Notice2025-19945
Revisions to the Large Financial Institution Rating System and Framework for the Supervision of Insurance Organizations
Primary source
Metadata and text below are from the Federal Register, a public-domain U.S. government work. Always verify the official published version before relying on it for any legal matter.
Published
November 17, 2025
Effective
January 16, 2026
Issuing agencies
Federal Reserve System
Abstract
The Board is adopting a final notice to revise its Large Financial Institution (LFI) rating system (LFI Framework) and the rating system for depository institution holding companies significantly engaged in insurance activities (Insurance Supervisory Framework, together with the LFI Framework, Frameworks) to more appropriately identify as "well managed" firms that have sufficient financial and operational strength and resilience to maintain safe and sound operations through a range of conditions, including stressful ones. The final notice also replaces the presumption in the Frameworks that firms with one or more Deficient-1 component ratings will be subject to a formal or informal enforcement action with a statement that such firms may be subject to a formal or informal enforcement action, depending on particular facts and circumstances. The final notice also removes a reference to reputational risk in the Insurance Supervisory Framework.
Full Text
<html>
<head>
<title>Federal Register, Volume 90 Issue 219 (Monday, November 17, 2025)</title>
</head>
<body><pre>
[Federal Register Volume 90, Number 219 (Monday, November 17, 2025)]
[Notices]
[Pages 51329-51354]
From the Federal Register Online via the Government Publishing Office [<a href="http://www.gpo.gov">www.gpo.gov</a>]
[FR Doc No: 2025-19945]
-----------------------------------------------------------------------
FEDERAL RESERVE SYSTEM
[Docket No. OP-1868]
Revisions to the Large Financial Institution Rating System and
Framework for the Supervision of Insurance Organizations
AGENCY: Board of Governors of the Federal Reserve System (Board).
ACTION: Final notice.
-----------------------------------------------------------------------
SUMMARY: The Board is adopting a final notice to revise its Large
Financial Institution (LFI) rating system (LFI Framework) and the
rating system for depository institution holding companies
significantly engaged in insurance activities (Insurance Supervisory
Framework, together with the LFI Framework, Frameworks) to more
appropriately identify as ``well managed'' firms that have sufficient
financial and operational strength and resilience to maintain safe and
sound operations through a range of conditions, including stressful
ones. The final notice also replaces the presumption in the Frameworks
that firms with one or more Deficient-1 component ratings will be
subject to a formal or informal enforcement action with a statement
that such firms may be subject to a formal or informal enforcement
action, depending on particular facts and circumstances. The final
notice also removes a reference to reputational risk in the Insurance
Supervisory Framework.
DATES: Effective January 16, 2026.
FOR FURTHER INFORMATION CONTACT: Marta Chaffee, Senior Associate
Director, (202) 263-4814, Juan Climent, Deputy Associate Director,
(202) 872-7526, Catherine Tilford, Deputy Associate Director, (202)
452-5240, April Snyder, Assistant Director, (202) 452-3099, Missaka
Nuwan Warusawitharana, Manager, (202) 452-3461, Devyn Jeffereis, Lead
Financial Institution Policy Analyst, (202) 452-2729, and Ricardo Duque
Gabriel, Economist, (202) 313-1664, Division of Supervision and
Regulation; or Reena Sahni, Deputy General Counsel, (202) 527-2911, Jay
Schwarz, Deputy Associate General Counsel, (202) 452-2970, David Cohen,
Counsel, (202) 452-5259, Vivien Lee, Attorney, (202) 452-2029, and
Daniel Parks, Attorney, (771) 210-7183, Legal Division. For users of
TTY-TRS, please call 711 from any telephone, anywhere in the United
States or (202) 263-4869.
SUPPLEMENTARY INFORMATION:
Table of Contents
I. Introduction
A. Background
1. LFI Framework
2. Insurance Supervisory Framework
B. Proposal and Overview of Comments Received
II. Overview of Final Notice and Comments Received
A. General Comments
B. LFI Framework Definition of ``Well Managed''
C. LFI Framework Enforcement Action Presumption
[[Page 51330]]
D. Insurance Supervisory Framework Definition of ``Well
Managed'' and Enforcement Action Presumption
E. Changes to Appendix B: Framework for the Supervision of
Insurance Organizations
III. Economic Analysis
A. Baseline
B. Revisions to the Frameworks Contained in the Final Notice
Relative to Baseline
C. Analysis of Benefits and Costs
1. Benefits
a. Supervisory Efficiency and Efficacy
b. Reduction of Compliance Costs and Other Impediments to Growth
2. Costs
D. Conclusion
IV. Administrative Law Matters
A. Solicitation of Comments and Use of Plain Language
B. Paperwork Reduction Act
C. Regulatory Flexibility Act
D. Riegle Community Development and Regulatory Improvement Act
of 1994
Appendix A--Text of the Large Financial Institution Rating System
Appendix B--Text of the Insurance Supervisory Framework
I. Introduction
A. Background
The Board supervises and regulates companies that control one or
more banks (bank holding companies) and companies that are not bank
holding companies that control one or more savings associations
(savings and loan holding companies, together with bank holding
companies, depository institution holding companies). Congress gave the
Board regulatory and supervisory authority for bank holding companies
through the enactment of the Bank Holding Company Act of 1956 (BHC
Act).\1\ The Board's regulation and supervision of savings and loan
holding companies began in 2011 when provisions of the Dodd-Frank Wall
Street Reform and Consumer Protection Act (Dodd-Frank Act) \2\
transferring supervision and regulation of savings and loan holding
companies from the Office of Thrift Supervision to the Board took
effect.\3\ Upon this transfer, the Board became the federal supervisory
agency for all depository institution holding companies, including a
portfolio of depository institution holding companies significantly
engaged in insurance activities (supervised insurance
organizations).\4\ The Board has developed supervisory rating
frameworks for its supervised entities, based on their size and
complexity, to assess their financial and operational strength.
---------------------------------------------------------------------------
\1\ Ch. 240, 70 Stat. 133.
\2\ Public Law 111-203, 124 Stat. 1376 (2010).
\3\ Dodd-Frank Act tit. III, 124 Stat. at 1520-70.
\4\ Specifically, a supervised insurance organization is a
depository institution holding company that is an insurance
underwriting company, or that has over 25 percent of its
consolidated assets held by insurance underwriting subsidiaries, or
has been otherwise designated as a supervised insurance organization
by the Federal Reserve.
---------------------------------------------------------------------------
1. LFI Framework
The Board adopted the LFI Framework in 2018 and issued related
guidance in 2019.\5\ The Board designed the LFI Framework to align with
the Federal Reserve's supervisory programs and practices, enhance the
clarity and consistency of supervisory assessments and communications
of supervisory findings and implications, and provide transparency
related to the supervisory consequences of a given rating. The LFI
Framework applies to bank holding companies and non-insurance, non-
commercial savings and loan holding companies with total consolidated
assets of $100 billion or more, and U.S. intermediate holding companies
of foreign banking organizations established under Regulation YY with
total consolidated assets of $50 billion or more.
---------------------------------------------------------------------------
\5\ 83 FR 58724 (Nov. 21, 2018); SR Letter 19-3/CA Letter 19-2,
Large Financial Institution (LFI) Rating System (Feb. 26, 2019),
<a href="https://www.federalreserve.gov/supervisionreg/srletters/sr1903.htm">https://www.federalreserve.gov/supervisionreg/srletters/sr1903.htm</a>.
---------------------------------------------------------------------------
The LFI Framework evaluates whether a firm possesses sufficient
financial and operational strength and resilience to maintain safe and
sound operations and comply with laws and regulations, including those
related to consumer protection, through a range of conditions. It
includes three components: (1) Capital Planning and Positions; (2)
Liquidity Risk Management and Positions; and (3) Governance and
Controls.\6\ Each component is rated based on a four-point non-numeric
scale: Broadly Meets Expectations,\7\ Conditionally Meets
Expectations,\8\ Deficient-1,\9\ and Deficient-2.\10\
---------------------------------------------------------------------------
\6\ See SR Letter 19-3/CA Letter 19-2.
\7\ Indicates that a firm's practices and capabilities broadly
meet supervisory expectations, and the firm possesses sufficient
financial and operational strength and resilience to maintain safe
and sound operations through a range of conditions.
\8\ Indicates that there are certain material financial or
operational weaknesses in a firm's practices or capabilities that
may place the firm's prospects for remaining safe and sound through
a range of conditions at risk if not resolved in a timely manner
during the normal course of business.
\9\ Indicates that there are financial or operational
deficiencies in a firm's practices or capabilities, which put the
firm's prospects for remaining safe and sound through a range of
conditions at significant risk.
\10\ Indicates that there are financial or operational
deficiencies in a firm's practices or capabilities which present a
threat to the firm's safety and soundness or have already put the
firm in an unsafe and unsound condition.
---------------------------------------------------------------------------
The BHC Act defines the term ``well managed'' \11\ and identifies
certain benefits that may be available to a firm that meets the
criteria.\12\ A bank holding company that is ``well managed,'' and that
is ``well managed'' at each of its depository institution subsidiaries,
among other requirements, may elect to be treated as a financial
holding company.\13\ A financial holding company may engage in a
broader range of nonbanking activities, such as securities underwriting
and dealing, than a bank holding company that has not made such an
election.\14\ The BHC Act permits a firm that is ``well managed'' to
engage in certain expansionary activities, and to pursue investments
in, and acquisitions of, certain nonbank financial companies, without
obtaining prior Board approval.\15\ The loss of ``well managed'' status
can constrain a banking organization that is a financial holding
company; can limit the banking organization from benefiting from
certain expedited processing of applications available to ``well
managed'' firms; and can limit the scope of certain new activities and
acquisitions permissible for the firm.\16\ This can include limitations
on acquisitions of, and investments in, companies engaged in certain
financial activities without prior approval by the Board.\17\
---------------------------------------------------------------------------
\11\ 12 U.S.C. 1841(o)(9). Under the BHC Act, ``well managed''
means a company or depository institution that has achieved (i) ``a
CAMEL composite rating of 1 or 2 (or an equivalent rating under an
equivalent rating system),'' and (ii) ``at least a satisfactory
rating for management, if such a rating is given.''
\12\ See, e.g., 12 U.S.C. 1843(j)(4)(B).
\13\ See 12 U.S.C. 1843(l).
\14\ For a bank holding company to qualify as a financial
holding company and engage in certain financial activities, the bank
holding company and each of its depository institution subsidiaries
must be ``well capitalized'' and ``well managed.'' See 12 U.S.C.
1843(l)(1).
\15\ See 12 U.S.C. 1843(l).
\16\ See, e.g., 12 U.S.C. 1842(d) and 1843(l); 12 CFR
225.4(b)(6), 225.14, 225.22(a), 225.23; 12 CFR 211.9(b),
211.10(a)(14), 211.34; and 12 CFR 223.41.
\17\ See, e.g., 12 CFR 225.83(d)(2).
---------------------------------------------------------------------------
The LFI Framework states that a ``well managed'' firm has
sufficient financial and operational strength and resilience to
maintain safe and sound operations through a range of conditions,
including stressful ones.\18\ Previously under the LFI Framework, a
firm that received a rating of Deficient-1 or Deficient-2 in any
component rating was not considered ``well managed'' for purposes of
the BHC Act and for certain
[[Page 51331]]
other purposes.\19\ When issuing the LFI Framework, the Board explained
that a banking organization was not in satisfactory condition overall
unless it was considered sound in each of the key areas of capital,
liquidity, and governance and controls. A Deficient-1 component rating
was, and continues to be, issued when financial or operational
deficiencies at a firm put the firm's prospects for remaining safe and
sound through a range of conditions at significant risk, but the firm's
current condition is not considered to be materially threatened.
Moreover, the LFI Framework established a presumption that the Board
would impose a formal or informal enforcement action on any firm with a
Deficient-1 or Deficient-2 component rating.
---------------------------------------------------------------------------
\18\ See SR Letter 19-3/CA Letter 19-2, Large Financial
Institution (LFI) Rating System (Feb. 26, 2019), <a href="https://www.federalreserve.gov/supervisionreg/srletters/sr1903.htm">https://www.federalreserve.gov/supervisionreg/srletters/sr1903.htm</a>.
\19\ For purposes of determining whether a firm is considered
``well managed'' under section 2(o)(9) of the BHC Act, the Federal
Reserve considers the three component ratings, taken together, to be
equivalent to assigning a standalone composite rating. 83 FR 58724,
58730 (Nov. 21, 2018). The LFI Framework does not designate any of
the three component ratings as a management rating, because each
component evaluates different aspects of a firm's management.
---------------------------------------------------------------------------
2. Insurance Supervisory Framework
The Board's current supervisory approach for noninsurance
depository institution holding companies assesses holding companies
whose primary risks are related to the business of banking. The risks
arising from insurance activities, however, are materially different
from traditional banking risks. The top-tier holding company for some
supervised insurance organizations is an insurance underwriting
company, which is subject to supervision and regulation by the relevant
state insurance regulator as well as consolidated supervision by the
Board; for all supervised insurance organizations, insurance regulators
supervise and regulate the business of insurance underwriting
companies. Additionally, the state insurance regulators have
established Statutory Accounting Principles through the National
Association of Insurance Commissioners to help assess the risks of
insurance companies, some of which do not produce consolidated
financial statements based on generally accepted accounting principles.
Because of these differences, the Board tailored its supervision
and regulation of supervised insurance organizations. In 2022, the
Board adopted the Insurance Supervisory Framework.\20\ In addition, in
2023, the Board established a risk-based capital framework designed
specifically for supervised insurance organizations.\21\
---------------------------------------------------------------------------
\20\ 87 FR 60160 (Oct. 4, 2022); SR Letter 22-8, Framework for
the Supervision of Insurance Organizations (Sept. 28, 2022), <a href="https://www.federalreserve.gov/supervisionreg/srletters/SR2208.htm">https://www.federalreserve.gov/supervisionreg/srletters/SR2208.htm</a>.
\21\ 88 FR 82950 (Nov. 27, 2023); 12 CFR part 217, subpart J.
---------------------------------------------------------------------------
The Insurance Supervisory Framework is modeled after the LFI
Framework. The Board designed the Insurance Supervisory Framework to
reflect supervisory requirements and expectations applicable to
supervised insurance organizations. Further, within the Insurance
Supervisory Framework, the application of supervisory guidance and the
assignment of supervisory resources is based explicitly on a supervised
insurance organization's complexity and individual risk profile.\22\
---------------------------------------------------------------------------
\22\ For example, the Insurance Supervisory Framework classifies
supervised insurance organizations as either complex or noncomplex.
---------------------------------------------------------------------------
Similarly to the LFI Framework, the Insurance Supervisory Framework
includes three components (Capital Management, Liquidity Management,
and Governance and Controls), with each component rated based on a
four-point non-numeric scale (Broadly Meets Expectations,\23\
Conditionally Meets Expectations,\24\ Deficient-1,\25\ and Deficient-2
\26\).
---------------------------------------------------------------------------
\23\ Indicates a supervised insurance organization's practices
and capabilities broadly meet supervisory expectations and that the
holding company effectively serves as a source of managerial and
financial strength for its depository institution(s) and possesses
sufficient financial and operational strength and resilience to
maintain safe and sound operations through a range of stressful yet
plausible conditions.
\24\ Indicates a supervised insurance organization's practices
and capabilities are generally considered sound, but certain
supervisory issues are sufficiently material that if not resolved in
a timely manner during the normal course of business, they may put
the firm's prospects for remaining safe and sound, and/or the
holding company's ability to serve as a source of managerial and
financial strength for its depository institution(s), at risk.
\25\ Indicates that financial or operational deficiencies in a
supervised insurance organization's practices or capabilities put
its prospects for remaining safe and sound, and/or the holding
company's ability to serve as a source of managerial and financial
strength for its depository institution(s), at significant risk.
\26\ Indicates that financial or operational deficiencies in a
supervised insurance organization's practices or capabilities
present a threat to its safety and soundness, have already put it in
an unsafe and unsound condition, and/or make it unlikely that the
holding company will be able to serve as a source of financial and
managerial strength to its depository institution(s).
---------------------------------------------------------------------------
Like firms subject to the LFI Framework, certain supervised
insurance organizations that lose their ``well managed'' status may be
restricted from engaging in certain expansionary activities and
pursuing investments in, and acquisitions of, certain nonbank financial
companies without obtaining prior Board approval.\27\ Previously, under
the Insurance Supervisory Framework, a supervised insurance
organization had to receive a rating of Conditionally Meets
Expectations or better in each of the three rating components in order
to be considered ``well managed.'' The Board explained that each rating
is defined specifically for supervised insurance organizations with
particular emphasis on the obligation that firms serve as a source of
financial and managerial strength for their depository
institution(s).\28\ A Deficient-1 component rating was, and continues
to be, issued when financial or operational deficiencies at a firm put
its prospects for remaining safe and sound, and/or the holding
company's ability to serve as a source of managerial and financial
strength for its depository institution(s), at significant risk.
Moreover, the Insurance Supervisory Framework established a presumption
that a firm with a Deficient-1 or Deficient-2 rating would be subject
to an enforcement action.
---------------------------------------------------------------------------
\27\ See 12 CFR 225.83 and 238.66(b).
\28\ 87 FR 60160 (Oct. 4, 2022).
---------------------------------------------------------------------------
B. Proposal and Overview of Comments Received
On July 15, 2025, the Board invited comment on a proposal to revise
the Frameworks such that firms with only one Deficient-1 component
rating and two component ratings of Conditionally Meets Expectations or
Broadly Meets Expectations would be considered ``well managed.'' \29\ A
firm rated ``Deficient-1'' in two or more rating components or
``Deficient-2'' in any rating component would continue not to be
considered ``well managed.'' The proposed revisions reflected
experience with the LFI Framework since its introduction in 2018. This
experience demonstrates that a firm that has a Deficient-1 rating in an
individual component while maintaining a rating of Broadly Meets
Expectations or Conditionally Meets Expectations in its other two
components would generally have sufficient financial and operational
strength and resilience to maintain safe and sound operations through a
range of conditions due to its overall robustness.\30\ The proposed
revisions also sought to reflect the financial and operational strength
and resilience of firms subject to the Frameworks. In addition, the
proposal aimed to better align the application of the Frameworks with
the operation of the Board's other
[[Page 51332]]
existing ratings frameworks, none of which determine a firm's composite
rating, which is relevant to its ``well managed'' status, based solely
on a single component rating.
---------------------------------------------------------------------------
\29\ 90 FR 31641 (July 15, 2025).
\30\ For firms subject to the Insurance Supervisory Framework,
the proposal reflected that these firms have sufficient financial
and operational strength to serve as a source of strength for their
depository institutions through a range of stressful yet plausible
conditions.
---------------------------------------------------------------------------
In addition, the Board proposed removing the presumption in the
Frameworks that firms with one or more Deficient-1 component ratings
will be subject to a formal or informal enforcement action. Instead,
under the proposal, the Frameworks would state that firms with one or
more Deficient-1 component ratings may be subject to a formal or
informal enforcement action, depending on particular facts and
circumstances. The proposed revision aimed to align the standard for
initiating enforcement actions with other rating frameworks. The
proposal maintained the presumption that the Board will impose a formal
enforcement action on a firm with one or more Deficient-2 component
ratings. All other aspects of the Frameworks would remain unchanged
under the proposal.
