National banks have been given clearer guidelines by the US Comptroller of the Currency about when they can participate as tax equity investors in partnership-flip transactions.

The guidelines are merely proposed. The Office of the Comptroller of the Currency, or OCC, released them in July. They are an effort to write into regulations standards that the OCC developed in two interpretative letters for banks wanting to invest in tax equity transactions structured as partnership flips. (For earlier coverage, see “The Volcker rule” in the February 2014 NewsWire and “Wind developers helped by two favorable rulings” in the March 2006 NewsWire.)

The regulations apply to national banks engaging in tax equity transactions directly as the deposit-taking bank. Many banks use non-bank affiliates or other ways to invest, and some other banks investing tax equity are state banks rather than national banks.          

National banks have authority to move beyond traditional loans to accommodate the demands of the market as long as each such transaction is functionally equivalent to a loan.

Under the proposed regulations, a tax equity partnership would have to satisfy a series of requirements to qualify as functionally equivalent.

The most burdensome is the bank must notify the OCC in writing before engaging in each transaction. The notice must include an evaluation of the risks posed by the transaction.

Beyond that, the transaction must be necessary to make tax credits or other tax benefits available to the bank.

It must be “of limited tenure and not indefinite.” The transaction “would need to have a defined termination point.” Giving the sponsor a call option to acquire the bank’s interest at or near fair market value satisfies this requirement, the OCC said. “The proposed rule would permit a national bank or federal savings association to retain a limited investment interest [after the flip] if that interest is required by law to obtain continuing tax benefits from the transaction.”

The bank must not place “undue reliance on the value of any residual stake in the project or the proceeds of disposition” after the tax credit recapture period.

The bank must not count on appreciation in value of the underlying project.

The tax equity documents must contain terms and conditions equivalent to those found in documents governing typical lending transactions. The bank must use underwriting criteria that are substantially equivalent to those used when making a traditional commercial loan.

The bank must be a “passive investor in the transaction and must be unable to direct the affairs of the project company.” Thus, it cannot direct the day-to-day operations of the project. Temporary management activities in the context of a foreclosure or similar proceedings do not violate this requirement.

The bank cannot control the sale of energy from the project.

The accounting treatment of tax equity transactions may differ from a loan.

The dollar amount of all the tax equity transactions engaged in by the bank cannot exceed 5% of the bank’s capital and surplus without OCC approval, and in no event can it go above 15%.

The bank must monitor its transactions to ensure they are conducted in a safe and sound manner.

The OCC asked for comments about whether it should bar banks from entering into residential and C&I solar transactions.

An OCC lawyer said there is no interpretive letter on point, and the OCC is trying to understand any issues presented. She said not to read any more than that into the request for comments.

Another issue about which the OCC asked for comments is whether the tax equity papers should require banks to have the option to replace the sponsor or manager under certain conditions or be required to be indemnified for breaches of tax representations and other legal risks.

Other open questions are whether sponsors must guarantee payment of any indemnities the bank is owed and whether banks should be allowed to participate in tax equity transactions through “fund-based structures.”