05-20766. Deposit Insurance Coverage; Accounts of Qualified Tuition Savings Programs Under Section 529 of the Internal Revenue Code

AGENCY:

Federal Deposit Insurance Corporation (FDIC).

ACTION:

Final rule.

SUMMARY:

The FDIC is adopting a final rule governing the insurance coverage of deposits of qualified tuition savings programs under section 529 of the Internal Revenue Code. The final rule makes no substantive changes to a previous interim final rule. Under the rule, the deposits of a qualified tuition savings program will be insured on a “pass-through” basis to the program participants. In other words, the deposits will be insured up to $100,000 for the interest of each participant in aggregation with the participant's other deposits (if any) at the same insured depository institution.

DATES:

The final rule will be effective on December 27, 2005.

FOR FURTHER INFORMATION CONTACT:

Christopher L. Hencke, Counsel, Legal Division, [phone], Federal Deposit Insurance Corporation, 550 17th Street, NW., Washington, DC 20429.

SUPPLEMENTARY INFORMATION:

I. Qualified Tuition Programs

Section 529 of the Internal Revenue Code provides tax benefits for “qualified tuition programs.” See 26 U.S.C. 529(a). Such programs include prepaid tuition programs (which may be created by states or educational institutions) as well as tuition savings programs (which must be sponsored by states or public instrumentalities). See 26 U.S.C. 529(b)(1). A tuition savings program is defined by section 529 as a program under which a person “may make contributions to an account which is established for the purpose of meeting the qualified higher education expenses of the designated beneficiary of the account” (and which meets certain requirements). 26 U.S.C. 529(b)(1)(A)(ii).

Under laws administered by the Securities and Exchange Commission (SEC), interests in a qualified tuition savings program must be sold by a public instrumentality (such as a state investment trust) so that the interests in the program will be exempt from registration under section 2(b) of the Investment Company Act. See 15 U.S.C. 80a-2(b). This means that a participant in a state qualified tuition savings program cannot acquire an asset through the program or public instrumentality. Rather, the participant must acquire an interest or account in the public instrumentality.

Some state 529 programs have provided participants with the option of investing their funds directly in bank deposits. Other state programs have expressed an interest in creating such an option. As stated above, participants in a 529 program must acquire an interest in the public instrumentality. They cannot acquire a particular asset. This means that the public instrumentality, not the participant, will be the legal owner of any bank deposit purchased by or through the public instrumentality.

The fact that any bank deposit will belong to the public instrumentality raises issues under the FDIC's insurance regulations. These issues are discussed below.

II. The FDIC's Regulation

Under the applicable section of the FDIC's insurance regulations, the deposits of a corporation are insured up to $100,000 in the aggregate. See 12 CFR 330.11(a)(1). This rule applies to ordinary corporations as well as to business or investment trusts that must file registration statements with the SEC. Generally, this rule also applies to investment trusts that would be required to file registration statements with the SEC “but for” certain sections of the Investment Company Act, including section 2(b).

An exception exists for the deposits of a qualified tuition savings program sponsored by a state or public instrumentality. Although such programs are covered by section 2(b) of the Investment Company Act, the FDIC does not treat the public instrumentality as a corporation with insurance coverage limited to $100,000 in the aggregate. Rather, the FDIC provides insurance coverage up to $100,000 for the interest of each investor or plan participant. The FDIC provides this “pass-through” coverage through an interim final rule published in June of 2005. See 70 FR 33689 (June 9, 2005).

In adopting the interim final rule, the FDIC relied upon the fact that qualified tuition savings programs—in placing participants' funds at banks in a manner that satisfies the FDIC's requirements for “pass-through” insurance coverage—do not function in the manner of ordinary business trusts or investment companies. In a qualified tuition savings program, the deposits are equivalent to brokered deposits. Assuming the satisfaction of certain disclosure requirements, brokered deposits are insured on a “pass-through” basis to the broker's customers. See 70 FR at 33691. Also, in adopting the interim final rule, the FDIC relied upon the Congressional purpose behind section 529. That purpose is to encourage persons to save money for post-secondary educational expenses. Without “pass-through” coverage of deposits, some persons may choose not to participate in 529 programs. See id.

III. The Public Comments

In response to the publication of the interim final rule, the FDIC received seven public comments. These comments were submitted by three bankers' associations, one state regulator, one holding company, one bank, and one banking information company.

One of the comments did not address the substance of the rule but noted a grammatical error (involving noun/verb agreement). The other comments supported the interim final rule, though two changes were suggested. Each of the suggested changes is discussed in turn below.

First, a recommendation was made to create a separate insurance category for the deposits of qualified tuition savings programs so that a participant's funds in a 529 deposit would not be aggregated with the participant's funds in other deposit accounts (if any) at the same insured depository institution. This suggested treatment would be similar to the FDIC's treatment of the deposits of employee benefit plans. See 12 CFR 330.14.

Although the FDIC recognizes the deposits of employee benefit plans as a separate ownership category for purposes of applying the $100,000 insurance limit, this special treatment is based upon a specific statutory provision. See 12 U.S.C. 1821(a)(1)(D). No such statutory provision exists for the deposits of qualified tuition savings programs. In the absence of any such statutory provision, the FDIC is reluctant to recognize a new deposit insurance ownership category.