The Board received ten comments on the proposal. Commenters
included industry groups, public interest groups, academics, members of
Congress, and other interested parties. Some commenters expressed
general support for the proposal and recommended expeditiously adopting
the proposal. These commenters stated that the proposal would more
accurately reflect a firm's financial and operational strength and
resilience to maintain safe and sound operations through a range of
conditions, including stressful ones, and thus appropriately increase
firms' ability to expand efficiently, reduce compliance costs, and
increase innovation. Further, these commenters asserted that the
proposal would enable firms to more efficiently allocate resources
between resolving material financial issues and serving customers and
competing within the financial sector.
Other commenters opposed the proposal overall, stating that it was
unnecessary and would increase risks to safety and soundness. Some of
these commenters cited historical examples of firms that have failed,
expressing concern that the proposal would have treated certain of
these firms as ``well managed.'' Other commenters stated that the
proposal would encourage growth in large banking organizations,
presenting financial stability risks and increasing competitive
disadvantages for community banks. One commenter also asserted the
proposal was inconsistent with the Administrative Procedure Act (APA).
Additionally, several commenters provided more specific views on
the proposal's ``well managed'' definition and enforcement action
presumption. These comments are described in more detail throughout the
remainder of this final notice. Certain commenters suggested changes to
Board supervision and other supervisory rating systems which are beyond
the scope of this notice.
II. Overview of Final Notice and Comments Received
The Board has considered all comments and is finalizing the
proposal largely without change. Accordingly, under the final notice, a
firm with at least two Broadly Meets Expectations or Conditionally
Meets Expectations component ratings and no more than one Deficient-1
component rating will be considered ``well managed'' under the
Frameworks. Additionally, under the final notice, the Frameworks state
that firms with one or more Deficient-1 component ratings may be
subject to a formal or informal enforcement action, depending on
particular facts and circumstances. The final notice does not change
the criteria for determining if a firm's component rating is Broadly
Meets Expectations, Conditionally Meets Expectations, Deficient-1, or
Deficient-2.
The final notice also updates certain references, including
removing a reference to reputational risk, in the Insurance Supervisory
Framework.
A. General Comments
Support for the Proposal. Multiple commenters generally supported
the proposal and recommended that the Board expeditiously adopt it.
These commenters suggested that the proposal would increase the ability
of firms to expand efficiently, increase innovation, and more
accurately reflect the quality of firm management. The commenters
discussed deficiencies in the previous LFI Framework, including that it
overemphasizes less important, procedural considerations at the expense
of core, material financial risks.
The commenters also suggested that the proposal would increase
efficiency. One commenter noted that the proposal may reduce compliance
costs, make examinations and remediation more efficient, and enable
firms to allocate resources more effectively to resolve material
financial issues, resulting in greater lending opportunities. Another
commenter stated that the proposal would promote economic growth by
allowing institutions without material safety and soundness concerns to
invest resources to serve customers and to compete within the financial
sector.
Safety and Soundness. Several commenters expressed concerns related
to the proposal's effect on safety and soundness. Several commenters
opposed the proposed changes, noting that supervisory ratings, as
currently constructed, are highly predictive of bank failure and
provide valuable information on institutional health. These commenters
noted that agency research suggests that agency ratings outperform
purely financial metrics in predicting future firm performance. Another
commenter expressed concern that the proposal would expose holding
companies' insured depository institution subsidiaries to certain risks
and allow non-bank affiliates to receive subsidies arising from an
insured depository institution's access to the federal safety net. This
commenter stated that such a result is inconsistent with Congressional
intent to ensure only well managed holding companies hold an interest
in non-bank entities. One commenter emphasized the importance of the
Governance and Controls component to safety and soundness, noting it is
the primary means to evaluate management's ability to manage novel and
emerging risks, especially those that are difficult to quantify.\31\
The commenter noted that governance lapses are leading indicators of
larger systemic breakdowns.\32\ Consequently, the commenter asserted
that inadequate governance and risk management at large firms not only
affects the safety and soundness of a firm but also amplifies systemic
vulnerability across the banking sector. Another commenter expressed
concern that a firm with a single Deficient-1 component rating and two
Conditionally Meets Expectations component ratings would be considered
``well managed'' despite existing deficiencies, which could negatively
impact financial stability.
---------------------------------------------------------------------------
\31\ One commenter asserted that climate change is a source of
risk to safety and soundness that is unaccounted for under the
proposal.
\32\ Similarly, one commenter stated that the proposal downplays
the importance of Governance and Controls, which history has
demonstrated is very important for large banks. The commenter cited
previous instances in which the Board or other agencies have fined
large firms for Governance and Controls failures and instances in
which failures in management led to firm failures.
---------------------------------------------------------------------------
The Board agrees that supervisory ratings provide valuable
information about a firm's financial and non-financial strengths. The
revisions reflect experience with the LFI Framework since its
introduction in 2018. This experience demonstrates that a firm that has
a Deficient-1 rating in an individual component while maintaining a
rating of Broadly Meets Expectations or
[[Page 51333]]
Conditionally Meets Expectations in its other two components would
generally have sufficient financial and operational strength and
resilience to maintain safe and sound operations through a range of
conditions due to its overall robustness. These ``well managed'' firms
would generally be able to serve as a source of strength for their
insured depository institution subsidiaries. In addition, firms subject
to the Frameworks would continue to be subject to section 23A of the
Federal Reserve Act and the Board's Regulation W, which limits an
insured depository institution's ability to transfer its subsidy
arising from the institution's access to the federal safety net.\33\
---------------------------------------------------------------------------
\33\ 67 FR 76560 (Dec. 12, 2002).
---------------------------------------------------------------------------
Further, with the revisions, the LFI Framework continues to
evaluate the effectiveness of a firm's Capital Planning and Positions,
Liquidity Risk Management and Positions, and Governance and Controls,
including the ability of firms to identify and manage material
financial risks. Similarly, the Insurance Supervisory Framework
continues to evaluate the effectiveness of a firm's Capital Management,
Liquidity Management, and Governance and Controls, and includes the
ability of firms to identify and manage material financial risks. The
final notice does not deemphasize any single component rating.\34\
Instead, the revisions ensure that ``well managed'' determinations take
a comprehensive approach and reflect the overall strength of a firm
across the three components of the Frameworks. The Frameworks will
continue to allow supervisors to communicate concerns about risks and
assign ratings based on the level of supervisory concern.
---------------------------------------------------------------------------
\34\ The Governance and Controls component rating evaluates
critical practices and capabilities that provide for the firm's
ongoing financial and operational resiliency through a range of
conditions.
---------------------------------------------------------------------------
Comparison to Silicon Valley Bank Financial Group. Several
commenters used Silicon Valley Bank Financial Group (SVBFG) or Silicon
Valley Bank (SVB) as examples to raise concerns with the proposal,
noting that SVBFG would have been considered ``well managed'' under the
proposal, and therefore asserting the proposed rating system lacks
credibility. One commenter stated the proposal does not address the
problem with supervisory rating systems identified by the SVB failure.
Specifically, the commenter stated that the problems identified by the
SVB failure, which are not addressed under the proposal, include
supervisors' focus on multiple nonmaterial management issues while
failing to adequately identify and remediate material vulnerabilities
with capital and liquidity.
The failure of SVB involved a number of bank risk management and
supervisory failures and presented issues that were broader than a
firm's ``well managed'' status under the LFI Framework. Many of these
issues are outside the scope of the final notice, but will be
considered in any future efforts to make more comprehensive changes to
supervisory ratings systems, including efforts to increase emphasis on
material financial risks.
Large Bank Prioritization. Several commenters expressed concerns
that the proposal encourages growth in large banking organizations,
which presents financial stability risks and increases competitive
disadvantages for community banks. One commenter stated that the
proposal would encourage expansion and mergers involving large firms
that are not well managed and would thus intensify consolidation in the
financial sector. Another commenter raised concerns about the impact of
the proposal on community banks, claiming that the proposal would
establish two different sets of rules, with standards for large firms
being more lenient than those for community banks.
The final notice does not aim to create more lenient standards for
large firms relative to community banks. An application to engage in
expansionary activities that requires prior Board approval or non-
objection would continue to be reviewed under applicable statutory
factors, including, in certain instances, how such proposals would
impact competition and financial stability.\35\ Further, while certain
firms with a single Deficient-1 component rating would no longer be
statutorily limited from engaging in new activities and acquisitions
permissible only for ``well managed'' firms without Board approval, the
Federal Reserve will consider specific concerns underlying a Deficient-
1 component rating in evaluating any application from a firm to engage
in new or expansionary activities to the extent those concerns are
relevant to the evaluation of a particular statutory factor.
---------------------------------------------------------------------------
\35\ See, e.g., 12 U.S.C. 1842(c); 12 U.S.C. 1843(j)(2).
---------------------------------------------------------------------------
In addition, the final notice better aligns the Frameworks with
supervisory rating systems that apply to other banking organizations,
none of which determine a firm's composite rating, which is relevant to
its ``well managed'' status, based solely on a single component rating.
Further, most large firms evaluated under the Frameworks are subject to
additional regulatory requirements that are not applicable to smaller
firms.\36\ Certain enhanced regulatory requirements are considered when
determining a firm's rating under the Frameworks.
---------------------------------------------------------------------------
\36\ See e.g., 12 CFR 252.
---------------------------------------------------------------------------
Arbitrary and Capricious. One commenter claimed that the proposal
is arbitrary and capricious and contrary to the APA, describing the
Board's analysis as cursory in nature and asserting that it fails to
adequately support the substance of the proposal. In particular, the
commenter noted that the Board failed to offer an analysis of the
competitive effects of the proposal on small-business and agricultural
lending. The rulemaking record, including the additional analysis in
Section III of this final notice, demonstrates analysis of the proposal
and final notice that is consistent with the requirements of the APA.
Timing Considerations. The Board received several comments related
to the effective date of the revisions. Some commenters supported quick
adoption of the proposal. Another commenter requested clarification on
the effective date. One commenter requested the Board extend the
comment period. The Board notes that the proposal's comment period was
30 days, which satisfies the requirements of the APA. The limited
changes contemplated by the proposal, and the fact that the request for
an extension was submitted in conjunction with other substantive
comments regarding the proposal, indicate that the Board provided
sufficient time for public consideration and comment. As noted above,
the effective date for the final notice is November 17, 2025.
Comments Outside the Scope of the Proposal. Some commenters
suggested potential changes to the Frameworks that were outside the
scope of the proposal. For instance, many commenters suggested changes
to other aspects of Board supervision and other supervisory rating
systems. As mentioned in the proposal, the Board plans to consider more
comprehensive changes to supervisory rating systems, including the
Frameworks, that apply to Federal Reserve-supervised institutions in
the future. As part of these efforts, the Board will consider the
additional potential changes submitted by commenters including comments
related to changes to the examination process and the process for
issuing and rescinding 4(m) agreements.
Composite Rating. In the proposal, the Board included questions
regarding
[[Page 51334]]
whether a composite rating should be added to the Frameworks. The Board
did not receive any comments that supported implementing a composite
rating and several commenters put forth arguments against inclusion of
a composite rating. Therefore, the Board is not adding a composite
rating to the Frameworks. The revisions ensure that ``well managed''
determinations take a comprehensive approach and reflect the overall
strength of a firm across the three components.
Insurance Supervisory Framework. While the Board did not receive
any comments specific to the Insurance Supervisory Framework, the Board
recognizes that some comments may be relevant to the Insurance
Supervisory Framework. Accordingly, the Board has considered such
comments in the context of the Insurance Supervisory Framework and is
finalizing the revisions to the Frameworks largely without change.
B. LFI Framework Definition of ``Well Managed''
The proposal would have revised the LFI Framework such that a firm
with at least two Broadly Meets Expectations or Conditionally Meets
Expectations component ratings and no more than one Deficient-1
component rating would be considered ``well managed'' under the LFI
Framework. A firm would not have been considered ``well managed'' under
the LFI Framework if it received a Deficient-1 for two or more
component ratings. A firm would also not have been considered ``well
managed'' under the LFI Framework if it received a Deficient-2 for any
of the component ratings.
Several commenters supported the proposal's changes to the ``well
managed'' definition, whereas other commenters opposed such changes.
Commenters that supported the changes noted their agreement with
certain rationales included in the proposal. Commenters that opposed
the changes stated the changes would negatively impact safety and
soundness and would decrease incentives for firms to resolve
outstanding deficiencies, eroding the deterrent value of supervision.
Specifically, some commenters opposed the proposal's changes to the
``well managed'' definition, claiming that the proposal was
inconsistent with the BHC Act.\37\ Certain commenters stated that the
definition of ``well managed'' in the proposal was more permissive than
a CAMELS composite rating of 2.\38\ One commenter noted that the
Deficient-1 rating, which signifies that a holding company ``is unable
to remediate deficiencies in the normal course of business,'' is
inconsistent with the definition of a CAMELS composite rating of 2,
which states that only ``moderate weaknesses are present and are well
within the board of directors' and management's capabilities and
willingness to correct.'' This commenter further stated that the
presence of a Deficient-1 rating was inconsistent with the CAMELS
composite rating of 2 which states that a firm is ``in substantial
compliance with laws and regulations.'' Other commenters stated that
the Governance and Controls component rating is effectively a
management rating and so would need to be satisfactory for a firm to be
``well managed'' under the BHC Act. However, another commenter
disagreed, noting the proposal was consistent with the BHC Act.
---------------------------------------------------------------------------
\37\ One commenter raised a separate legal concern, stating that
the proposal would be inconsistent with the requirement that
``comparable'' capital and management standards be applied to a
foreign bank that operates a branch in the United States under the
principle of national treatment. The Board considers the revisions
to be consistent with 12 U.S.C. 1843(l)(3).
\38\ Supra note 11.
---------------------------------------------------------------------------
After considering the relevant comments, the Board is finalizing
the changes to the ``well managed'' definition as proposed. The
revisions reflect experience with the LFI Framework since its
introduction in 2018. This experience demonstrates that a firm that has
a Deficient-1 rating in an individual component while maintaining a
rating of Broadly Meets Expectations or Conditionally Meets
Expectations in its other two components would generally have
sufficient financial and operational strength and resilience to
maintain safe and sound operations through a range of conditions due to
its overall robustness. These revisions will result in the LFI
Framework more appropriately reflecting the financial and operational
strength and resilience of firms subject to the LFI Framework. As
discussed in the Board's November 2024 Supervision and Regulation
Report, most banks are well capitalized; liquidity and funding
conditions are stable compared to 2023; and asset quality generally
remains sound.\39\ Likewise, the results of the Federal Reserve Board's
2025 annual bank stress test show that large banks are well positioned
to weather a severe recession, while staying above minimum capital
requirements and continuing to lend to households and businesses.\40\
The revisions will also align the application of the LFI Framework more
closely with the operation of other existing supervisory rating
systems.
---------------------------------------------------------------------------
\39\ Board of Governors of the Federal Reserve System,
Supervision and Regulation Report (Nov. 2024), <a href="https://www.federalreserve.gov/publications/files/202411-supervision-and-regulation-report.pdf">https://www.federalreserve.gov/publications/files/202411-supervision-and-regulation-report.pdf</a>.
\40\ Board of Governors of the Federal Reserve System, 2025
Federal Reserve Stress Test Results (June 2025), <a href="https://www.federalreserve.gov/publications/files/2025-dfast-results-20250627.pdf">https://www.federalreserve.gov/publications/files/2025-dfast-results-20250627.pdf</a>.
---------------------------------------------------------------------------
The proposal noted that potential costs of the revisions might
include a slight increase in risk-taking and that firms may be
marginally less incentivized to remediate single Deficient-1 component
ratings. However, the possibility of losing ``well managed'' status due
to a further rating decline to Deficient-2 provides an incentive to
address deficiencies promptly. Moreover, supervisors will continue to
monitor the remediation of supervisory issues and retain the ability to
impose enforcement actions when appropriate.
Additionally, the proposal and final notice are consistent with the
BHC Act. Consistent with the CAMELS framework, the revisions allow for
a firm with a less than satisfactory component rating to be considered
``well managed'' if other component ratings are satisfactory. For
example, under the CAMELS framework, a firm may receive one or more
component ratings of 3 (less than satisfactory) and still achieve a
composite rating of 2.\41\ The CAMELS framework contemplates that a
firm may be fundamentally sound despite potential deficiencies in
individual component ratings.\42\ Additionally, the Board explained in
the proposal that a Deficient-1 component rating can be indicative of a
discrete deficiency. Such a deficiency may not indicate material non-
compliance with law or regulation.
---------------------------------------------------------------------------
\41\ See SR 96-38, Uniform Financial Institutions Rating System
(Dec. 27, 1996) (defining firms with a composite 2 rating as being
``fundamentally sound,'' that generally have ``no component rating
more severe than 3'').
\42\ For example, a 3 rating in liquidity may evidence a ``lack
ready access to funds on reasonable terms'' or ``significant
weaknesses in funds management practices.'' Id.
---------------------------------------------------------------------------
The Governance and Controls component is not a ``management''
rating and the LFI Framework has never contained a management rating.
When adopting the LFI Framework in 2018, the Board explained that the
LFI Framework would not designate any of the three component ratings as
a ``management'' rating because each component includes an evaluation
of aspects that are relevant to a firm's management. For example, in
evaluating the Capital Planning and Positions component rating under
the LFI Framework, examiners should consider
[[Page 51335]]
aspects of management such as the extent to which a firm maintains
sound capital planning practices through effective governance and
oversight; effective risk management and controls; and maintenance of
updated capital policies and contingency plans for addressing potential
shortfalls. In contrast, the Capital component rating in CAMELS
includes a more limited evaluation of management considerations.\43\
---------------------------------------------------------------------------
\43\ With respect to the Capital component rating in CAMELS, it
is stated that examiners should consider the ``ability of management
to address emerging needs for additional capital.''
---------------------------------------------------------------------------
Accordingly, allowing firms with a single Deficient-1 rating in
Governance and Controls (and at least a Conditionally Meets
Expectations rating in the other two components) to be ``well managed''
is consistent with the BHC Act, as Governance and Controls is not a
management rating. A Deficient-1 rating in Governance and Controls
would not reflect management deficiencies to the same extent that a
component rating of 3 for Management would under the CAMELS framework,
as key aspects of a firm's management would not be incorporated into
the Governance and Controls rating.
C. LFI Framework Enforcement Action Presumption
The proposal would have removed the presumption in the LFI
Framework that firms with one or more Deficient-1 component ratings
will be subject to a formal or informal enforcement action. Instead,
under the proposal, a firm with one or more Deficient-1 component
ratings may be subject to a formal or informal enforcement action,
depending on particular facts and circumstances. The proposal
maintained a presumption that the Board would impose a formal
enforcement action on a firm with one or more Deficient-2 component
ratings.
Commenters were mixed on their support for removing the enforcement
presumption. One commenter stated that the presence of an enforcement
action presumption is inconsistent with a CAMELS composite 2 rating.
