliance with Regulation H

                      Regulation H sets forth the requirements for state chartered banks' membership in the Federal Reserve System and imposes certain conditions of membership on applicant banks.  Under the regulation, a member bank must "at all times conduct its business and exercise its powers with due regard to safety and soundness" and "may not, without the permission of the Board, cause or permit any change in the general character of its business or in the scope of the corporate powers it exercises at the time of admission to membership." (Refer to 12 CFR 208.3(d)(1) and (2))

                      The purpose of this letter is to remind both Reserve Bank examiners and state member banks of the requirement in Regulation H that state member banks must receive the prior approval of the Board before making any significant change in business plans.  In view of the trend toward more diverse, complex and, at times, riskier activities of some banks, the prior approval requirements of Regulation H have become more important.

                      Changes in the general character of a bank's business would include, for example, becoming a primarily Internet-focused or Internet-only operation, or concentrating solely on subprime lending or leasing activities.  These activities can present novel risks for banking organizations, depending on how they are conducted and managed, and may also present risks to the deposit insurance fund.  In many cases, these activities involve aggressive growth plans and may give rise to significant financial, managerial, and other supervisory issues. 

                      In applications for membership in the Federal Reserve System, careful consideration is given to a bank's proposed business plan in order to ensure, at a minimum, that appropriate financial and managerial standards are met.  Likewise, the other federal banking agencies consider a bank's business plan when they review applications for federal deposit insurance, in the case of the FDIC, or a national bank or federal thrift charter, in the case of the OCC and OTS.  The OCC, FDIC, and OTS have been conditioning their approvals of applications to require that, during the first three years of operations, the bank or thrift provide prior notice or obtain prior approval of any proposed significant deviations or changes from its original operating plan.  Rather than use similar commitments, the Federal Reserve has relied on the provisions of Regulation H cited above in order to address situations where a state member bank proposes to materially change its core business plan.

                      Federal Reserve supervisors will be monitoring changes in the general character of the business of state member banks as part of the normal supervisory process to ensure compliance with the requirements of Regulation H and with safe and sound banking practices.  This review should be conducted on at least an annual basis by the Reserve Bank.  A significant change in a bank's business plan without the Board's prior approval would be considered a violation of Regulation H and would be addressed through follow-up supervisory action.

                      Reserve Banks are asked to distribute this letter to all state member banks in their districts, as well as their examination staff.  Should you have any questions regarding this letter, please contact Michael O'Rourke, Counsel, Legal Division, at (202) 452-3288 or Betsy Cross, Deputy Associate Director, at (202) 452-2574.


Herbert A. Biern
Senior Associate Director

SR letters | 2002