bank regulation – Duane Morris Banking and Finance Law

In the world of banking regulation, corporate structure matters. One of the most significant structural designations a banking organization can achieve is that of a financial holding company (FHC). This post explains what an FHC is, how it differs from a standard bank holding company (BHC), and how a BHC elects to become one.

Bank Holding Companies

A bank holding company is any company that controls a bank, as defined under the Bank Holding Company Act of 1956 (BHCA). BHCs are subject to supervision and regulation by the Federal Reserve Board and are generally limited to engaging in activities that are closely related to banking—such as lending, trust services, and certain insurance agency activities.

Financial Holding Companies: Expanded Powers

The Gramm-Leach-Bliley Act of 1999 (GLBA) amended the BHCA to create a new category: the financial holding company (“FHC”). An FHC is a bank holding company that has made a specific election and met certain qualifying criteria, thereby gaining the ability to engage in a broader range of financial activities.

These expanded activities include:

Securities underwriting and dealing – Activities previously reserved for registered broker-dealers and investment banks.
Insurance underwriting – The ability to underwrite and sell insurance products, not merely act as an agent.
Merchant banking – Making equity investments in commercial companies, subject to certain holding-period and portfolio limitations.
Other financial activities – Any activity that the Federal Reserve Board determines, by regulation or order, to be financial in nature, incidental to a financial activity, or complementary to a financial activity.

The FHC framework effectively broke down the walls between banking, securities, and insurance that had existed since the Glass-Steagall era.

How a Bank Holding Company Elects FHC Status

The process for a BHC to become an FHC is an election, not an application requiring prior approval. Here is how it works:

1. File a Declaration

The BHC files a written declaration with the appropriate Federal Reserve Bank. The declaration must include:

A statement that the BHC elects to be treated as a financial holding company.
A certification that all depository institutions controlled by the BHC are well-capitalized and well-managed – terms of art in bank reg land.
A certification that all such depository institutions have at least a “Satisfactory” rating under the Community Reinvestment Act (CRA).

2. Satisfy the Statutory Criteria

To qualify, the BHC must demonstrate that each of its subsidiary depository institutions meets three requirements at the time of the election:

Well-capitalized – The institution meets the capital adequacy standards established by its primary federal banking regulator.
Well-managed – The institution has received a composite rating of 1 or 2, and a management rating of 1 or 2, in its most recent examination.
Satisfactory CRA rating – The institution has received at least a “Satisfactory” rating on its most recent CRA performance evaluation.

3. Effectiveness of the Election

The election becomes effective on the 31st calendar day after the declaration is received by the Federal Reserve, unless the Federal Reserve notifies the BHC prior to that date that the election is ineffective because the BHC does not meet the required criteria.

4. Ongoing Compliance

FHC status is not permanent in a practical sense. If any subsidiary depository institution ceases to be well-capitalized or well-managed, or if a CRA rating falls below “Satisfactory,” the FHC may face restrictions. The Federal Reserve may limit the FHC’s ability to commence new financial activities or make acquisitions until the deficiency is corrected. If the deficiency is not corrected within 180 days, the Federal Reserve may require the company to divest its subsidiary banks or cease engaging in FHC-only activities.

Why It Matters

The FHC election is a gateway to diversified financial services. For banking organizations seeking to compete across the full spectrum of financial products—from traditional deposit-taking and lending to securities, insurance, and merchant banking—FHC status is essential. Understanding the election process and the ongoing obligations that come with it is critical for any institution considering this path.

For almost three years, Staff Accounting Bulletin 121 of the Securities and Exchange Commission effectively prevented banks from holding crypto on behalf of customers by indirectly requiring them to maintain a capital loss reserve equal to the full value of the crypto even though the bank does not own the crypto. The announcement by SEC Acting Chairman Mark T. Uyeda on January 21, 2025 of a new crypto task force to be led by pro-crypto Commissioner Hester Peirce foreshadowed a change in the Commission’s attitude towards crypto. Two days later, the SEC issued Staff Accounting Bulletin 122 rescinding SAB 121 effective as of January 30, 2025. If the dry and formal language of SAB 122 left any doubt as to the attitude shift, Commissioner Peirce’s post on X later that day, “Bye, bye SAB 121! It’s not been fun” spoke volumes.

With this substantial financial impediment on banks lifted, it would be easy to assume that banks are now free to offer crypto custody and other digital asset services to customers. However, although the SEC took the lead over the last several years, there are other regulators that have a more direct impact on the banking system- the Federal Reserve Board, the Federal Deposit Insurance Corporation, and the Office of the Comptroller of the Currency. In large part, these institutions have also discouraged banks from engaging in crypto activities, but they have been able to do so more quietly given the SEC’s more aggressive stance. On January 29, 2025, Federal Reserve Chair Jerome Powell offered some hope, stating at the Federal Open Markets Committee meeting that “we’re not against innovation,” and that banks are “perfectly able to serve crypto customers.”

In our recent Alert, we discuss some of the implications of the rescission of SAB 121 and the bank regulatory challenges to come.