Another commenter stated that a presumption of an enforcement action on
a firm due to its receipt of a Deficient-1 rating is inconsistent with
the legal standard of an ``unsafe and unsound practice'' under the
Federal Deposit Insurance Act (FDIA), because a Deficient-1 rating is
meant to indicate ``issues that put the firm's prospects for remaining
safe and sound through a range of conditions at significant risk'' and
that ``the firm's current condition is not considered to be materially
threatened.''
In contrast, several commenters expressed concern that removing the
enforcement presumption for firms with Deficient-1 ratings would weaken
the incentive for banks to correct problems identified by examiners.
Another commenter stated that the failure of SVB demonstrates that
firms should be required to quickly remediate their identified
supervisory issues and that the proposal would not achieve this.
After considering all comments, the Board is finalizing the changes
to the enforcement action presumption as proposed. The revisions remove
the enforcement presumption for firms with one or multiple Deficient-1
ratings \44\ and instead note that enforcement actions will be
considered on a case-by-case basis depending on relevant facts and
circumstances. Such an approach is generally consistent with the
Board's practices when issuing an enforcement action to firms subject
to other ratings frameworks.\45\ The Board will continue only to take
formal and informal enforcement actions if the relevant standards are
met.\46\
---------------------------------------------------------------------------
\44\ There have been instances where the Board previously did
not take formal and informal enforcement actions when Deficient-1
ratings were issued due to the particular relevant facts and
circumstances underlying the issue resulting in the Deficient-1
rating.
\45\ For example, the Board has previously explained that firms
with a composite 3 rating under the CAMELS framework, ``require more
than normal supervision, which may include formal or informal
enforcement actions.'' See SR Letter 96-38, Uniform Financial
Institutions Rating System (Dec. 27, 1996), <a href="https://www.federalreserve.gov/boarddocs/srletters/1996/sr9638.htm">https://www.federalreserve.gov/boarddocs/srletters/1996/sr9638.htm</a>.
\46\ 12 U.S.C. 1818.
---------------------------------------------------------------------------
As noted above, under the revisions, firms still need to promptly
resolve outstanding deficiencies. Moreover, supervisors will continue
to monitor the remediation of supervisory issues and retain the ability
to impose a formal or informal enforcement action for firms with
Deficient-1 ratings, as appropriate, depending on relevant facts and
circumstances.
D. Insurance Supervisory Framework Definition of ``Well Managed'' and
Enforcement Action Presumption
The proposal would have made parallel changes to the ``well
managed'' determination under the Insurance Supervisory Framework, such
that a firm with at least two Broadly Meets Expectations or
Conditionally Meets Expectations component ratings and no more than one
Deficient-1 component rating would have been considered ``well
managed'' under the Insurance Supervisory Framework. Under the
proposal, a firm would not have been considered ``well managed'' under
the Insurance Supervisory Framework if it received a Deficient-1 rating
for two or more component ratings. A firm would continue not to be
considered ``well managed'' under the Insurance Supervisory Framework
if it received a Deficient-2 rating for any of the component ratings.
Additionally, the proposal made parallel changes to the Insurance
Supervisory Framework to remove the presumption that firms with one or
more Deficient-1 component ratings would be subject to an enforcement
action. Instead, under the proposal, firms subject to the Insurance
Supervisory Framework with one or more Deficient-1 component ratings
may be subject to a formal or informal enforcement action, depending on
particular facts and circumstances. The proposal maintained the
presumption that a firm with one or more Deficient-2 component ratings
would be subject to a formal enforcement action by the Board.
While the Board did not receive any comments specific to the
Insurance Supervisory Framework, the Board considered relevant comments
in the supervised insurance organization context and is finalizing as
proposed the changes to the ``well managed'' definition and enforcement
action presumption under the Insurance Supervisory Framework.
E. Changes to Appendix B: Framework for the Supervision of Insurance
Organizations
This final notice makes minor changes to Appendix B: Framework for
the Supervision of Insurance Organizations by updating certain
references, including by removing a reference to reputational risk in
its description of model risk. The Board has made clear that
reputational risk is no longer a component that will be considered in
examination programs and that this concept will be removed from
supervisory materials.\47\ Safety and soundness concerns that motivated
the Board's prior inclusion of reputational risk in supervision are
adequately addressed through other existing risk types.
---------------------------------------------------------------------------
\47\ See Board of Governors of the Federal Reserve System,
``Federal Reserve Board announces that reputational risk will no
longer be a component of examination programs in its supervision of
banks'' (June 23, 2025), available at <a href="https://www.federalreserve.gov/newsevents/pressreleases/bcreg20250623a.htm">https://www.federalreserve.gov/newsevents/pressreleases/bcreg20250623a.htm</a>.
---------------------------------------------------------------------------
III. Economic Analysis
As outlined in previous sections, the revisions to the Frameworks
contained in the final notice reflect experience with the LFI Framework
since its
[[Page 51336]]
introduction in 2018; better align the application of the Frameworks
with the operation of the Board's other supervisory rating systems; and
better reflect the financial and operational strength and resilience of
firms subject to the Frameworks. The Board assessed the economic impact
of the revisions to the Frameworks contained in the final notice on
firms, on supervisory efficiency and efficacy, and on the broader
economy. Specifically, the Board evaluated the potential impact on
firms that will become ``well managed'' and the broader implications of
adopting this change. The Board also evaluated the potential effects of
the Frameworks' elimination of the presumption of enforcement actions
in certain cases.
Additionally, the Board considered comments raised regarding the
economic analysis of the proposal which are discussed in more detail
throughout this section. While some commenters noted limitations in the
economic analysis of the proposal, others thought that the economic
analysis provided clear justification for the proposal.
The revisions to the Frameworks contained in the final notice will
increase the number of firms that are ``well managed'' under the
Frameworks and potentially reduce the number of enforcement actions for
these firms, which have sufficient financial and operational strength
and resilience to maintain safe and sound operations through a range of
stressful conditions. Overall, firms that become ``well managed'' may
face reduced enforcement-related compliance costs and fewer regulatory
impediments to pursue certain activities, including investments in, and
acquisitions of, certain non-bank financial companies.
The economic analysis is structured into four parts. Section III.A
provides an overview of the baseline (that is, the previous
Frameworks), describes the current state of the assignment of ratings,
and discusses how these ratings can affect a firm's ``well managed''
status. Section III.B discusses the revisions to the Frameworks
contained in the final notice, outlines the specific changes being
implemented, and estimates the change in the number of ``well managed''
firms under the final notice. Section III.C analyzes the potential
benefits and costs associated with the changes relative to the
baseline. Section III.D concludes.
A. Baseline
The previous Frameworks (discussed in detail in Section I.A)
establish the baseline for the economic analysis. The Board has
assessed the benefits and costs of the revisions to the Frameworks
contained in the final notice (discussed in detail in Section III.C)
relative to this baseline.
Under the previous Frameworks, a firm whose holding company
received a Deficient-1 or Deficient-2 in any component rating was not
considered ``well managed.'' Furthermore, there was a presumption that
firms with one or more Deficient-1 component ratings would be subject
to a formal or informal enforcement action.
The ability of a banking organization to engage in certain
activities under the BHC Act depends on the ratings of the holding
company and the holding company's depository institution subsidiaries,
which are assigned by the relevant federal banking agency. For
instance, for a bank holding company to qualify as a financial holding
company and engage in certain financial activities, a bank holding
company and all its depository institution subsidiaries must be ``well
capitalized'' and ``well managed.'' Thus, regardless of its LFI
ratings, a U.S. bank holding company may not be able to engage in
certain expansionary activities if any of its subsidiary depository
institutions' management or composite CAMELS rating is 3 or worse. A
foreign banking organization (FBO) that has a combined ROCA (Risk
Management, Operational Controls, Compliance, Asset Quality) rating of
3 or worse for its U.S. branches and agencies is not able to engage in
certain activities under the BHC Act. Additionally, an FBO that has a
combined U.S. operations (CUSO) rating of 3 or worse is similarly
restricted. Thus, as discussed in this section, a ``well managed'' firm
refers to a banking organization where the holding company and all
relevant subsidiaries are ``well managed;'' for FBOs, this means that
their ROCA ratings and CUSO ratings are also at least satisfactory.
For the firms whose holding companies had LFI ratings in the third
quarter of 2025, Figure 1 displays their ratings between the first
quarter of 2020 to the third quarter of 2025 and categorizes them into
three groups. The first category, ``Not Satisfactory DI/FBO Ratings
Only,'' shown in black, represents the number of firms whose depository
institutions' composite or management ratings or whose combined ROCA or
CUSO ratings were 3 or worse and whose holding company had all three
LFI component ratings of either Broadly Meets Expectations or
Conditionally Meets Expectations. The second category, ``Not
Satisfactory LFI Ratings Only,'' shown in dark grey, represents the
number of firms where the holding company had one or more Deficient-1
or Deficient-2 LFI component ratings, but the subsidiary depository
institutions' composite and management ratings and combined ROCA and
CUSO ratings, if applicable, were 1 or 2. The third category, ``Not
Satisfactory LFI and DI/FBO Ratings,'' in light grey color, represents
the number of firms whose subsidiary depository institutions' composite
or management ratings or whose combined ROCA or CUSO ratings, if
applicable, were 3 or worse and whose holding company had one or more
Deficient-1 or Deficient-2 LFI component ratings. As of the third
quarter of 2025, 17 out of 36 firms whose holding companies were
subject to the LFI Framework were classified as not ``well managed'' at
the holding company and/or depository institution <SUP>48 49</SUP>
level.
---------------------------------------------------------------------------
\48\ For FBOs, this includes their ROCA ratings and CUSO
ratings.
\49\ Note that, for comparison purposes, this sample only
includes firms that were subject to the LFI Framework in the third
quarter of 2025. Thus, the number of firms increases throughout the
sample.
---------------------------------------------------------------------------
[[Page 51337]]
[GRAPHIC] [TIFF OMITTED] TN17NO25.002
Figure 1 reveals an increase in the number of not ``well managed''
firms until early 2024, followed by a reversal. Ratings at the holding
company and at the depository institution and FBO level usually
coincide, and both contribute to, a firm being not ``well managed,'' as
demonstrated by the large area of light grey bars. Nevertheless, LFI
ratings alone can result in a non-trivial number of firms being not
``well managed,'' as demonstrated by the dark grey bars. As of the
third quarter of 2025, three firms were not ``well managed'' solely due
to their LFI ratings. Moreover, there were very few instances when a
firm was not ``well managed'' based only on the ratings of its
subsidiaries or U.S. branches and agencies or operations--only eleven
instances in the whole period according to Figure 1--as demonstrated by
the black bars.
In the second quarter of 2025, the average common equity tier 1
capital (CET1) ratio for not ``well managed'' firms subject to the LFI
Framework was approximately 3 percentage points higher compared to
their ``well managed'' peers.\50\ Moreover, between the first quarter
of 2020 and the second quarter of 2025, the average CET1 capital over
standardized approach risk weighted assets of large financial
institutions increased by more than 1 percentage point. This indicates
a potential misalignment between the results of the current LFI
Framework and the financial condition of these firms.\51\ Furthermore,
the associated presumption of an enforcement action in these cases may
have caused the Board to allocate examination, remediation, and
enforcement resources to financially strong firms.
---------------------------------------------------------------------------
\50\ The average CET1 capital over standardized approach risk
weighted assets between the first quarter of 2020 and the second
quarter of 2025 across large financial institutions was
approximately 13.4 percent.
\51\ Accordingly, commenters stated that if the banking system
as a whole is characterized as strong and resilient, the majority of
large banks should not be rated as not ``well managed.''
---------------------------------------------------------------------------
Some commenters challenged the validity of drawing conclusions
based on data over this time period. The only economic recession since
the global financial crisis has been the COVID-19 crisis, which some
commenters asserted is unusual in terms of government intervention and,
therefore, may not be an appropriate time period for analysis.\52\ The
Board notes that it is only possible to analyze the LFI Framework after
its implementation. Although the time period included in the analysis
includes a macroeconomic environment that includes a novel type of
shock, the data used in the analysis provide valuable insights into the
overall economic impact of the proposal.
---------------------------------------------------------------------------
\52\ See National Bureau of Economic Research, ``US Business
Cycle Expansions and Contractions,'' <a href="https://www.nber.org/research/data/us-business-cycle-expansions-and-contractions">https://www.nber.org/research/data/us-business-cycle-expansions-and-contractions</a> (last accessed
September 16, 2025)
---------------------------------------------------------------------------
Some commenters expressed concerns with the Board's discussion on
misalignment between the LFI Framework and the financial condition of
firms subject to the LFI Framework. One commenter noted that, contrary
to the analysis in the proposal, certain measures of capital ratios
have declined in recent years for large firms, tracking the downward
trajectory of LFI ratings. This commenter stated that the leverage
ratio should be used to measure bank capital instead of the risk-
weighted regulatory capital ratio. By contrast, one commenter agreed
with the Board's analysis that the upward trend in the number of firms
being considered not ``well managed'' until 2024 has occurred during a
period when the regulatory capital ratios of large financial
institutions as a group remained generally stable around 13 percent.
Consistent with this comment, research suggests that the risk-weighted
measure better aligns incentives for both efficient lending and risk-
taking during normal times.\53\ Moreover, the leverage ratio is
intended to generally serve as a backstop to risk-based
requirements.\54\
---------------------------------------------------------------------------
\53\ See Greenwood, Robin, Samuel Gregory Hanson, Jeremy C.
Stein & Adi Sunderam. ``Strengthening and Streamlining Bank Capital
Regulation.'' Brookings Papers on Economic Activity (Fall 2017).
\54\ See 90 FR 30780, 30782 (July 10, 2025).
---------------------------------------------------------------------------
Additionally, one commenter noted that Congress requires separate
assessments of whether a firm is ``well managed'' and ``well
capitalized,'' which recognizes that strong capital does not
necessarily indicate competent management. Accordingly, the commenter
claims that the Board's justification of the proposal by pointing to
the capital levels of firms subject to the LFI Framework is flawed, as
[[Page 51338]]
collapsing these statutory requirements contradicts Congressional
intent.
The Board agrees that assessments of whether a banking organization
is ``well managed'' and ``well capitalized'' are separate and distinct.
However, areas of financial strength, including capital and liquidity,
are relevant to a firm's ``well managed'' status, as ``well managed''
firms under the LFI Framework must have ``sufficient financial and
operational strength and resilience to maintain safe and sound
operations through a range of conditions, including stressful ones.''
Thus, a large number of not ``well managed'' firms, despite clear
indications of large firms' financial strength, may suggest a
misalignment between the LFI Framework and the financial and
operational strength and resilience of firms subject to the LFI
Framework. Under the LFI Framework, a firm would need to be
satisfactory with respect to multiple areas of firm management, not
solely capital, to be considered ``well managed.''
B. Revisions to the Frameworks Contained in the Final Notice Relative
to Baseline
As discussed in detail in Section II, the revisions to the
Frameworks contained in the final notice maintain all elements of the
previous Frameworks except for two key changes. These two key changes
are that the criteria for a firm to be ``well managed'' under the
Frameworks are adjusted, and the enforcement action presumption is
modified.
The impact of these revisions will vary depending on the number of
firms whose holding company has a Deficient-1 rating for one component
and a Broadly Meets Expectations or Conditionally Meets Expectations
for the remaining two components. In addition to the direct effect on a
firm's ``well managed'' status, LFI ratings are an input to the CUSO
rating for foreign banking organizations and there might be other
interrelations between ratings that are hard to quantify.\55\
Consequently, assessing the impact of the LFI Framework change alone
and assuming that all other ratings would not be affected might
underestimate the true effect, and thus provides a lower bound.
Conversely, the upper bound of the proposal's effects would be obtained
by computing the number of not ``well managed'' firms as determined by
LFI ratings alone, which assumes that the depository institution or FBO
ratings are not more limiting on the firm than the LFI ratings.
Therefore, the Board calculated the number of not ``well managed''
firms for both the baseline and the revisions to the LFI Framework
contained in the final notice (Revised LFI Framework) under the
following two metrics:
Metric 1: Not ``well managed'' firms under the BHC Act (based on
LFI rating, or bank CAMELS rating, or equivalent for FBOs).
Metric 2: Not ``well managed'' holding companies under the LFI
Framework.
Metric 1 is equivalent to the sum of all 3 categories presented in
Figure 1. Metric 2 corresponds to the sum of two categories ``Not
Satisfactory LFI Ratings Only'' and ``Not Satisfactory LFI and DI/FBO
Ratings'' in Figure 1. Table 1 presents the estimated number of not
``well managed'' firms under both the baseline and the Revised LFI
Framework for both metrics, which uses a sample of all 36 firms subject
to the LFI Framework in the third quarter of 2025.
Table 1--Estimated Number of Not ``Well Managed'' Firms in the Third Quarter of 2025
----------------------------------------------------------------------------------------------------------------
Baseline framework Revised framework
---------------------------------------------------------------
Metric 1 Metric 2 Metric 1 Metric 2
----------------------------------------------------------------------------------------------------------------
Number of Firms................................. 17 17 14 10
----------------------------------------------------------------------------------------------------------------
As of the third quarter of 2025, under the baseline, 17 out of 36
firms would be considered not well managed if LFI ratings and
depository institution/FBO ratings were considered (Metric 1), and 17
out of 36 firms would be considered not well managed if only the LFI
ratings were considered (Metric 2). Under the Revised LFI Framework, 14
out of 36 firms would be not ``well managed'' under Metric 1 and only
10 out of 36 firms would be classified as not ``well managed'' under
Metric 2 considering the LFI ratings only. The expected effect of the
revisions to the LFI Framework contained in the final notice likely
lies between Metric 1 and Metric 2. On one hand, Metric 1 may
underestimate the impact of the proposal when viewed over time due to
potential future changes to ratings at the depository institution/FBO
level and the fact that LFI ratings are an input to CUSO ratings for
foreign banking organizations.\56\ On the other hand, Metric 2
overestimates the impact by not considering any ratings other than the
LFI ratings. Overall, these results imply that the final notice would
change the ``well managed'' status of firms subject to the LFI
Framework in the near term by between 3 and 7 firms. Figure 2
illustrates the share of not ``well managed'' firms under the baseline
and the Revised LFI Framework over time, using either Metric 1 (left
panel) or Metric 2 (right panel). The share increased between the first
quarter of 2020 to the third quarter of 2025, with a notable and sharp
increase in 2023.
---------------------------------------------------------------------------
\55\ See 83 FR 58724, 58727 (Nov. 21, 2018) (``[T]he LFI rating
assigned to the U.S. IHC would be an input into the rating of the
combined U.S. operations of a foreign bank.'').
\56\ 83 FR 58724 (Nov. 21, 2018).
---------------------------------------------------------------------------
Figure 2 documents that the estimated impact, under both metrics,
is not driven by the choice of using the third quarter of 2025 data to
evaluate the change. In fact, across the sample period, the revisions
to the LFI Framework contained in the final notice under both Metric 1
and Metric 2 would have consistently resulted in a smaller share of
firms that are not ``well managed.''
