Regulatory Relief for Community Banks: A Simpler Way to Calculate Capital

This post is part of a series titled “Supervising Our Nation’s Financial Institutions.” The series appears at least once each month.

Since the end of the financial crisis more than a decade ago, lawmakers and regulators have worked to balance the needs of a growing, vibrant financial services sector with the regulations necessary to ensure a safe and sound one.

In some ways, much has been achieved. The nation’s largest banking organizations are now subject to substantially higher capital and liquidity requirements. They are also regularly “stress tested” to understand the effects on capital should economic conditions deteriorate significantly. Stackhouse, Julie. “Did the Dodd-Frank Act Make the Financial System Safer?” St. Louis Fed On the Economy, Feb. 20, 2017.

At the same time, efforts are continuing to alleviate the regulatory burden faced by smaller banking organizations. A number of these initiatives are discussed in the On the Economy blog post “Regulation and Regulatory Burden.” Beginning this year, those that meet certain qualifications can opt into a simplified regulatory capital framework. The framework—dubbed the community bank leverage ratio (CBLR)—went into effect Jan. 1.“Community Bank Leverage Ratio Framework (PDF).” Board of Governors of the Federal Reserve System, Federal Deposit Insurance Corp. and the Office of the Comptroller of the Currency, October 2019. The Federal Deposit Insurance Corp. estimates that more than three-quarters of all community banks will qualify to opt in.Pedersen, Brendan. “FDIC Tries to Ease Small Banks’ Concerns with Capital Rule Revamp,” American Banker, Sept. 17, 2019.

Regulatory Relief Goal

The implementation of the CBLR was mandated by the Economic Growth, Regulatory Relief and Consumer Protection Act of 2018. Section 201 of this law directed the federal banking agencies to provide community banking organizations with meaningful regulatory relief from the capital rules applicable to larger banking organizations while still ensuring that capital levels continue to support the overall safety and soundness of the organization. The agencies were instructed to come up with rules for a qualifying leverage ratio that would fall in a range of 8% to 10%.

Qualifying Criteria

The criteria for a community bank to qualify for the simplified CBLR framework include:

• A leverage ratio—defined as tier 1 capital as a percentage of average total consolidated assets (TCA)—of more than 9%
• Average TCA of less than $10 billion
• Off-balance-sheet exposures that total 25% or less of TCA
• Trading assets plus trading liabilities that total 5% or less of TCA
• Not an advanced approaches organization under Basel III

  ⁵ “Certain Banking Organizations Permitted to Use Advanced Approaches Framework.” Federal Reserve Bank of Atlanta Circular Letters Feb. 21, 2014. Holding companies that are required to meet regulatory capital ratios are also eligible for the CBLR.

A community banking organization that meets these criteria and opts in will also meet the definition of “well capitalized” under the regulatory Prompt Corrective Action framework. Prompt Corrective Action is a federal banking regulation that subjects banks with deficient capital to certain restrictions that are lifted when capital levels come back into compliance. For more information, see Stackhouse, Julie. “Views: Prompt Corrective Action: What Does It Mean for a Bank’s Liquidity?” Central Banker, Fall 2008. A two-quarter grace period to come back into compliance is available when a CBLR falls below 9% but remains above 8%.

A qualifying organization can opt in or opt out of the CBLR framework by completing the associated line items on regulatory reports.

Bankers’ Choice

The CBLR framework acknowledges that most community banking organizations have much simpler balance sheets than larger banking firms. This regime will primarily reduce the reporting burden associated with calculating the four capital ratios and risk-weighted assets required under risk-based capital rules. And for some banks, anything that simplifies regulation is important in addressing the challenge of regulatory burden.

Notes and References

¹ Stackhouse, Julie. “Did the Dodd-Frank Act Make the Financial System Safer?” St. Louis Fed On the Economy, Feb. 20, 2017.

² A number of these initiatives are discussed in the On the Economy blog post “Regulation and Regulatory Burden.”

³ “Community Bank Leverage Ratio Framework (PDF).” Board of Governors of the Federal Reserve System, Federal Deposit Insurance Corp. and the Office of the Comptroller of the Currency, October 2019.

⁴ Pedersen, Brendan. “FDIC Tries to Ease Small Banks’ Concerns with Capital Rule Revamp,” American Banker, Sept. 17, 2019.

⁵ “Certain Banking Organizations Permitted to Use Advanced Approaches Framework.” Federal Reserve Bank of Atlanta Circular Letters Feb. 21, 2014. Holding companies that are required to meet regulatory capital ratios are also eligible for the CBLR.

⁶ Prompt Corrective Action is a federal banking regulation that subjects banks with deficient capital to certain restrictions that are lifted when capital levels come back into compliance. For more information, see Stackhouse, Julie. “Views: Prompt Corrective Action: What Does It Mean for a Bank’s Liquidity?” Central Banker, Fall 2008.

Additional Resources

• On the Economy: Did the Dodd-Frank Act Make the Financial System Safer?
• Board of Governors: Community Bank Leverage Ratio Framework (PDF)