To All Depository Institutions and Others Concerned in the Second Federal Reserve District:
Five federal agencies requested public comment on a proposed statement describing internal controls and risk management procedures for complex structured finance activities conducted at financial institutions under their supervision. The agencies believe these controls will assist financial institutions engaging in complex structured finance activities to ensure that these activities are conducted in accordance with applicable law and that institutions effectively manage the full range of risks associated with these activities, including legal and reputational risks.
As recent events have highlighted, a financial institution may assume substantial reputational and legal risk if the institution enters into a complex structured finance transaction with a customer and the customer uses the transaction to circumvent regulatory or financial reporting requirements, evade tax liabilities, or further other illegal or improper behavior.
The statement, among other things, provides that financial institutions engaged in complex structured finance activities should have effective policies and procedures in place to:
- Identify those complex structured finance transactions that may involve heightened reputational and legal risk;
- Ensure that these transactions receive enhanced scrutiny by the institution; and
- Ensure that the institution does not participate in illegal or inappropriate transactions.
The statement also emphasizes the critical role of an institution's board of directors and senior management in establishing the institution's threshold for risks associated with complex structured finance transactions, in implementing a risk control framework for these transactions, and in promoting a corporate-wide culture that fosters integrity, compliance with the law, and overall good business ethics.
The proposed statement was issued by the Securities and Exchange Commission, Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the Office of the Comptroller of the Currency and the Office of Thrift Supervision. The Federal Reserve Board also issued a supervisory letter (SR 04-7) dated May 14, 2004 to provide to the banking institutions under its purview guidance from the SEC on the potential liability of financial institutions for securities law violations arising from deceptive structured finance products and transactions.
Comments regarding the statement are requested by June 18, 2004. Comments regarding the information collections contained in the statement should be received by July 19, 2004.
Diane L. Virzera
Counsel and Assistant Vice President