[[Page 51339]]
[GRAPHIC] [TIFF OMITTED] TN17NO25.003
Likewise, of the 4 firms subject to the Insurance Supervisory
Framework as of the third quarter of 2025, 1 of these firms will become
``well managed'' under the revisions to the Insurance Supervisory
Framework contained in the final notice.
---------------------------------------------------------------------------
\57\ Note that, for comparison purposes, this sample only
includes firms that were subject to the LFI Framework in the third
quarter of 2025. Thus, the number of firms increases throughout the
sample.
---------------------------------------------------------------------------
C. Analysis of Benefits and Costs
This section assesses the benefits and costs of the revisions to
the Frameworks contained in the final notice relative to the baseline.
The consequences of modifying the Frameworks primarily stem from
allocating supervisory resources more efficiently and from potentially
altering a firm's ``well managed'' status and the subsequent
implications, as well as modifying the enforcement action presumption.
The previous section estimated that the number of impacted firms
stemming from the revisions to the LFI Framework will be between 3 and
7 out of 36, using the third quarter of 2025 as the baseline. Further,
under the revisions to the Insurance Supervisory Framework contained in
the final notice, 1 firm will become ``well managed'' out of 4 firms
subject to the Insurance Supervisory Framework. Therefore, the benefits
and costs of the proposed changes that are discussed below will
materialize in part for those firms and more broadly, over the long
run, through revised rating frameworks that align ratings more closely
with the financial condition of the supervised firms.
1. Benefits
a. Supervisory Efficiency and Efficacy
The revisions to the Frameworks contained in the final notice
remove the presumption that firms with one or more Deficient-1
component ratings will be subject to a formal or informal enforcement
action. They also change the definition of ``well managed'' to better
reflect the firms' overall condition and to align with other
supervisory rating frameworks, as described above. This alignment
across frameworks and reflection of firms' overall condition could lead
to more consistent and effective supervision.
The changes could also allow supervisors to allocate resources more
efficiently, concentrating on significant risks, and thus enhancing
overall supervision. For instance, the removal of the presumption in
the Frameworks that firms with one or more Deficient-1 component
ratings will be subject to a formal or informal enforcement action
could provide supervisory teams with the ability to more efficiently
allocate resources based on the severity of the issues that are
identified and the needed remediation.
One commenter asserted that less burden on supervisors was not
worth the impact on safety and soundness. As discussed in Section II.A,
the Frameworks will still allow supervisors to communicate concerns
about risks and assign ratings based on the level of supervisory
concern. Further, supervisors will retain the ability to impose a
formal or informal enforcement action for firms with Deficient-1
ratings, as appropriate, depending on relevant facts and circumstances.
The Board will continue only to take formal and informal enforcement
actions if the relevant standards are met.\58\
---------------------------------------------------------------------------
\58\ 12 U.S.C. 1818.
---------------------------------------------------------------------------
b. Reduction of Compliance Costs and Other Impediments to Growth
Firms that become ``well managed'' as a result of this final notice
may experience reduced compliance costs and associated burdens on
management resulting from removing the presumption of certain
enforcement actions. This reduction in enforcement-related expenses and
efforts could enable institutions to invest more resources in core
business operations. Consequently, this reallocation of resources has
the potential to promote innovation and growth, as firms may have
increased capacity to develop new products, services, or technologies
that benefit consumers and the broader economy. It could also permit
them to focus more managerial attention on tackling business
challenges, thus supporting the financial intermediation activities of
these firms.
Between the first quarter of 2020 and the third quarter of 2025,
following the implementation of the LFI Framework, the Board estimates
that the loss of ``well managed'' status was associated with slower
growth in assets and loans. Figure 3 shows that the average growth rate
in total assets one year before the loss of ``well managed'' status
(pre) is about 3.5 percent, smaller than the yearly average growth rate
of firms that were always ``well managed'' throughout the sample
(control) of approximately 6.7 percent. By contrast, in the year after
a ratings downgrade that results in a firm becoming not ``well
managed'' (post), growth in total assets dropped by more than two
thirds to
[[Page 51340]]
about 1.1 percent. The same findings hold true for growth in total
loans. Taken together, this analysis indicates that the revisions to
the LFI Framework contained in the final notice have the potential to
promote growth at firms that become ``well managed.'' Moreover, as
fewer firms that have sufficient financial and operational strength and
resilience to maintain safe and sound operations through a range of
conditions due to their overall robustness will be classified as not
``well managed'' in the future due to these changes, the changes
contained in the final notice could bolster the overall growth of large
banking organizations and thus foster economic activity.
[GRAPHIC] [TIFF OMITTED] TN17NO25.004
While the analysis indicates a decrease in the growth of total
assets and total loans as a firm moves to not ``well managed,'' the
observed decline may reflect multiple factors beyond just the loss of
``well managed'' status. These factors could include underlying issues
that contributed to the downgrade, such as deteriorating performance or
governance challenges. Moreover, it is possible that the remediation
efforts required to address the issues that led to the supervisory
downgrade could be a driver of the observed slower growth, even before
the status change.
---------------------------------------------------------------------------
\59\ This figure plots the unweighted average growth in total
assets and total loans for firms which were downgraded to not ``well
managed'' between the first quarter of 2020 and the third quarter of
2025 in the one year before (pre) and one year after (post) the
change. For comparison, the yearly unweighted average growth rate of
firms which were always ``well managed'' throughout the sample
(control group) were computed. A red dashed vertical line separates
the control and treated groups.
---------------------------------------------------------------------------
Some commenters agreed with the finding in the proposal that the
loss of ``well managed'' status is associated with a decline in the
growth of an institution's total assets and total loans, as firms have
been limited in their ability to make new investments or acquisitions,
expand their products, services or branch networks, and carry out
internal reorganizations. Other commenters stated that rapid bank
growth is not necessarily desirable, as certain research suggests rapid
bank growth has been associated with a higher likelihood of distress,
particularly when the growth is fueled by mergers or acquisitions.\60\
Some research suggests that certain forms of growth fueled by mergers
and acquisitions, such as asset purchases and sales, generate
shareholder value and improve the allocative efficiency of capital.\61\
Furthermore, the revisions to the Frameworks contained in the final
notice are designed to remove an impediment to growth for firms that
have the financial and operational strength and resilience to maintain
safe and sound operations through a range of conditions, including
stressful ones. As the final notice does not change the criteria for
determining a firm's component ratings, firms that grow in a manner
that poses risks to safety and soundness will be assigned component
ratings that reflect that risk.
---------------------------------------------------------------------------
\60\ See W. Scott Frame, Ping McLemore & Atanas Mihov, Federal
Reserve Bank of Dallas, ``Haste Makes Waste: Banking Organization
Growth and Operational Risk'' at 2 (Aug. 2020), <a href="https://www.dallasfed.org/-/media/documents/research/papers/2020/wp2023.pdf">https://www.dallasfed.org/-/media/documents/research/papers/2020/wp2023.pdf</a>.
\61\ See Missaka Warusawitharana, ``Corporate asset purchases
and sales: Theory and evidence,'' 87 Journal of Financial Economics
471, 471-497 (Feb. 2008), <a href="https://doi.org/10.1016/j.jfineco.2007.02.005">https://doi.org/10.1016/j.jfineco.2007.02.005</a>.
---------------------------------------------------------------------------
Under the revisions to the Frameworks contained in the final
notice, more firms with sufficient financial and operational strength
and resilience to maintain safe and sound operations through a range of
conditions will be able to engage in certain business initiatives and
strategic opportunities without obtaining prior Board approval due to
the changes to the ``well managed'' criteria, as permitted by statute.
Besides the reduction in enforcement-related compliance costs for these
firms, these activities can also promote stronger growth via economies
of scale.\62\ As institutions grow larger, they can spread fixed
costs--such as technology
[[Page 51341]]
investments, compliance infrastructure, and branch operations--over a
broader and larger base of customers and assets, potentially improving
operational efficiency.
---------------------------------------------------------------------------
\62\ See David C. Wheelock & Paul W. Wilson, ``The Evolution of
Scale Economies in US Banking,'' 33 Journal of Applied Economics 16,
16-28 (June 2017), <a href="https://doi.org/10.1002/jae.2579">https://doi.org/10.1002/jae.2579</a>.
---------------------------------------------------------------------------
The revisions to the Frameworks contained in the final notice could
also make it easier for firms that meet the required standards of
strength and resilience to expand into non-bank financial activities,
which can generate economies of scope and increase opportunities for
innovation. By expanding into new markets and business areas, firms
could realize significant synergies from integrating banking,
investment, and technology-based services. Encouraging firms'
engagement with innovative financial sectors could also significantly
enhance consumer access to a broader range of financial services. For
example, investments in fintech could not only foster technological
advancement but also contribute to broader financial sector
resilience.\63\ Consumers and businesses might benefit from lower costs
due to these investments, along with synergies and operational
efficiencies stemming from potential investments in, or acquisitions
of, non-bank financial companies. Simultaneously, firms could diversify
revenue streams beyond traditional banking activities, which could
enhance financial stability by reducing their reliance on particular
business lines.
---------------------------------------------------------------------------
\63\ See Emma Li et al., ``Banks' investments in fintech
ventures,'' 149 Journal of Banking & Finance 106754, 106754-97 (Oct.
2022), <a href="https://dx.doi.org/10.2139/ssrn.3979248">https://dx.doi.org/10.2139/ssrn.3979248</a>.
---------------------------------------------------------------------------
Some commenters questioned whether reduced compliance costs leading
to greater growth, investment, and economics of scale should be
considered a benefit of the proposal, noting that poorly managed firms
become riskier as they grow and are more likely to fail. Additionally,
one commenter contended that the purpose of Board supervision was to
encourage safety and soundness, not innovation or growth. As previously
discussed, the Board emphasizes that the Frameworks will still allow
supervisors to communicate concerns about risks and assign ratings
based on the level of supervisory concern. The changes in the final
notice will continue to support safety and soundness objectives, while
also allowing for robust innovation, which facilitates growth more
broadly.
Additionally, one commenter expressed that diversification by firms
subject to the LFI Framework would increase systemic vulnerabilities
due to perceived linkages, increasing the potential for negative
spillover effects from distress at one firm to others, even if the firm
ultimately remained solvent.\64\ Another commenter noted that
operational risk due to increased complexity may rise with the size of
a firm. Complexity and scale do carry risks as well as benefits, and
the changes contained in this final notice balance these risks and
benefits by amending the definition of ``well managed'' to account for
a firm's overall financial condition.
---------------------------------------------------------------------------
\64\ See Andrew Hawley & Marco Migueis, FRB, FEDS Notes:
Measuring the systemic importance of large US banks (Sept. 2021),
<a href="https://www.federalreserve.gov/econres/notes/feds-notes/measuring-the-systemic-importance-of-large-us-banks-20210930.html">https://www.federalreserve.gov/econres/notes/feds-notes/measuring-the-systemic-importance-of-large-us-banks-20210930.html</a>. See also
Amy G. Lorenc & Jeffery Y. Zhang, Board of Governors of the Federal
Reserve System, ``The Differential Impact of Bank Size on Systemic
Risk,'' Finance and Economics Discussion Series 2018-066 at 2
(2018), <a href="https://doi.org/10.17016/FEDS.2018.066">https://doi.org/10.17016/FEDS.2018.066</a>.
---------------------------------------------------------------------------
In addition, a commenter stated that the Board overstates the
purported benefits of the proposal because the Board has never revoked
financial holding company status.\65\ However, other commenters noted
that the loss of ``well managed'' status hampers firms' ability to
innovate, be competitive, create economic growth, and serve their
customers. The Board notes that a firm's ``well managed'' status may
have relevance separate and apart from a firm's financial holding
company status.\66\ Furthermore, firm activities can be limited by
supervisory actions apart from loss of financial holding company
status.
---------------------------------------------------------------------------
\65\ See Jeremy C. Kress, ``Solving Banking's `Too Big to
Manage' Problem,'' 104 Minnesota Law Review 171 (2019).
\66\ See, e.g., 12 U.S.C. 1842(d) and 1843(l); 12 CFR
225.4(b)(6), 225.14, 225.22(a), 225.23;12 CFR 211.9(b),
211.10(a)(14), 211.34; and 12 CFR 223.41.
---------------------------------------------------------------------------
2. Costs
The revisions to the Frameworks contained in the final notice,
while enhancing supervisory efficiency, may result in a slight increase
in risk-taking by firms that have sufficient financial and operational
strength and resilience to maintain safe and sound operations through a
range of conditions. With the removal of the presumption that firms
with one or more Deficient-1 component ratings will be subject to a
formal or informal enforcement action, institutions might be marginally
less incentivized to immediately address issues underlying a single
Deficient-1 component rating.
One commenter stated that the proposal would lower the bar for
large firms to be considered ``well managed'' and would accelerate
consolidation, further concentrating market power and posing
competitive challenges to smaller banks while also exacerbating the
problem of too big to fail institutions. Firms that would no longer
face certain regulatory constraints to undertake expansionary
activities under the proposal could accumulate market share and
increase concentration. Moreover, marginally greater consolidation and
growth of large institutions could concentrate risk within fewer,
larger entities and more complex financial institutions could become
more difficult to manage, monitor, and supervise effectively.\67\
---------------------------------------------------------------------------
\67\ Gary H. Stern & Ron J. Feldman, Too Big to Fail: The
Hazards of Bank Bailouts (Forward by Paul A. Volcker) (Brookings
Institution Press, 2009).
---------------------------------------------------------------------------
Notwithstanding, these risks are likely to be small, as firms with
a Deficient-1 rating may still receive specific supervisory findings in
the form of Matters Requiring Attention or Matters Requiring Immediate
Attention, which would detail issues that need to be remediated.
Furthermore, the possibility of becoming not ``well managed'' due to a
further rating decline to Deficient-2 could provide an incentive for
firms to address potential deficiencies.\68\ Importantly, supervisors
will continue to monitor the remediation of supervisory issues and
retain the ability to impose enforcement actions where necessary, thus
limiting this cost and ensuring that these issues are resolved in an
appropriate timeframe. Further, as noted above, an application to
engage in expansionary activities that require prior Board approval or
non-objection would continue to be reviewed under applicable statutory
factors, including, in certain instances, how such proposals would
impact competition and financial stability.\69\
---------------------------------------------------------------------------
\68\ For firms subject to the Insurance Supervisory Framework,
the possibility of losing ``well managed'' status due to further
rating decline to Deficient-2 provides an incentive to address
potential deficiencies promptly given the potential impact on their
ability to engage in insurance underwriting activities.
\69\ See, e.g., 12 U.S.C. 1842(c); 12 U.S.C. 1843(j)(2).
---------------------------------------------------------------------------
D. Conclusion
The revisions to the Frameworks contained in the final notice could
alleviate constraints faced by large financial institutions and
supervised insurance organizations arising from the current
requirements for a firm to be considered ``well managed.'' By enabling
firms to potentially realize economies of scale and scope, the
revisions to the Frameworks could enhance operational efficiency and
promote financial innovation. Supervisors retain appropriate tools to
address a potential increase in risk-taking by firms. Taken together,
the Board expects that the benefits of the
[[Page 51342]]
changes to the Frameworks contained in the final notice justify the
costs.
IV. Administrative Law Matters
A. Solicitation of Comments and Use of Plain Language
Section 722 of the Gramm-Leach-Bliley Act \70\ requires the Federal
banking agencies to use plain language in all proposed and final rules
published after January 1, 2000. The Board received no comments on
these matters and believes that the final notice is written plainly and
clearly.
---------------------------------------------------------------------------
\70\ Public Law 106-102, sec. 722, 113 Stat. 1338, 1471 (1999),
12 U.S.C. 4809.
---------------------------------------------------------------------------
B. Paperwork Reduction Act
There is no collection of information required by the final notice
that would be subject to the Paperwork Reduction Act of 1995.\71\
---------------------------------------------------------------------------
\71\ 44 U.S.C. 3501 et seq.
---------------------------------------------------------------------------
C. Regulatory Flexibility Act
The Regulatory Flexibility Act (RFA) generally requires an agency
to conduct an initial regulatory flexibility analysis (IRFA) and a
final regulatory flexibility analysis (FRFA) of any rule subject to
notice-and-comment rulemaking requirements, unless the head of the
agency certifies that the rule will not, if promulgated, have a
significant economic impact on a substantial number of small
entities.\72\ The final notice would not impose any obligations on
regulated entities, and regulated entities would not need to take any
action in response to the final notice. The Board certifies that the
final notice will not have a significant economic impact on a
substantial number of small entities.\73\
---------------------------------------------------------------------------
\72\ 5 U.S.C. 601-612.
\73\ 5 U.S.C. 605(b).
---------------------------------------------------------------------------
D. Riegle Community Development and Regulatory Improvement Act of 1994
Pursuant to section 302(a) of the Riegle Community Development and
Regulatory Improvement Act (RCDRIA),\74\ in determining the effective
date and administrative compliance requirements for new regulations
that impose additional reporting, disclosure, or other requirements on
insured depository institutions (IDIs), each Federal banking agency
must consider, consistent with principles of safety and soundness and
the public interest, any administrative burdens that such regulations
would place on depository institutions, including small depository
institutions, and customers of depository institutions, as well as the
benefits of such regulations. In addition, section 302(b) of RCDRIA
requires new regulations and amendments to regulations that impose
additional reporting, disclosures, or other new requirements on IDIs
generally to take effect on the first day of a calendar quarter that
begins on or after the date on which the regulations are published in
final form.\75\ The Board has determined that the final notice would
not impose additional reporting, disclosure, or other requirements on
IDIs; therefore, the requirements of the RCDRIA do not apply.
---------------------------------------------------------------------------
\74\ 12 U.S.C. 4802(a).
\75\ 12 U.S.C. 4802.
---------------------------------------------------------------------------
This Appendix A and Appendix B will not publish in the CFR.
Appendix A--Text of Proposed Large Financial Institution Rating System
A. Overview
Each large financial institution (LFI) is expected to ensure
that the consolidated organization (or the combined U.S. operations
in the case of foreign banking organizations), including its
critical operations and banking offices, remains safe and sound and
in compliance with laws and regulations, including those related to
consumer protection.\76\ The LFI rating system provides a
supervisory evaluation of whether a covered firm possesses
sufficient financial and operational strength and resilience to
maintain safe and sound operations through a range of conditions,
including stressful ones.\77\ The LFI rating system applies to bank
holding companies with total consolidated assets of $100 billion or
more; all non-insurance, non-commercial savings and loan holding
companies with total consolidated assets of $100 billion or more;
and U.S. intermediate holding companies of foreign banking
organizations with combined U.S. assets of $50 billion or more
established pursuant to the Federal Reserve's Regulation YY.\78\
---------------------------------------------------------------------------
\76\ See SR Letter 12-17/CA Letter 12-14, ``Consolidated
Supervisory Framework for Large Financial Institutions,'' at <a href="http://www.federalreserve.gov/bankinforeg/srletters/sr1217.htm">http://www.federalreserve.gov/bankinforeg/srletters/sr1217.htm</a>.
Hereinafter, when ``safe and sound'' or ``safety and soundness'' is
used in this framework, related expectations apply to the
consolidated organization and the firm's critical operations and
banking offices.
``Critical operations'' are a firm's operations, including
associated services, functions and support, the failure or
discontinuance of which, in the view of the firm or the Federal
Reserve, would pose a threat to the financial stability of the
United States.
``Banking offices'' are defined as U.S. depository institution
subsidiaries, as well as the U.S. branches and agencies of foreign
banking organizations.
\77\ ``Financial strength and resilience'' is defined as
maintaining effective capital and liquidity governance and planning
processes, and sufficiency of related positions, to provide for the
continuity of the consolidated organization (including its critical
operations and banking offices) through a range of conditions.
``Operational strength and resilience'' is defined as
maintaining effective governance and controls to provide for the
continuity of the consolidated organization (including its critical
operations and banking offices) and to promote compliance with laws
and regulations, including those related to consumer protection,
through a range of conditions.
References to ``financial or operational'' weaknesses or
deficiencies implicate a firm's financial or operational strength
and resilience.
\78\ Total consolidated assets will be calculated based on the
average of the firm's total consolidated assets in the four most
recent quarters as reported on the firm's quarterly financial
reports filed with the Federal Reserve. A firm will continue to be
rated under the LFI rating system until it has less than $95 billion
in total consolidated assets, based on the average total
consolidated assets as reported on the firm's four most recent
quarterly financial reports filed with the Federal Reserve. The
Federal Reserve may determine to apply the RFI rating system or
another applicable rating system in certain limited circumstances.
---------------------------------------------------------------------------
The LFI rating system is designed to:
<bullet> Fully align with the Federal Reserve's current
supervisory programs and practices, which are based upon the LFI
supervision framework's core objectives of reducing the probability
of LFIs failing or experiencing material distress and reducing the
risk to U.S. financial stability;
<bullet> Enhance the clarity and consistency of supervisory
assessments and communications of supervisory findings and
implications; and
<bullet> Provide transparency related to the supervisory
consequences of a given rating.
The LFI rating system is comprised of three components:
<bullet> Capital Planning and Positions: An evaluation of (i)
the effectiveness of a firm's governance and planning processes used
to determine the amount of capital necessary to cover risks and
exposures, and to support activities through a range of conditions
and events; and (ii) the sufficiency of a firm's capital positions
to comply with applicable regulatory requirements and to support the
firm's ability to continue to serve as a financial intermediary
through a range of conditions.
<bullet> Liquidity Risk Management and Positions: An evaluation
of (i) the effectiveness of a firm's governance and risk management
processes used to determine the amount of liquidity necessary to
cover risks and exposures, and to support activities through a range
of conditions; and (ii) the sufficiency of a firm's liquidity
positions to comply with applicable regulatory requirements and to
support the firm's ongoing obligations through a range of
conditions.
<bullet> Governance and Controls: An evaluation of the
effectiveness of a firm's (i) board of directors,\79\ (ii)
management of business lines and independent risk management and
controls,\80\ and (iii) recovery planning (only
[[Page 51343]]
for domestic firms that are subject to the Board's Large Institution
Supervision Coordinating Committee (LISCC) Framework).\81\ This
rating assesses a firm's effectiveness in aligning strategic
business objectives with the firm's risk appetite and risk
management capabilities; maintaining effective and independent risk
management and control functions, including internal audit;
promoting compliance with laws and regulations, including those
related to consumer protection; and otherwise planning for the
ongoing resiliency of the firm.\82\
---------------------------------------------------------------------------
\79\ References to ``board'' or ``board of directors'' in this
framework includes the equivalent to a board of directors, as
appropriate, as well as committees of the board of directors or the
equivalent thereof, as appropriate.
At this time, recovery planning expectations only apply to
domestic bank holding companies subject to the Federal Reserve's
LISCC supervisory framework. Should the Federal Reserve expand the
scope of recovery planning expectations to encompass additional
firms, this rating will reflect such expectations for the broader
set of firms.
\80\ The evaluation of the effectiveness of management of
business lines would include management of critical operations.
\81\ There are eight domestic firms in the LISCC portfolio: (1)
Bank of America Corporation; (2) Bank of New York Mellon
Corporation; (3) Citigroup, Inc.; (4) Goldman Sachs Group, Inc.; (5)
JP Morgan Chase & Co.; (6) Morgan Stanley; (7) State Street
Corporation; and (8) Wells Fargo & Company. In this guidance, these
eight firms may collectively be referred to as ``domestic LISCC
firms.''
\82\ ``Risk appetite'' is defined as the aggregate level and
types of risk the board and senior management are willing to assume
to achieve the firm's strategic business objectives, consistent with
applicable capital, liquidity, and other requirements and
constraints.
---------------------------------------------------------------------------
B. Assignment of the LFI Component Ratings
Each LFI component rating is assigned along a four-level scale:
<bullet> Broadly Meets Expectations: A firm's practices and
capabilities broadly meet supervisory expectations, and the firm
possesses sufficient financial and operational strength and
resilience to maintain safe-and-sound operations through a range of
conditions. The firm may be subject to identified supervisory issues
requiring corrective action. These issues are unlikely to present a
threat to the firm's ability to maintain safe-and-sound operations
through a range of conditions.
<bullet> Conditionally Meets Expectations: Certain, material
financial or operational weaknesses in a firm's practices or
capabilities may place the firm's prospects for remaining safe and
sound through a range of conditions at risk if not resolved in a
timely manner during the normal course of business.
The Federal Reserve does not intend for a firm to be assigned a
``Conditionally Meets Expectations'' rating for a prolonged period,
and will work with the firm to develop an appropriate timeframe to
fully resolve the issues leading to the rating assignment and merit
upgrade to a ``Broadly Meets Expectations'' rating.
A firm is assigned a ``Conditionally Meets Expectations''
rating--as opposed to a ``Deficient'' rating--when it has the
ability to resolve these issues through measures that do not require
a material change to the firm's business model or financial profile,
or its governance, risk management, or internal control structures
or practices. Failure to resolve the issues in a timely manner would
most likely result in the firm's downgrade to a ``Deficient''
rating, since the inability to resolve the issues would indicate
that the firm does not possess sufficient financial or operational
capabilities to maintain its safety and soundness through a range of
conditions.
It is recognized that completion and validation of remediation
activities for select supervisory issues--such as those involving
information technology modifications--may require an extended time
horizon. In all instances, appropriate and effective risk mitigation
techniques must be utilized in the interim to maintain safe-and-
sound operations under a range of conditions until remediation
activities are completed, validated, and fully operational.
<bullet> Deficient-1: Financial or operational deficiencies in a
firm's practices or capabilities put the firm's prospects for
remaining safe and sound through a range of conditions at
significant risk. The firm is unable to remediate these deficiencies
in the normal course of business, and remediation would typically
require the firm to make a material change to its business model or
financial profile, or its practices or capabilities.
A firm's failure to resolve the issues in a timely manner that
gave rise to a ``Conditionally Meets Expectations'' rating would
most likely result in its downgrade to a ``Deficient'' rating. A
firm with a ``Deficient-1'' rating is required to take timely
corrective action to correct financial or operational deficiencies
and to restore and maintain its safety and soundness and compliance
with laws and regulations, including those related to consumer
protection. Firms with one or more ``Deficient-1'' component ratings
may be subject to an informal or formal enforcement action,
depending on particular facts and circumstances. Two or more
component ratings of ``Deficient-1'' could be a barrier for a firm
seeking Federal Reserve approval to engage in new or expansionary
activities.
<bullet> Deficient-2: Financial or operational deficiencies in a
firm's practices or capabilities present a threat to the firm's
safety and soundness, or have already put the firm in an unsafe and
unsound condition.
A firm with a ``Deficient-2'' rating is required to immediately
implement comprehensive corrective measures, and demonstrate the
sufficiency of contingency planning in the event of further
deterioration. There is a strong presumption that a firm with a
``Deficient-2'' rating will be subject to a formal enforcement
action, and the Federal Reserve would be unlikely to approve any
proposal from a firm with this rating to engage in new or
expansionary activities.
The Federal Reserve will take into account a number of
individual elements of a firm's practices, capabilities, and
performance when making each component rating assignment. The
weighting of an individual element in assigning a component rating
will depend on its impact on the firm's safety, soundness, and
resilience as provided for in the LFI rating system definitions. For
example, for purposes of the Governance and Controls rating, a
limited number of significant deficiencies--or even just one
significant deficiency--noted for management of a single material
business line could be viewed as sufficiently important to warrant a
``Deficient-1'' for the Governance and Controls component rating,
even if the firm meets supervisory expectations under the Governance
and Controls component in all other respects.
Under the LFI rating system, a firm must be rated ``Broadly
Meets Expectations'' or ``Conditionally Meets Expectations'' for
each of the three component ratings (Capital, Liquidity, Governance
and Controls), or rated ``Deficient-1'' in one component and
``Broadly Meets Expectations'' or ``Conditionally Meets
Expectations'' for each of the other two components, to be
considered ``well managed'' in accordance with various statutes and
regulations.\83\ A firm rated ``Deficient-1'' for two or more rating
components or ``Deficient-2'' for any rating component would not be
considered ``well managed,'' which would subject the firm to various
consequences. The Federal Reserve would be unlikely to approve any
proposal from a firm rated ``Deficient-2'' for any rating component
to engage in new or expansionary activities. A firm rated
``Deficient-1'' for two or more rating component would not be
considered ``well managed,'' which would subject the firm to various
consequences. Two or more ``Deficient-1'' ratings could be a barrier
for a firm seeking Federal Reserve approval of a proposal to engage
in new or expansionary activities, unless the firm can demonstrate
that (i) it is making meaningful, sustained progress in resolving
identified deficiencies and issues; (ii) the proposed new or
expansionary activities would not present a risk of exacerbating
current deficiencies or issues or lead to new concerns; and (iii)
the proposed activities would not distract the firm from remediating
current deficiencies or issues. A ``well managed'' firm has
sufficient financial and operational strength and resilience to
maintain safe-and-sound operations through a range of conditions,
including stressful ones.
---------------------------------------------------------------------------
\83\ 12 U.S.C. 1841 et seq. and 12 U.S.C. 1461 et seq. See,
e.g.,12 CFR 225.4(b)(6), 225.14, 225.22(a), 225.23, 225.85, and
225.86; 12 CFR 211.9(b), 211.10(a)(14), and 211.34; and 12 CFR
223.41.
---------------------------------------------------------------------------
C. LFI Rating Components
The LFI rating system is comprised of three component ratings:
\84\
---------------------------------------------------------------------------
\84\ There may be instances where deficiencies or supervisory
issues may be relevant to the Federal Reserve's assessment of more
than one component area. As such, the LFI rating will reflect these
deficiencies or issues within multiple rating components when
necessary to provide a comprehensive supervisory assessment.
---------------------------------------------------------------------------
1. Capital Planning and Positions Component Rating
The Capital Planning and Positions component rating evaluates
(i) the effectiveness of a firm's governance and planning processes
used to determine the amount of capital necessary to cover risks and
exposures, and to support activities through a range of conditions;
and (ii) the sufficiency of a firm's capital positions to comply
with applicable regulatory requirements and to support the firm's
ability to continue to serve as a financial intermediary through a
range of conditions.
In developing this rating, the Federal Reserve evaluates:
<bullet> Capital Planning: The extent to which a firm maintains
sound capital planning practices through effective governance and
oversight; effective risk management and controls; maintenance of
updated capital
[[Page 51344]]
policies and contingency plans for addressing potential shortfalls;
and incorporation of appropriately stressful conditions into capital
planning and projections of capital positions; and
<bullet> Capital Positions: The extent to which a firm's capital
is sufficient to comply with regulatory requirements, and to support
its ability to meet its obligations to depositors, creditors, and
other counterparties and continue to serve as a financial
intermediary through a range of conditions.
Definitions for the Capital Planning and Positions Component Rating
Broadly Meets Expectations
A firm's capital planning and positions broadly meet supervisory
expectations and support maintenance of safe-and-sound operations.
Specifically:
<bullet> The firm is capable of producing sound assessments of
capital adequacy through a range of conditions; and
<bullet> The firm's current and projected capital positions
comply with regulatory requirements, and support its ability to
absorb current and potential losses, to meet obligations, and to
continue to serve as a financial intermediary through a range of
conditions.
A firm rated ``Broadly Meets Expectations'' may be subject to
identified supervisory issues requiring corrective action. However,
these issues are unlikely to present a threat to the firm's ability
to maintain safe-and-sound operations through a range of potentially
stressful conditions.
A firm that does not meet the capital planning and positions
expectations associated with a ``Broadly Meets Expectations'' rating
will be rated ``Conditionally Meets Expectations,'' ``Deficient-1,''
or ``Deficient-2,'' and subject to potential consequences as
outlined below.
Conditionally Meets Expectations
Certain, material financial or operational weaknesses in a
firm's capital planning or positions may place the firm's prospects
for remaining safe and sound through a range of conditions at risk
if not resolved in a timely manner during the normal course of
business.
Specifically, if left unresolved, these weaknesses:
<bullet> May threaten the firm's ability to produce sound
assessments of capital adequacy through a range of conditions; and/
or
<bullet> May result in the firm's projected capital positions
being insufficient to absorb potential losses, comply with
regulatory requirements, and support the firm's ability to meet
current and prospective obligations and to continue to serve as a
financial intermediary through a range of conditions.
The Federal Reserve does not intend for a firm to be rated
``Conditionally Meets Expectations'' for a prolonged period. The
firm has the ability to resolve these issues through measures that
do not require a material change to the firm's business model or
financial profile, or its governance, risk management, or internal
control structures or practices. The Federal Reserve will work with
the firm to develop an appropriate timeframe during which the firm
would be required to resolve each supervisory issue leading to the
``Conditionally Meets Expectations'' rating.
The Federal Reserve will closely monitor the firm's remediation
and mitigation activities; in most instances, the firm will either:
(i) Resolve the issues in a timely manner and, if no new
material supervisory issues arise, be upgraded to a ``Broadly Meets
Expectations'' rating because the firm's capital planning practices
and related positions would broadly meet supervisory expectations;
or
(ii) Fail to resolve the issues in a timely manner and be
downgraded to a ``Deficient-1'' rating, because the inability to
resolve the issues would indicate that the firm does not possess
sufficient financial or operational capabilities to maintain its
safety and soundness through a range of conditions.
It is possible that a firm may be close to completing resolution
of the supervisory issues leading to the ``Conditionally Meets
Expectations'' rating, but new issues are identified that, taken
alone, would be consistent with a ``Conditionally Meets
Expectations'' rating. In this event, the firm may continue to be
rated ``Conditionally Meets Expectations,'' provided the new issues
do not reflect a pattern of deeper or prolonged capital planning or
positions weaknesses consistent with a ``Deficient'' rating.
A ``Conditionally Meets Expectations'' rating may be assigned to
a firm that meets the above definition regardless of its prior
rating. A firm previously rated ``Deficient-1'' may be upgraded to
``Conditionally Meets Expectations'' if the firm's remediation and
mitigation activities are sufficiently advanced so that the firm's
prospects for remaining safe and sound are no longer at significant
risk, even if the firm has outstanding supervisory issues or is
subject to an active enforcement action.
Deficient-1
Financial or operational deficiencies in a firm's capital
planning or positions put the firm's prospects for remaining safe
and sound through a range of conditions at significant risk. The
firm is unable to remediate these deficiencies in the normal course
of business, and remediation would typically require a material
change to the firm's business model or financial profile, or its
capital planning practices.
Specifically, although the firm's current condition is not
considered to be materially threatened:
<bullet> Deficiencies in the firm's capital planning processes
are not effectively mitigated. These deficiencies limit the firm's
ability to effectively assess capital adequacy through a range of
conditions; and/or
<bullet> The firm's projected capital positions may be
insufficient to absorb potential losses and to support its ability
to meet current and prospective obligations and serve as a financial
intermediary through a range of conditions.
Supervisory issues that place the firm's safety and soundness at
significant risk, and where resolution is likely to require steps
that clearly go beyond the normal course of business--such as issues
requiring a material change to the firm's business model or
financial profile, or its governance, risk management, or internal
control structures or practices--would generally warrant assignment
of a ``Deficient-1'' rating.
A ``Deficient-1'' rating may be assigned to a firm regardless of
its prior rating. A firm previously rated ``Broadly Meets
Expectations'' may be downgraded to ``Deficient-1'' when supervisory
issues are identified that place the firm's prospects for
maintaining safe-and-sound operations through a range of potentially
stressful conditions at significant risk. A firm previously rated
``Conditionally Meets Expectations'' may be downgraded to
``Deficient-1'' when the firm's inability to resolve supervisory
issues in a timely manner indicates that the firm does not possess
sufficient financial or operational capabilities to maintain its
safety and soundness through a range of conditions.
To address these financial or operational deficiencies, the firm
is required to take timely corrective action to restore and maintain
its capital planning and positions consistent with supervisory
expectations.
Deficient-2
Financial or operational deficiencies in a firm's capital
planning or positions present a threat to the firm's safety and
soundness, or have already put the firm in an unsafe and unsound
condition.
Specifically, as a result of these deficiencies:
<bullet> The firm's capital planning processes are insufficient
to effectively assess the firm's capital adequacy through a range of
conditions; and/or
<bullet> The firm's current or projected capital positions are
insufficient to absorb current or potential losses, and to support
the firm's ability to meet current and prospective obligations and
serve as a financial intermediary through a range of conditions.
To address these deficiencies, the firm is required to
immediately (i) implement comprehensive corrective measures
sufficient to restore and maintain appropriate capital planning
capabilities and adequate capital positions; and (ii) demonstrate
the sufficiency, credibility and readiness of contingency planning
in the event of further deterioration of the firm's financial or
operational strength or resiliency.
2. Liquidity Risk Management and Positions Component Rating
The Liquidity Risk Management and Positions component rating
evaluates (i) the effectiveness of a firm's governance and risk
management processes used to determine the amount of liquidity
necessary to cover risks and exposures, and to support activities
through a range of conditions; and (ii) the sufficiency of a firm's
liquidity positions to comply with applicable regulatory
requirements and to support the firm's ongoing obligations through a
range of conditions.
In developing this rating, the Federal Reserve evaluates:
<bullet> Liquidity Risk Management: The extent to which a firm
maintains sound liquidity risk management practices through
effective
[[Page 51345]]
governance and oversight; effective risk management and controls;
maintenance of updated liquidity policies and contingency plans for
addressing potential shortfalls; and incorporation of appropriately
stressful conditions into liquidity planning and projections of
liquidity positions; and
<bullet> Liquidity Positions: The extent to which a firm's
liquidity is sufficient to comply with regulatory requirements, and
to support its ability to meet current and prospective obligations
to depositors, creditors and other counterparties through a range of
conditions.
Definitions for the Liquidity Risk Management and Positions Component
Rating
Broadly Meets Expectations
A firm's liquidity risk management and positions broadly meet
supervisory expectations and support maintenance of safe-and-sound
operations. Specifically:
<bullet> The firm is capable of producing sound assessments of
liquidity adequacy through a range of conditions; and
<bullet> The firm's current and projected liquidity positions
comply with regulatory requirements, and support its ability to meet
current and prospective obligations and to continue to serve as a
financial intermediary through a range of conditions.
A firm rated ``Broadly Meets Expectations'' may be subject to
identified supervisory issues requiring corrective action. However,
these issues are unlikely to present a threat to the firm's ability
to maintain safe-and-sound operations through a range of potentially
stressful conditions.
A firm that does not meet the liquidity risk management and
positions expectations associated with a ``Broadly Meets
Expectations'' rating will be rated ``Conditionally Meets
Expectations,'' ``Deficient-1,'' or ``Deficient-2,'' and subject to
potential consequences as outlined below.
Conditionally Meets Expectations
Certain, material financial or operational weaknesses in a
firm's liquidity risk management or positions may place the firm's
prospects for remaining safe and sound through a range of conditions
at risk if not resolved in a timely manner during the normal course
of business.
Specifically, if left unresolved, these weaknesses:
<bullet> May threaten the firm's ability to produce sound
assessments of liquidity adequacy through a range of conditions;
and/or
<bullet> May result in the firm's projected liquidity positions
being insufficient to comply with regulatory requirements, and
support its ability to meet current and prospective obligations and
to continue to serve as a financial intermediary through a range of
conditions.
The Federal Reserve does not intend for a firm to be rated
``Conditionally Meets Expectations'' for a prolonged period. The
firm has the ability to resolve these issues through measures that
do not require a material change to the firm's business model or
financial profile, or its governance, risk management, or internal
control structures or practices. The Federal Reserve will work with
the firm to develop an appropriate timeframe during which the firm
would be required to resolve each supervisory issue leading to the
``Conditionally Meets Expectations'' rating.
The Federal Reserve will closely monitor the firm's remediation
and mitigation activities; in most instances, the firm will either:
(i) Resolve the issues in a timely manner and, if no new
material supervisory issues arise, be upgraded to a ``Broadly Meets
Expectations'' rating because the firm's liquidity risk management
practices and related positions would broadly meet supervisory
expectations; or
(ii) Fail to resolve the issues in a timely manner and be
downgraded to a ``Deficient-1'' rating, because the firm's inability
to resolve those issues would indicate that the firm does not
possess sufficient financial or operational capabilities to maintain
its safety and soundness through a range of conditions.
It is possible that a firm may be close to completing resolution
of the supervisory issues leading to the ``Conditionally Meets
Expectations'' rating, but new issues are identified that, taken
alone, would be consistent with a ``Conditionally Meets
Expectations'' rating. In this event, the firm may continue to be
rated ``Conditionally Meets Expectations,'' provided the new issues
do not reflect a pattern of deeper or prolonged liquidity risk
management and positions weaknesses consistent with a ``Deficient''
rating.
A ``Conditionally Meets Expectations'' rating may be assigned to
a firm that meets the above definition regardless of its prior
rating. A firm previously rated ``Deficient-1'' may be upgraded to
``Conditionally Meets Expectations'' if the firm's remediation and
mitigation activities are sufficiently advanced so that the firm's
prospects for remaining safe and sound are no longer at significant
risk, even if the firm has outstanding supervisory issues or is
subject to an active enforcement action.
Deficient-1
Financial or operational deficiencies in a firm's liquidity risk
management or positions put the firm's prospects for remaining safe
and sound through a range of conditions at significant risk. The
firm is unable to remediate these deficiencies in the normal course
of business, and remediation would typically require a material
change to the firm's business model or financial profile, or its
liquidity risk management practices.
Specifically, although the firm's current condition is not
considered to be materially threatened:
<bullet> Deficiencies in the firm's liquidity risk management
processes are not effectively mitigated. These deficiencies limit
the firm's ability to effectively assess liquidity adequacy through
a range of conditions; and/or
<bullet> The firm's projected liquidity positions may be
insufficient to support its ability to meet prospective obligations
and serve as a financial intermediary through a range of conditions.
Supervisory issues that place the firm's safety and soundness at
significant risk, and where resolution is likely to require steps
that clearly go beyond the normal course of business--such as issues
requiring a material change to the firm's business model or
financial profile, or its governance, risk management, or internal
control structures or practices--would generally warrant assignment
of a ``Deficient-1'' rating.
A ``Deficient-1'' rating may be assigned to a firm regardless of
its prior rating. A firm previously rated ``Broadly Meets
Expectations'' may be downgraded to ``Deficient-1'' when supervisory
issues are identified that place the firm's prospects for
maintaining safe and sound operations through a range of potentially
stressful conditions at significant risk. A firm previously rated
``Conditionally Meets Expectations'' may be downgraded to
``Deficient-1'' when the firm's inability to resolve supervisory
issues in a timely manner indicates that the firm does not possess
sufficient financial or operational capabilities to maintain its
safety and soundness through a range of conditions.
To address these financial or operational deficiencies, the firm
is required to take timely corrective action to restore and maintain
its liquidity risk management and positions consistent with
supervisory expectations.
Deficient-2
Financial or operational deficiencies in a firm's liquidity risk
management or positions present a threat to the firm's safety and
soundness, or have already put the firm in an unsafe and unsound
condition.
Specifically, as a result of these deficiencies:
<bullet> The firm's liquidity risk management processes are
insufficient to effectively assess the firm's liquidity adequacy
through a range of conditions; and/or
<bullet> The firm's current or projected liquidity positions are
insufficient to support the firm's ability to meet current and
prospective obligations and serve as a financial intermediary
through a range of conditions.
To address these deficiencies, the firm is required to
immediately (i) implement comprehensive corrective measures
sufficient to restore and maintain appropriate liquidity risk
management capabilities and adequate liquidity positions; and (ii)
demonstrate the sufficiency, credibility and readiness of
contingency planning in the event of further deterioration of the
firm's financial or operational strength or resiliency.
3. Governance and Controls Component Rating
The Governance and Controls component rating evaluates the
effectiveness of a firm's (i) board of directors, (ii) management of
business lines and independent risk management and controls, and
(iii) recovery planning (for domestic LISCC firms only). This rating
assesses a firm's effectiveness in aligning strategic business
objectives with the firm's risk appetite and risk management
capabilities; maintaining effective and independent risk management
and control functions, including internal audit; promoting
compliance with laws and regulations, including those related to
consumer protection; and otherwise
[[Page 51346]]
providing for the ongoing resiliency of the firm.
In developing this rating, the Federal Reserve evaluates:
<bullet> Effectiveness of the Board of Directors: The extent to
which the board exhibits attributes that are consistent with those
of effective boards in carrying out its core roles and
responsibilities, including: (i) setting a clear, aligned, and
consistent direction regarding the firm's strategy and risk
appetite; (ii) directing senior management regarding the board's
information; (iii) overseeing and holding senior management
accountable, (iv) supporting the independence and stature of
independent risk management and internal audit; and (v) maintaining
a capable board composition and governance structure.
<bullet> Management of Business Lines and Independent Risk
Management and Controls:
The extent to which:
[cir] Senior management effectively and prudently manages the
day-to-day operations of the firm and provides for ongoing
resiliency; implements the firm's strategy and risk appetite;
maintains an effective risk management framework and system of
internal controls; and promotes prudent risk taking behaviors and
business practices, including compliance with laws and regulations,
including those related to consumer protection.
[cir] Business line management executes business line activities
consistent with the firm's strategy and risk appetite; identifies
and manages risks; and ensures an effective system of internal
controls for its operations.
[cir] Independent risk management effectively evaluates whether
the firm's risk appetite appropriately captures material risks and
is consistent with the firm's risk management capacity; establishes
and monitors risk limits that are consistent with the firm's risk
appetite; identifies and measures the firm's risks; and aggregates,
assesses and reports on the firm's risk profile and positions.
Additionally, the firm demonstrates that its internal controls are
appropriate and tested for effectiveness. Finally, internal audit
effectively and independently assesses the firm's risk management
framework and internal control systems, and reports findings to
senior management and the firm's audit committee.
<bullet> Recovery Planning (domestic LISCC firms only): The
extent to which recovery planning processes effectively identify
options that provide a reasonable chance of a firm being able to
remedy financial weakness and restore market confidence without
extraordinary official sector support.
Definitions for the Governance and Controls Component Rating
Broadly Meets Expectations
A firm's governance and controls broadly meet supervisory
expectations and support maintenance of safe-and-sound operations.
Specifically, the firm's practices and capabilities are sufficient
to align strategic business objectives with its risk appetite and
risk management capabilities; \85\ maintain effective and
independent risk management and control functions, including
internal audit; promote compliance with laws and regulations
(including those related to consumer protection); and otherwise
provide for the firm's ongoing financial and operational resiliency
through a range of conditions.
---------------------------------------------------------------------------
\85\ References to risk management capabilities includes risk
management of business lines and independent risk management and
control functions, including internal audit.
---------------------------------------------------------------------------
A firm rated ``Broadly Meets Expectations'' may be subject to
identified supervisory issues requiring corrective action. However,
these issues are unlikely to present a threat to the firm's ability
to maintain safe-and-sound operations through a range of potentially
stressful conditions.
A firm that does not meet supervisory expectations associated
with a ``Broadly Meets Expectations'' rating will be rated
``Conditionally Meets Expectations,'' ``Deficient-1,'' or
``Deficient-2,'' and subject to potential consequences, as outlined
below.
Conditionally Meets Expectations
Certain, material financial or operational weaknesses in a
firm's governance and controls practices may place the firm's
prospects for remaining safe and sound through a range of conditions
at risk if not resolved in a timely manner during the normal course
of business. Specifically, if left unresolved, these weaknesses may
threaten the firm's ability to align strategic business objectives
with the firm's risk appetite and risk management capabilities;
maintain effective and independent risk management and control
functions, including internal audit; promote compliance with laws
and regulations (including those related to consumer protection); or
otherwise provide for the firm's ongoing resiliency through a range
of conditions.
The Federal Reserve does not intend for a firm to be rated
``Conditionally Meets Expectations'' for a prolonged period. The
firm has the ability to resolve these issues through measures that
do not require a material change to the firm's business model or
financial profile, or its governance, risk management, or internal
control structures or practices. The Federal Reserve will work with
the firm to develop an appropriate timeframe during which the firm
would be required to resolve each supervisory issue leading to the
``Conditionally Meets Expectations'' rating.
The Federal Reserve will closely monitor the firm's remediation
and mitigation activities; in most instances, the firm will either:
(i) Resolve the issues in a timely manner and, if no new
material supervisory issues arise, be upgraded to a ``Broadly Meets
Expectations'' rating because the firm's governance and controls
would broadly meet supervisory expectations; or
(ii) Fail to resolve the issues in a timely manner and be
downgraded to a ``Deficient-1'' rating, because the firm's inability
to resolve those issues would indicate that the firm does not
possess sufficient financial or operational capabilities to maintain
its safety and soundness through a range of conditions.
It is possible that a firm may be close to completing resolution
of the supervisory issues leading to the ``Conditionally Meets
Expectations'' rating, but new issues are identified that, taken
alone, would be consistent with a ``Conditionally Meets
Expectations'' rating. In this event, the firm may continue to be
rated ``Conditionally Meets Expectations,'' provided the new issues
do not reflect a pattern of deeper or prolonged governance and
controls weaknesses consistent with a ``Deficient'' rating.
A ``Conditionally Meets Expectations'' rating may be assigned to
a firm that meets the above definition regardless of its prior
rating. A firm previously rated ``Deficient'' may be upgraded to
``Conditionally Meets Expectations'' if the firm's remediation and
mitigation activities are sufficiently advanced so that the firm's
prospects for remaining safe and sound are no longer at significant
risk, even if the firm has outstanding supervisory issues or is
subject to an active enforcement action.
Deficient-1
Financial or operational deficiencies in a firm's governance and
controls put the firm's prospects for remaining safe and sound
through a range of conditions at significant risk. The firm is
unable to remediate these deficiencies in the normal course of
business, and remediation would typically require a material change
to the firm's business model or financial profile, or its
governance, risk management, or internal control structures or
practices.
Specifically, although the firm's current condition is not
considered to be materially threatened, these deficiencies limit the
firm's ability to align strategic business objectives with its risk
appetite and risk management capabilities; maintain effective and
independent risk management and control functions, including
internal audit; promote compliance with laws and regulations
(including those related to consumer protection); or otherwise
provide for the firm's ongoing resiliency through a range of
conditions.
A ``Deficient-1'' rating may be assigned to a firm regardless of
its prior rating. A firm previously rated ``Broadly Meets
Expectations'' may be downgraded to ``Deficient-1'' when supervisory
issues are identified that place the firm's prospects for
maintaining safe-and-sound operations through a range of potentially
stressful conditions at significant risk. A firm previously rated
``Conditionally Meets Expectations'' may be downgraded to
``Deficient-1'' when the firm's inability to resolve supervisory
issues in a timely manner indicates that the firm does not possess
sufficient financial or operational capabilities to maintain its
safety and soundness through a range of conditions.
To address these financial or operational deficiencies, the firm
is required to take timely corrective action to restore and maintain
its governance and controls consistent with supervisory
expectations.
Deficient-2
Financial or operational deficiencies in governance or controls
present a threat to the firm's safety and soundness, or have already
put the firm in an unsafe and unsound
[[Page 51347]]
condition. Specifically, as a result of these deficiencies, the firm
is unable to align strategic business objectives with its risk
appetite and risk management capabilities; maintain effective and
independent risk management and control functions, including
internal audit; promote compliance with laws and regulations
(including those related to consumer protection); or otherwise
provide for the firm's ongoing resiliency.
To address these deficiencies, the firm is required to
immediately (i) implement comprehensive corrective measures
sufficient to restore and maintain appropriate governance and
control capabilities; and (ii) demonstrate the sufficiency,
credibility, and readiness of contingency planning in the event of
further deterioration of the firm's financial or operational
strength or resiliency.
Appendix B--Text of Proposed Insurance Supervisory Framework
Framework for the Supervision of Insurance Organizations
This framework describes the Federal Reserve's approach to
consolidated supervision of supervised insurance organizations.\86\
The framework is designed specifically to account for the unique
risks and business profiles of these firms resulting mainly from
their insurance business. The framework consists of a risk-based
approach to establishing supervisory expectations, assigning
supervisory resources, and conducting supervisory activities; a
supervisory rating system; and a description of how Federal Reserve
examiners work with the state insurance regulators to limit
supervisory duplication.
---------------------------------------------------------------------------
\86\ In this framework, a ``supervised insurance organization''
is a depository institution holding company that is an insurance
underwriting company, or that has over 25 percent of its
consolidated assets held by insurance underwriting subsidiaries, or
has been otherwise designated as a supervised insurance organization
by Federal Reserve staff.
---------------------------------------------------------------------------
A. Proportionality--Supervisory Activities and Expectations
Consistent with the Federal Reserve's approach to risk-based
supervision, supervisory guidance is applied, and supervisory
activities are conducted, in a manner that is proportionate to each
firm's individual risk profile. This begins by classifying each
supervised insurance organization either as complex or noncomplex
based on its risk profile and continues with a risk based
application of supervisory guidance and supervisory activities
driven by a periodic risk assessment. The risk assessment drives
planned supervisory activities and is communicated to the firm along
with the supervisory plan for the upcoming cycle. Supervisory
activities are focused on resolving supervisory knowledge gaps,
monitoring the safety and soundness of the firm, assessing the
firm's management of risks that could potentially impact its ability
to act as a source of managerial and financial strength for its
depository institution(s), and monitoring for potential systemic
risk, if relevant.
1. Complexity Classification and Supervised Activities
The Federal Reserve classifies each supervised insurance
organization as either complex or noncomplex based on its risk
profile. The classification serves as the basis for determining the
level of supervisory resources dedicated to each firm, as well as
the frequency and intensity of supervisory activities.
Complex
Complex firms have a higher level of risk and therefore require
more supervisory attention and resources. Federal Reserve dedicated
supervisory teams are assigned to execute approved supervisory plans
led by a dedicated Central Point of Contact. The activities listed
in the supervisory plans focus on understanding any risks that could
threaten the safety and soundness of the consolidated organization
or a firm's ability to act as a source of strength for its
subsidiary depository institution(s). These activities typically
include continuous monitoring, targeted topical examinations,
coordinated reviews, and an annual roll-up assessment resulting in
ratings for the three rating components. The relevance of certain
supervisory guidance may vary among complex firms based on each
firm's risk profile. Supervisory guidance targeted at smaller
depository institution holding companies, for example, may be more
relevant for complex supervised insurance organizations with limited
inherent exposure to a certain risk.
Noncomplex
Noncomplex firms, due to their lower risk profile, require less
supervisory oversight relative to complex firms. The supervisory
activities for these firms occur primarily during a rating
examination that occurs no less often than every other year and
results in the three component ratings. The supervision of
noncomplex firms relies more heavily on the reports and assessments
of a firm's other relevant supervisors, although these firms may
also be subject to continuous monitoring, targeted topical
examinations, and coordinated reviews as appropriate. The focus and
types of supervisory activities for noncom plex firms are also set
based on the risks of each firm.
Factors considered when classifying a supervised insurance
organization as either complex or noncom plex include the absolute
and relative size of its depository institution(s), its current
supervisory and regulatory oversight (ratings and opinions of its
supervisors, and the nature and extent of any unregulated and/or
unsupervised activities), the breadth and nature of product and
portfolio risks, the nature of its organizational structure, its
quality and level of capital and liquidity, the materiality of any
international exposure, and its interconnectedness with the broader
financial system.
For supervised insurance organizations that are commencing
Federal Reserve supervision, the classification as complex or
noncomplex is done and communicated during the application phase
after initial discussions with the firm. The firm's risk profile,
including the characteristics listed above, are evaluated by staff
of the Board and relevant Reserve Bank before the complexity
classification is assigned by Board staff. Large, well-established,
and financially strong supervised insurance organizations with
relatively small depository institutions can be classified as
noncomplex if, in the opinion of Board staff, the corresponding
level of supervisory oversight is sufficient to accomplish its
objectives. Although the risk profile is the primary basis for
assigning a classification, a firm is automatically classified as
complex if its depository institution's average assets exceed $100
billion. A firm may request that the Federal Reserve review its
complexity classification if it has experienced a significant change
to its risk profile.
The focus, frequency, and intensity of supervisory activities
are based on a risk assessment of the firm completed periodically by
the supervisory team and will vary among firms within the same
complexity classification. For each risk described in the
Supervisory Expectations section below, the supervisory team
assesses the firm's inherent risks and its residual risk after
considering the effectiveness of its management of the risk. The
risk assessment and the supervisory activities that follow from it
take into account the assessments made by and work performed by the
firm's other regulators. In certain instances, Federal Reserve
examiners may be able to rely on a firm's internal audit (if it is
rated effective) or internal control functions in developing the
risk assessment.
2. Supervisory Expectations
Supervised insurance organizations are required to operate in a
safe and sound manner, to comply with all applicable laws and
regulations, and to possess sufficient financial and operational
strength to serve as a source of strength for their depository
institution(s) through a range of stressful yet plausible
conditions. The governance and risk management practices necessary
to accomplish these objectives will vary based on a firm's specific
risk profile, size, and complexity. Guidance describing supervisory
expectations for safe and sound practices can be found in
Supervision & Regulation (SR) letters published by the Board and
other supervisory material. Supervisory guidance most relevant to a
specific supervised insurance organization is driven by the risk
profile of the firm. Federal Reserve examiners periodically reassess
the firm's risk profile and inform the firm if different supervisory
guidance becomes more relevant as a result of a material change to
its risk profile.
Most supervisory guidance issued by the Board is intended
specifically for institutions that are primarily engaged in banking
activities. Examples of specific practices provided in these
materials may differ from (or not be applicable to) the nonbanking
operations of supervised insurance organizations, including for
insurance operations. The Board recognizes that practices in
nonbanking business lines can be different than those published in
supervisory guidance without being considered unsafe or unsound.
When making their assessment, Federal Reserve examiners work with
supervised insurance organizations and other
[[Page 51348]]
involved regulators, including state insurance regulators, to
appropriately assess practices that may be different than those
typically observed for banking operations.
This section describes general safety and soundness expectations
and how the Board has adapted its supervisory expectations to
reflect the special characteristics of a supervised insurance
organization. The section is organized using the three rating
components--Governance and Controls, Capital Management, and
Liquidity Management.
Governance and Controls
The Governance and Controls component rating is derived from an
assessment of the effectiveness of a firm's (1) board and senior
management, and (2) independent risk management and controls. All
firms are expected to align their strategic business objectives with
their risk appetite and risk management capabilities; maintain
effective and independent risk management and control functions
including internal audit; promote compliance with laws and
regulations; and remain a source of financial and managerial
strength for their depository institution(s).
When assessing governance and controls, Federal Reserve
examiners consider a firm's risk management capabilities relative to
its risk exposure within the following areas: internal audit, credit
risk, legal and compliance risk, market risk, model risk, and
operational risk, including cybersecurity/information technology and
third-party risk.
Governance & Controls Expectations
<bullet> Despite differences in their business models and the
products offered, insurance companies and banks are expected to have
effective and sustainable systems of governance and controls to
manage their respective risks. The governance and controls framework
for a supervised insurance organization should:
[cir] Clearly define roles and responsibilities throughout the
organization;
[cir] Include policies and procedures, limits, requirements for
documenting decisions, and decision-making and accountability chains
of command; and
[cir] Provide timely information about risk and corrective
action for non-compliance or weak oversight, controls, and
management.
<bullet> The Board expects the sophistication of the governance
and controls framework to be commensurate with the size, complexity,
and risk profile of the firm. As such, governance and controls
expectations for complex firms will be higher than that for noncom
plex firms but will also vary based on each firm's risk profile.
<bullet> The Board expects supervised insurance organizations to
have a risk management and control framework that is commensurate
with its structure, risk profile, complexity, activities, and size.
For any chosen structure, the firm's board is expected to have the
capacity, expertise, and sufficient information to discharge risk
oversight and governance responsibilities in a safe and sound
manner.
In assigning a rating for the Governance and Controls component,
Federal Reserve examiners evaluate:
Board and Senior Management Effectiveness
<bullet> The firm's board is expected to exhibit certain
attributes consistent with effectiveness, including: (i) setting a
clear, aligned, and consistent direction regarding the firm's
strategy and risk appetite; (ii) directing senior management
regarding board reporting; (iii) overseeing and holding senior
management accountable; (iv) supporting the independence and stature
of independent risk management and internal audit; and (v)
maintaining a capable board and an effective governance structure.
As the consolidated supervisor, the Board focuses on the board of
the supervised insurance organization and its committees. Complex
firms are expected to take into consideration the Board's guidance
on board of directors' effectiveness.\87\ In assessing the
effectiveness of a firm's senior management, Federal Reserve
examiners consider the extent to which senior management effectively
and prudently manages the day-to-day operations of the firm and
provides for ongoing resiliency; implements the firm's strategy and
risk appetite; identifies and manages risks; maintains an effective
risk management framework and system of internal controls; and
promotes prudent risk taking behaviors and business practices,
including compliance with laws and regulations such as those related
to consumer protection and the Bank Secrecy Act/Anti-Money
Laundering and Office of Foreign Assets Control (BSA/AML and OFAC).
Federal Reserve examiners evaluate how the framework allows
management to be responsible for and manage all risk types,
including emerging risks, within the business lines. Examiners rely
to the fullest extent possible on insurance and banking supervisors'
examination reports and information concerning risk and management
in specific lines of business, including relying specifically on
state insurance regulators to evaluate and assess how firms manage
the pricing, underwriting, and reserving risk of their insurance
operations.
---------------------------------------------------------------------------
\87\ See SR Letter 21-3, ``Supervisory Guidance on Board of
Directors' Effectiveness.''
---------------------------------------------------------------------------
Independent Risk Management and Controls
<bullet> In assessing a firm's independent risk management and
controls, Federal Reserve examiners consider the extent to which
independent risk management effectively evaluates whether the firm's
risk appetite framework identifies and measures all of the firm's
material risks; establishes appropriate risk limits; and aggregates,
assesses and reports on the firm's risk profile and positions.
Additionally, the firm is expected to demonstrate that its internal
controls are appropriate and tested for effectiveness and
sustainability.
<bullet> Internal Audit is an integral part of a supervised
insurance organization's internal control system and risk management
structure. An effective internal audit function plays an essential
role by providing an independent risk assessment and objective
evaluation of all key governance, risk management, and internal
control processes. Internal audit is expected to effectively and
independently assess the firm's risk management framework and
internal control systems, and report findings to senior management
and to the firm's audit committee. Despite differences in business
models, the Board expects the largest, most complex supervised
insurance organizations to have internal audit practices in place
that are similar to those at banking organizations and as such, no
modification to existing guidance is required for these firms.\88\
At the same time, the Board recognizes that firms should have an
internal audit function that is appropriate to their size, nature,
and scope of activities. Therefore, for noncomplex firms, Federal
Reserve examiners will consider the expectations in the insurance
company's domicile state's Annual Financial Reporting Regulation
(NAIC Model Audit Rule 205), or similar state regulation, to assess
the effectiveness of a firm's internal audit function.
---------------------------------------------------------------------------
\88\ Regulatory guidance provided in SR Letter 03-5, ``Amended
Interagency Guidance on the Internal Audit Function and its
Outsourcing'' and SR Letter 13-1, ``Supplemental Policy Statement on
the Internal Audit Function and Its Outsourcing'' are applicable to
complex supervised insurance organizations.
---------------------------------------------------------------------------
The principles of sound risk management described in the
previous sections apply to the entire spectrum of risk management
activities of a supervised insurance organization, including but not
limited to:
<bullet> Credit risk arises from the possibility that a borrower
or counterparty will fail to perform on an obligation. Fixed income
securities, by far the largest asset class held by many insurance
companies, is a large source of credit risk. This is unlike most
banking organizations, where loans generally make up the largest
portion of balance sheet assets. Life insurer investment portfolios
in particular are generally characterized by longer duration
holdings compared to those of banking organizations. Additionally,
an insurance company's reinsurance recoverables/receivables arising
from the use of third-party reinsurance and participation in
regulatory required risk-pooling arrangements expose the firm to
additional counterparty credit risk. Federal Reserve examiners scope
examination work based on a firm's level of inherent credit risk.
The level of inherent risk is determined by analyzing the
composition, concentration, and quality of the consolidated
investment portfolio; the level of a firm's reinsurance
recoverables, the credit quality of the individual reinsurers, and
the amount of collateral held for reinsured risks; and credit
exposures associated with derivatives, securities lending, or other
activities that may also have off-balance sheet counterparty credit
exposures. In determining the effectiveness of a firm's management
of its credit risk, Federal Reserve examiners rely, where possible,
on the assessments made by other relevant supervisors for the
depository institution(s) and the insurance company(ies). In its own
assessment, the Federal Reserve will determine whether the board and
senior management have established an appropriate credit risk
governance framework consistent with the firm's risk appetite;
whether policies, procedures and limits are adequate and
[[Page 51349]]
provide for ongoing monitoring, reporting and control of credit
risk; the adequacy of management information systems as it relates
to credit risk; and the sufficiency of internal audit and
independent review coverage of credit risk exposure.
<bullet> Market risk arises from exposures to losses as a result
of underlying changes in, for example, interest rates, equity
prices, foreign exchange rates, commodity prices, or real estate
prices. Federal Reserve examiners scope examination work based on a
firm's level of inherent market risk exposure, which is normally
driven by the primary business line(s) in which the firm is engaged
as well as the structure of the investment portfolio. A firm may be
exposed to inherent market risk due to its investment portfolio or
as result of its product offerings, including variable and indexed
life insurance and annuity products, or asset/wealth management
business. While interest rate risk (IRR), a category of market risk,
differs between insurance companies and banking organizations, the
degree of IRR also differs based on the type of insurance products
the firm offers. IRR is generally a small risk for U.S. property/
casualty (P/C) whereas it can be a significant risk factor for life
insurers with certain life and annuity products that are spread-
based, longer in duration, may include embedded product guarantees,
and can pose disintermediation risk. Equity market risk can be
significant for life insurers that issue guarantees tied to equity
markets, like variable annuity living benefits, and for P/C insurers
with large common equity allocations in their investment portfolios.
Generally foreign exchange and commodity risk is low for supervised
insurance organizations but could be material for some complex
firms. Firms are expected to have sound risk management
infrastructure that adequately identifies, measures, monitors, and
controls any material or significant forms of market risks to which
it is exposed.
<bullet> Model risk is the potential for adverse consequences
from decisions based on incorrect or misused model outputs and
reports. Model risk can lead to financial loss or poor business and
strategic decision-making. Supervised insurance organizations are
often heavily reliant on models for product pricing and reserving,
risk and capital management strategic planning and other decision-
making purposes. A sound model risk management framework helps
manage this risk.\89\ Federal Reserve examiners take into account
the firm's size, nature, and complexity, as well as the extent of
use and sophistication of its models when assessing its model risk
management program. Examiners focus on the governance framework,
policies and controls, and enterprise model risk management through
a holistic evaluation of the firm's practices. The Federal Reserve's
review of a firm's model risk management program complements the
work of the firm's other relevant supervisors. A sound model risk
management framework includes three main elements: (1) an accurate
model inventory and an appropriate approach to model development,
implementation, and use; (2) effective model validation and
continuous model performance monitoring; and (3) a strong governance
framework that provides explicit support and structure for model
risk management through policies defining relevant activities,
procedures that implement those policies, allocation of resources,
and mechanisms for evaluating whether policies and procedures are
being carried out as specified, including internal audit review. The
Federal Reserve relies on work already conducted by other relevant
supervisors and appropriately collaborates with state insurance
regulators on their findings related to insurance models. With
respect to insurance models, the Federal Reserve recognizes the
important role played by actuaries as described in actuarial
standards of practice on model risk management. With respect to the
business of insurance, Federal Reserve examiners focus on the firm's
adherence to its own policies and procedures and the
comprehensiveness of model validation rather than technical
specifications such as the appropriateness of the model, its
assumptions, or output. Federal Reserve examiners may request that
firms provide model documentation or model validation reports for
insurance and bank models when performing transaction testing.
---------------------------------------------------------------------------
\89\ SR Letter 11-7, ``Guidance on Model Risk Management'' is
applicable to all supervised insurance organizations.
---------------------------------------------------------------------------
<bullet> Legal risk arises from the potential that unenforceable
contracts, lawsuits, or adverse judgments can disrupt or otherwise
negatively affect the operations or financial condition of a
supervised insurance organization.
<bullet> Compliance risk is the risk of regulatory sanctions,
fines, penalties, or losses resulting from failure to comply with
laws, rules, regulations, or other supervisory requirements
applicable to a firm. By offering multiple financial service
products that may include insurance, annuity, banking, services
provided by securities broker-dealers, and asset and wealth
management products, provided through a diverse distribution
network, supervised insurance organizations are inherently exposed
to a significant amount of legal and compliance risk. As the
consolidated supervisor, the Board expects firms to have an
enterprise-wide legal and compliance risk management program that
covers all business lines, legal entities, and jurisdictions of
operation. Firms are expected to have compliance risk management
governance, oversight, monitoring, testing, and reporting
commensurate with their size and complexity, and to ensure
compliance with all applicable laws and regulations. The principles-
based guidance in existing SR letters related to legal and
compliance risk is applicable to supervised insurance
organizations.\90\ For both complex and noncom plex firms, Federal
Reserve examiners rely on the work of the firm's other supervisors.
As described in section C, Incorporating the Work of Other
Supervisors, the assessments, examination results, ratings,
supervisory issues, and enforcement actions from other supervisors
will be incorporated into a consolidated assessment of the
enterprise-wide legal and compliance risk management framework.
---------------------------------------------------------------------------
\90\ SR Letter 08-8, ``Compliance Risk Management Programs and
Oversight at Large Banking Organizations with Complex Compliance
Profiles'' is applicable to complex supervised insurance
organizations. For noncomplex firms, the Federal Reserve will assess
legal and compliance risk management based on the guidance in SR
Letter 16-11, ``Supervisory Guidance for Assessing Risk Management
at Supervised Institutions with Total Consolidated Assets Less than
$100 Billion.''
---------------------------------------------------------------------------
[cir] Money laundering, terrorist financing and other illicit
financial activity risk is the risk of providing criminals access to
the legitimate financial system and thereby being used to facilitate
financial crime. This financial crime includes laundering criminal
proceeds, financing terrorism, and conducting other illegal
activities. Money laundering and terrorist financing risk is
associated with a financial institution's products, services,
customers, and geographic locations. This and other illicit
financial activity risks can impact a firm across business lines,
legal entities, and jurisdictions. A reasonably designed compliance
program generally includes a structure and oversight that mitigates
these risks and supports regulatory compliance with both BSA/AML
OFAC requirements. Although OFAC regulations are not part of the
BSA, OFAC compliance programs are frequently assessed in conjunction
with BSA/AML. Supervised insurance organizations are not defined as
financial institutions under the BSA and, therefore, are not
required to have an AML program, unless the firm is directly selling
certain insurance products. However, certain subsidiaries and
affiliates of supervised insurance organizations, such as insurance
companies and banks, are defined as financial institutions under 31
U.S.C. 5312(a)(2) and must develop and implement a written BSA/AML
compliance program as well as comply with other BSA regulatory
requirements. Unlike banks, insurance companies' BSA/AML obligations
are limited to certain products, referred to as covered insurance
products.\91\ The volume of covered products, which the Financial
Crimes Enforcement Network (FinCEN) has determined to be of higher
risk, is an important driver of supervisory focus. In addition, as
U.S. persons, all supervised insurance organizations (including
their subsidiaries and affiliates) are subject to OFAC regulations.
Federal Reserve examiners assess all material risks that each firm
faces, extending to whether business activities across the
consolidated organization, including within its individual
subsidiaries or affiliates, comply with the legal requirements of
BSA and OFAC regulations. In keeping with the principles of
[[Page 51350]]
a risk-based framework and proportionality, Federal Reserve
supervision for BSA/AML and OFAC primarily focuses on oversight of
compliance programs at a consolidated level and relies on work by
other relevant supervisors to the fullest extent possible. In the
evaluation of a firm's risks and BSA/AML and OFAC compliance
program, however, it may be necessary for examiners to review
compliance with BSA/AML and OFAC requirements at individual
subsidiaries or affiliates in order to fully assess the material
risks of the supervised insurance organization.
---------------------------------------------------------------------------
\91\ ``Covered products'' means a permanent life insurance
policy, other than a group life insurance policy; an annuity
contract, other than a group annuity contract; or any other
insurance product with features of cash value or investment. 31 CFR
1025.100(b). ``Permanent life insurance policy'' means an agreement
that contains a cash value or investment element and that obligates
the insurer to indemnify or to confer a benefit upon the insured or
beneficiary to the agreement contingent upon the death of the
insured. 31 CFR 1025.100(h). ``Annuity contract'' means any
agreement between the insurer and the contract owner whereby the
insurer promises to pay out a fixed or variable income stream for a
period of time. 31 CFR 1025.100(a).
---------------------------------------------------------------------------
<bullet> Operational risk is the risk of loss resulting from
inadequate or failed internal processes, people, and systems, or
from external events. Operational resilience is the ability to
maintain operations, including critical operations and core business
lines, through a disruption from any hazard. It is the outcome of
effective operational risk management combined with sufficient
financial and operational resources to prepare, adapt, withstand,
and recover from disruptions. A firm that operates in a safe and
sound manner is able to identify threats, respond and adapt to
incidents, and recover and learn from such threats and incidents so
that it can prioritize and maintain critical operations and core
business lines, along with other operations, services and functions
identified by the firm, through a disruption.
[cir] Cybersecurity/Information Technology risks are a subset of
operational risk and arise from operations of a firm requiring a
strong and robust internal control system and risk management
oversight structure. Information Technology (IT) and Cybersecurity
(Cyber) functions are especially critical to a firm's operations.
Examiners of financial institutions, including supervised insurance
organizations, utilize the detailed guidance on mitigating these
risks in the Federal Financial Institutions Examination Council's
(FFIEC) IT Handbooks. In assessing IT/Cyber risks, Federal Reserve
examiners assess each firm's:
[ssquf] Board and senior management for effective oversight and
support of IT management;
[ssquf] Information/cyber security program for strong board and
senior management support, integration of security activities and
controls through business processes, and establishment of clear
accountability for security responsibilities;
[ssquf] IT operations for sufficient personnel, system capacity
and availability, and storage capacity adequacy to achieve strategic
objectives and appropriate solutions;
[ssquf] Development and acquisition processes' ability to
identify, acquire, develop, install, and maintain effective IT to
support business operations; and
[ssquf] Appropriate business continuity management processes to
effectively oversee and implement resilience, continuity, and
response capabilities to safeguard employees, customers, assets,
products, and services.
[ssquf] Complex and noncomplex firms are assessed in these
areas. All supervised insurance organizations are required to notify
the Federal Reserve of any computer-security notification
incidents.\92\
---------------------------------------------------------------------------
\92\ SR Letter 22-4, ``Contact Information in Relation to
Computer-Security Incident Notification Requirements'' applies to
all supervised insurance organizations.
---------------------------------------------------------------------------
[cir] Third party risk is also a subset of operational risk and
arises from a firm's use of service providers to perform operational
or service functions. These risks may be inherent to the outsourced
activity or be introduced with the involvement of the service
provider. When assessing effective third party risk management,
Federal Reserve examiners evaluate eight areas: (1) third party risk
management governance, (2) risk assessment framework, (3) due
diligence in the selection of a service provider, (4) a review of
any incentive compensation embedded in a service provider contract,
(5) management of any contract or legal issues arising from third
party agreements, (6) ongoing monitoring and reporting of third
parties, (7) business continuity and contingency of the third party
for any service disruptions, and (8) effective internal audit
program to assess the risk and controls of the firm's third party
risk management program.\93\
---------------------------------------------------------------------------
\93\ SR Letter 23-4, ``Interagency Guidance on Third-Party
Relationships: Risk Management'' applies to all supervised insurance
organizations.
---------------------------------------------------------------------------
Capital Management
The Capital Management rating is derived from an assessment of a
firm's current and stressed level of capitalization, and the quality
of its capital planning and internal stress testing. A capital
management program should be commensurate with a supervised
insurance organization's complexity and risk profile. In assigning
this rating, the Federal Reserve examiners evaluate the extent to
which a firm maintains sound capital planning practices through
effective governance and oversight, effective risk management and
controls, maintenance of updated capital policies and contingency
plans for addressing potential shortfalls, and incorporation of
appropriately stressful conditions into capital planning and
projections of capital positions. The extent to which a firm's
capital is sufficient to comply with regulatory requirements, to
support the firm's ability to meet its obligations, and to enable
the firm to remain a source of strength to its depository
institution(s) in a range of stressful, but plausible, economic and
financial environments is also evaluated.
Insurance company balance sheets are typically quite different
from those of most banking organizations. For life insurance
companies, investment strategies may focus on cash flow matching to
reduce interest rate risk and provide liquidity to support their
liabilities, while for traditional banks, deposits (liabilities) are
attracted to support investment strategies.
Additionally, for insurers, capital provides a buffer for
policyholder claims and creditor obligations, helping the firm
absorb adverse deviations in expected claims experience, and other
drivers of economic loss. The Board recognizes that the capital
needs for insurance activities are materially different from those
of banking activities and can be different between life and property
and casualty insurers. Insurers may also face capital fungibility
constraints not faced by banking organizations.
In assessing a supervised insurance organization's capital
management, the Federal Reserve relies to the fullest extent
possible on information provided by state insurance regulators,
including the firm's own risk and solvency assessment (ORSA) and the
state insurance regulator's written assessment of the ORSA. An ORSA
is an internal process undertaken by an insurance group to assess
the adequacy of its risk management and current and prospective
capital position under normal and stress scenarios. As part of the
ORSA, insurance groups are required to analyze all reasonably
foreseeable and relevant material risks that could have an impact on
their ability to meet obligations.
The Board expects supervised insurance organizations to have
sound governance over their capital planning process. A firm should
establish capital goals that are approved by the board of directors,
and that reflect the potential impact of legal and/or regulatory
restrictions on the transfer of capital between legal entities. In
general, senior management should establish the capital planning
process, which should be reviewed and approved periodically by the
board. The board should require senior management to provide clear,
accurate, and timely information on the firm's material risks and
exposures to inform board decisions on capital adequacy and actions.
The capital planning process should clearly reflect the difference
between the risk profiles and associated capital needs of the
insurance and banking businesses.
A firm should have a risk management framework that
appropriately identifies, measures, and assesses material risks and
provides a strong foundation for capital planning. This framework
should be supported by comprehensive policies and procedures, clear
and well established roles and responsibilities, strong internal
controls, and effective reporting to senior management and the
board. In addition, the risk management framework should be built
upon sound management information systems.
As part of capital management, a firm should have a sound
internal control framework that helps ensure that all aspects of the
capital planning process are functioning as designed and result in
an accurate assessment of the firm's capital needs. The internal
control framework should be independently evaluated periodically by
the firm's internal audit function.
The governance and oversight framework should include an
assessment of the principles and guidelines used for capital
planning, issuance, and usage, including internal post-stress
capital goals and targeted capital levels; guidelines for dividend
payments and stock repurchases; strategies for addressing capital
shortfalls; and internal governance responsibilities and procedures
for the capital policy. The capital policy should reflect the
capital needs of the insurance and banking businesses based on their
risks, be approved by the firm's board of directors or a designated
committee of the
[[Page 51351]]
board, and be re-evaluated periodically and revised as necessary.
A strong capital management program will incorporate
appropriately stressful conditions and events that could adversely
affect the firm's capital adequacy and capital planning. As part of
its capital plan, a firm should use at least one scenario that
stresses the specific vulnerabilities of the firm's activities and
associated risks, including those related to the firm's insurance
activities and its banking activities.
Supervised insurance organizations should employ estimation
approaches to project the impact on capital positions of various
types of stressful conditions and events, and that are independently
validated. A firm should estimate losses, revenues, expenses, and
capital using sound methods that incorporate macroeconomic and other
risk drivers. The robustness of a firm's capital stress testing
processes should be commensurate with its risk profile.
Liquidity Management
The Liquidity Management rating is derived from an assessment of
the supervised insurance organization's liquidity position and the
quality of its liquidity risk management program. Each firm's
liquidity risk management program should be commensurate with its
complexity and risk profile.
The Board recognizes that supervised insurance organizations are
typically less exposed to traditional liquidity risk than banking
organizations. Instead of cash outflows being mainly the result of
discretionary withdrawals, cash outflows for many insurance products
only result from the occurrence of an insured event. Insurance
products, like annuities, that are potentially exposed to call risk
generally have product features (i.e., surrender charges, market
value surrenders, tax treatment, etc.) that help mitigate liquidity
risk.
Federal Reserve examiners tailor the application of existing
supervisory guidance on liquidity risk management to reflect the
liquidity characteristics of supervised insurance organizations.\94\
For example, guidance on intra-day liquidity management would only
be applicable for supervised insurance organizations with material
intra-day liquidity risks. Additionally, specific references to
liquid assets may be more broadly interpreted to include other asset
classes such as certain investment-grade corporate bonds.
---------------------------------------------------------------------------
\94\ See SR Letter 10-6, ``Interagency Policy Statement on
Funding and Liquidity Risk Management.''
---------------------------------------------------------------------------
The scope of the Federal Reserve's supervisory activities on
liquidity risk is influenced by each firm's individual risk profile.
Traditional property and casualty insurance products are typically
short duration liabilities backed by short-duration, liquid assets.
Because of this, they typically present lower liquidity risk than
traditional banking activities. However, some nontraditional life
insurance and retirement products create liquidity risk through
features that allow payments at the request of policyholders without
the occurrence of an insured event. Risks of certain other insurance
products are often mitigated using derivatives. Any differences
between collateral requirements related to hedging and the related
liability cash flows can also create liquidity risk. The Board
expects firms significantly engaged in these types of insurance
activities to have correspondingly more sophisticated liquidity risk
management programs.
A strong liquidity risk management program includes cash flow
forecasting with appropriate granularity. The firm's suite of
quantitative metrics should effectively inform senior management and
the board of directors of the firm's liquidity risk profile and
identify liquidity events or stresses that could detrimentally
affect the firm. The metrics used to measure a firm's liquidity
position may vary by type of business.
Federal Reserve examiners rely to the fullest extent possible on
each firm's ORSA, which requires all firms to include a discussion
of the risk management framework and assessment of material risks,
including liquidity risk.
Supervised insurance organizations are expected to perform
liquidity stress testing at least annually and more frequently, if
necessary, based on their risk profile. The scenarios used should
reflect the firm's specific risk profile and include both
idiosyncratic and system-wide stress events. Stress testing should
inform the firm on the amount of liquid assets necessary to meet net
cash outflows over relevant time periods, including at least a one-
year time horizon. Firms should hold a liquidity buffer comprised of
highly liquid assets to meet stressed net cash outflows. The
liquidity buffer should be measured using appropriate haircuts based
on asset quality, duration, and expected market illiquidity based on
the stress scenario assumptions. Stress testing should reflect the
expected impact on collateral requirements. For material life
insurance operations, Federal Reserve examiners will rely to the
greatest extent possible on information submitted by the firm to
comply with the National Association of Insurance Commissioners'
(NAIC) liquidity stress test framework.
The fungibility of sources of liquidity is often limited between
an insurance group's legal entities. Large insurance groups can
operate with a significant number of legal entities and many
different regulatory and operational barriers to transferring funds
among them. Regulations designed to protect policyholders of
insurance operating companies can limit the transferability of funds
from an insurance company to other legal entities within the group,
including to other insurance operating companies. Supervised
insurance organizations should carefully consider these limitations
in their stress testing and liquidity risk management framework.
Effective liquidity stress testing should include stress testing at
the legal entity level with consideration for intercompany liquidity
fungibility. Furthermore, the firm should be able to measure and
provide an assessment of liquidity at the top-tier depository
institution holding company in a manner that incorporates
fungibility constraints.
The enterprise-wide governance and oversight framework should be
consistent with the firm's liquidity risk profile and include
policies and procedures on liquidity risk management. The firm's
policies and procedures should describe its liquidity risk
reporting, stress testing, and contingency funding plan.
B. Supervisory Ratings
Supervised insurance organizations are expected to operate in a
safe and sound manner, to comply with all applicable laws and
regulations, and to possess sufficient financial and operational
strength to serve as a source of strength for their depository
institution(s) through a range of stressful yet plausible
conditions. Supervisory ratings and supervisory findings are used to
communicate the assessment of a firm. Federal Reserve examiners
periodically assign one of four ratings to each of the three rating
components used to assess supervised insurance organizations. The
rating components are Capital Management, Liquidity Management, and
Governance & Controls. The four potential ratings are Broadly Meets
Expectations, Conditionally Meets Expectations, Deficient-1, and
Deficient-2. To be considered ``well managed,'' a firm must receive
a rating of Conditionally Meets Expectations or better in each of
the three rating components or a rating of Deficient-1 in one rating
component and Broadly Meets Expectations or Conditionally Meets
Expectations for each of the other two rating components. A firm
rated Deficient-1 for two or more rating components or Deficient-2
for any rating component would not be considered ``well managed.''
Each rating is defined specifically for supervised insurance
organizations with particular emphasis on the obligation that firms
serve as a source of financial and managerial strength for their
depository institution(s). High-level definitions for each rating
are below, followed by more specific rating definitions for each
component.
Broadly Meets Expectations. The supervised insurance
organization's practices and capabilities broadly meet supervisory
expectations. The holding company effectively serves as a source of
managerial and financial strength for its depository institution(s)
and possesses sufficient financial and operational strength and
resilience to maintain safe-and-sound operations through a range of
stressful yet plausible conditions. The firm may have outstanding
supervisory issues requiring corrective actions, but these are
unlikely to present a threat to its ability to maintain safe-and-
sound operations and unlikely to negatively impact its ability to
fulfill its obligation to serve as a source of strength for its
depository institution(s). These issues are also expected to be
corrected on a timely basis during the normal course of business.
Conditionally Meets Expectations. The supervised insurance
organization's practices and capabilities are generally considered
sound. However, certain supervisory issues are sufficiently material
that if not resolved in a timely manner during the normal course of
business, may put the firm's prospects for remaining safe and sound,
and/or the holding company's ability to serve as a source of
managerial and financial strength for its
[[Page 51352]]
depository institution(s), at risk. A firm with a Conditionally
Meets Expectations rating has the ability, resources, and management
capacity to resolve its issues and has developed a sound plan to
address the issue(s) in a timely manner. Examiners will work with
the firm to develop an appropriate timeframe during which it will be
required to resolve that supervisory issue(s) leading to this
rating.
Deficient-1. Financial or operational deficiencies in a
supervised insurance organization's practices or capabilities put
its prospects for remaining safe and sound, and/or the holding
company's ability to serve as a source of managerial and financial
strength for its depository institution(s), at significant risk. The
firm is unable to remediate these deficiencies in the normal course
of business, and remediation would typically require it to make
material changes to its business model or financial profile, or its
practices or capabilities. A firm with a Deficient-1 rating is
required to take timely action to correct financial or operational
deficiencies and to restore and maintain its safety and soundness
and compliance with laws and regulations.
Supervisory issues that place the firm's safety and soundness at
significant risk, and where resolution is likely to require steps
that clearly go beyond the normal course of business--such as issues
requiring a material change to the firm's business model or
financial profile, or its governance, risk management or internal
control structures or practices--would generally warrant assignment
of a Deficient-1 rating. Firms with one or more Deficient-1
component ratings may be subject to an informal or formal
enforcement action, depending on particular facts and circumstances.
Deficient-2. Financial or operational deficiencies in a
supervised insurance organization's practices or capabilities
present a threat to its safety and soundness, have already put it in
an unsafe and unsound condition, and/or make it unlikely that the
holding company will be able to serve as a source of financial and
managerial strength to its depository institution(s). A firm with a
Deficient-2 rating is required to immediately implement
comprehensive corrective measures and demonstrate the sufficiency of
contingency planning in the event of further deterioration.
There is a strong presumption that a firm with a Deficient-2
rating will be subject to a formal enforcement action.
Definitions for the Governance and Controls Component Rating
Broadly Meets Expectations. Despite the potential existence of
outstanding supervisory issues, the supervised insurance
organization's governance and controls broadly meet supervisory
expectations, supports maintenance of safe-and-sound operations, and
supports the holding company's ability to serve as a source of
financial and managerial strength for its depository
institutions(s). Specifically, the firm's practices and capabilities
are sufficient to align strategic business objectives with its risk
appetite and risk management capabilities; maintain effective and
independent risk management and control functions, including
internal audit; promote compliance with laws and regulations; and
otherwise provide for the firm's ongoing financial and operational
resiliency through a range of conditions. The firm's governance and
controls clearly reflect the holding company's obligation to act as
a source of financial and managerial strength for its depository
institution(s).
Conditionally Meets Expectations. Certain material financial or
operational weaknesses in a supervised insurance organization's
governance and controls practices may place the firm's prospects for
remaining safe and sound through a range of conditions at risk if
not resolved in a timely manner during the normal course of
business. Specifically, if left unresolved, these weaknesses may
threaten the firm's ability to align strategic business objectives
with its risk appetite and risk-management capabilities; maintain
effective and independent risk management and control functions,
including internal audit; promote compliance with laws and
regulations; or otherwise provide for the firm's ongoing resiliency
through a range of conditions. Supervisory issues may exist related
to the firm's internal audit function, but internal audit is still
regarded as effective.
Deficient-1. Deficiencies in a supervised insurance
organization's governance and controls put its prospects for
remaining safe and sound through a range of conditions at
significant risk. The firm is unable to remediate these deficiencies
in the normal course of business, and remediation would typically
require a material change to the firm's business model or financial
profile, or its governance, risk management or internal control
structures or practices.
Examples of issues that may result in a Deficient-1 rating
include, but are not limited to:
<bullet> The firm may be currently subject to, or expected to be
subject to, informal or formal enforcement action(s) by the Federal
Reserve or another regulator tied to violations of laws and
regulations that indicate severe deficiencies in the firm's
governance and controls.
<bullet> Significant legal issues may have or be expected to
impede the holding company's ability to act as a source of financial
strength for its depository institution(s).
<bullet> The firm may have engaged in intentional misconduct.
<bullet> Deficiencies within the firm's governance and controls
may limit the credibility of the firm's financial results, limit the
board or senior management's ability to make sound decisions, or
materially increase the firm's risk of litigation.
<bullet> The firm's internal audit function may be considered
ineffective.
<bullet> Deficiencies in the firm's governance and controls may
have limited the holding company's ability to act as a source of
financial and/or managerial strength for its depository
institution(s).
Deficient-2. Financial or operational deficiencies in a
supervised insurance organization's governance and controls present
a threat to its safety and soundness, a threat to the holding
company's ability to serve as a source of financial strength for its
depository institution(s), or have already put the firm in an unsafe
and unsound condition.
Examples of issues that may result in a Deficient-2 rating
include, but are not limited to:
<bullet> The firm is currently subject to, or expected to be
subject to, formal enforcement action(s) by the Federal Reserve or
another regulator tied to violations of laws and regulations that
indicate severe deficiencies in the firm's governance and controls.
<bullet> Significant legal issues may be impeding the holding
company's ability to act as a source of financial strength for its
depository institution(s).
<bullet> The firm may have engaged in intentional misconduct.
<bullet> The holding company may have failed to act as a source
of financial and/or managerial strength for its depository
institution(s) when needed.
<bullet> The firm's internal audit function is regarded as
ineffective.
Definitions for the Capital Management Component Rating
Broadly Meets Expectations. Despite the potential existence of
outstanding supervisory issues, the supervised insurance
organization's capital management broadly meets supervisory
expectations, supports maintenance of safe-and-sound operations, and
supports the holding company's ability to serve as a source of
financial strength for its depository institution(s).
Specifically:
<bullet> The firm's current and projected capital positions on a
consolidated basis and within each of its material business lines/
legal entities comply with regulatory requirements and support its
ability to absorb potential losses, meet obligations, and continue
to serve as a source of financial strength for its depository
institution(s);
<bullet> Capital management processes are sufficient to give
credibility to stress testing results and the firm is capable of
producing sound assessments of capital adequacy through a range of
stressful yet plausible conditions; and
<bullet> Potential capital fungibility issues are effectively
mitigated, and capital contingency plans allow the holding company
to continue to act as a source of financial strength for its
depository institution(s) through a range of stressful yet plausible
conditions.
Conditionally Meets Expectations. Capital adequacy meets
regulatory minimums, both currently and on a prospective basis.
Supervisory issues exist but these do not threaten the holding
company's ability to act as a source of financial strength for its
depository institution(s) through a range of stressful yet plausible
conditions. Specifically, if left unresolved, these issues:
<bullet> May threaten the firm's ability to produce sound
assessments of capital adequacy through a range of stressful yet
plausible conditions; and/or
<bullet> May result in the firm's projected capital positions
being insufficient to absorb potential losses, comply with
regulatory requirements, and support the holding company's ability
to meet current and prospective obligations and continue to serve as
a source of financial strength to its depository institution(s).
Deficient-1. Financial or operational deficiencies in a
supervised insurance
[[Page 51353]]
organization's capital management put its prospects for remaining
safe and sound through a range of plausible conditions at
significant risk. The firm is unable to remediate these deficiencies
in the normal course of business, and remediation would typically
require a material change to the firm's business model or financial
profile, or its capital management processes.
Examples of issues that may result in a Deficient-1 rating
include, but are not limited to:
<bullet> Capital adequacy currently meets regulatory minimums
although there may be uncertainty regarding the firm's ability to
continue meeting regulatory minimums.
<bullet> Fungibility concerns may exist that could challenge the
firm's ability to contribute capital to its depository institutions
under certain stressful yet plausible scenarios.
<bullet> Supervisory issues may exist that undermine the
credibility of the firm's current capital adequacy and/or its stress
testing results.
Deficient-2. Financial or operational deficiencies in a
supervised insurance organization's capital management present a
threat to the firm's safety and soundness, a threat to the holding
company's ability to serve a source of financial strength for its
depository institution(s), or have already put the firm in an unsafe
and unsound condition.
Examples of issues that may result in a Deficient-2 rating
include, but are not limited to:
<bullet> Capital adequacy may currently fail to meet regulatory
minimums or there is significant concern that the firm will not meet
capital adequacy minimums prospectively.
<bullet> Supervisory issues may exist that significantly
undermine the firm's capital adequacy metrics either currently or
prospectively.
<bullet> Significant fungibility constraints may exist that
would prevent the holding company from contributing capital to its
depository institution(s) and fulfilling its obligation to serve as
a source of financial strength.
<bullet> The holding company may have failed to act as source of
financial strength for its depository institution when needed.
Definitions for the Liquidity Management Component Rating
Broadly Meets Expectations. Despite the potential existence of
outstanding supervisory issues, the supervise
[…truncated; see source link]Indexed from Federal Register on November 17, 2025.
This is legal information, not legal advice. Laws vary by jurisdiction and change frequently. Always verify current law with official sources and consult a licensed attorney in your jurisdiction for advice on your specific situation.