Moreover, no apparent reason exists to treat the deposits of qualified tuition savings programs differently than deposits held by agents or custodians. In the case of such deposits, the FDIC provides “pass-through” insurance coverage (assuming the satisfaction of certain disclosure requirements) but the FDIC does not insure such deposits separately from all other deposits. Rather, the FDIC aggregates the funds of each owner with the owner's other accounts (if any) at the same insured depository institution. Under these circumstances, the FDIC has decided not to create a new deposit ownership category for the deposits of qualified tuition savings programs under section 529 of the Internal Revenue Code.

Second, a recommendation was made to include specific language about treating each participant's funds “as a deposit account of the participant.” Although this language would not change the substance of the rule, the suggested language could clarify the effect (i.e., to provide separate insurance coverage for the funds of each participant). For this reason, the FDIC has adopted the suggested language.^[1]

IV. The Final Rule

Under the final rule, the deposits of a qualified tuition savings program under section 529 of the Internal Revenue Code will not be treated as the deposits of a corporation with coverage limited to $100,000 in the aggregate. Rather, the deposits will be insured up to $100,000 for the interest of each participant or investor (in aggregation with any other deposits of the participant or investor at the same insured depository institution). Such “pass-through” coverage will not be available, however, unless two requirements are satisfied. First, the funds in the account must be traceable to one or more particular investors. Second, the existence of any trust or custodial relationships must be disclosed in accordance with the FDIC's requirements at 12 CFR 330.5.

In providing insurance coverage up to $100,000 for each “participant,” the FDIC means to provide coverage up to $100,000 for each owner of the securities issued by the public instrumentality. In the 529 programs reviewed by the FDIC, these “participants” are the persons who contribute the funds. These persons may be referred to as “account owners.” A distinction exists between these contributors or “account owners” and the “designated beneficiaries” (i.e., the persons who will go to college someday).

In the programs reviewed by the FDIC, the contributors retain some rights with respect to the funds (e.g., the right to withdraw money under certain circumstances or the right to change the beneficiary). Assuming that the qualified tuition savings program is structured in this manner so that the securities are owned by the contributors, then the FDIC will treat the contributors as the “participants.” If the program is structured so that the securities are owned by the “designated beneficiaries,” however, then the FDIC will treat the beneficiaries as the “participants.” For example, the beneficiary would be the “participant” if no one but the beneficiary possesses the right to withdraw funds or to name a different beneficiary.

Again, the FDIC simply means to provide “pass-through” insurance coverage to the actual owners of the securities. The FDIC does not mean to dictate the terms of a qualified tuition savings program. Such programs must adhere to the requirements of section 529 and the applicable state law.

Paperwork Reduction Act

This rule contains no new collections of information as defined by the Paperwork Reduction Act. See 44 U.S.C. 3501 et seq. Consequently, no information has been submitted to the Office of Management and Budget for review.

Regulatory Flexibility Act

A regulatory flexibility analysis is required only when the agency must publish a notice of proposed rulemaking. See 5 U.S.C. 603, 604. Because the amendment to part 330 is being published in final form without a notice of proposed rulemaking, no regulatory flexibility analysis is required.

Small Business Regulatory Enforcement Fairness Act

In accordance with the Small Business Regulatory Enforcement Fairness Act, the FDIC will report this rule to Congress so that the rule may be reviewed. See 5 U.S.C. 801 et seq.

List of Subjects in 12 CFR Part 330

• Bank deposit insurance
• Banks, banking
• Reporting and recordkeeping requirements
• Savings and loan associations
• Trust and trustees

For the reasons set forth in the preamble, the Board of Directors of the Federal Deposit Insurance Corporation hereby amends part 330 of title 12 of the Code of Federal Regulations as follows:

PART 330—DEPOSIT INSURANCE COVERAGE

1. The authority citation for part 330 continues to read as follows:

Authority: 12 U.S.C. 1813(l), 1813(m), 1817(i), 1818(q), 1819(Tenth), 1820(f), 1821(a), 1822(c).

2. Section 330.11(a)(2) is revised to read as follows:

§ 330.11

Accounts of a corporation, partnership or unincorporated association.

(a) * * *

(2) Notwithstanding any other provision of this part, any trust or other business arrangement which has filed or is required to file a registration statement with the Securities and Exchange Commission pursuant to section 8 of the Investment Company Act of 1940 (15 U.S.C. 80a-8) or that would be required so to register but for the fact it is not created under the laws of the United States or a state or but for sections 2(b), 3(c)(1), or 6(a)(1) of that act shall be deemed to be a corporation for purposes of determining deposit insurance coverage. An exception to this paragraph (a)(2) shall exist for any trust or other business arrangement established by a state or that is a state agency or state public instrumentality as part of a qualified tuition savings program under section 529 of the Internal Revenue Code (26 U.S.C. 529). A deposit account of such a trust or business arrangement shall not be deemed to be the deposit of a corporation provided that: The funds in the account may be traced to one or more particular investors or participants; and the existence of the trust relationships is disclosed in accordance with the requirements of § 330.5. If these conditions are satisfied, each participant's funds shall be insured as a deposit account of the participant.

* * * * *

Dated at Washington, DC, this 6th day of October, 2005.

By order of the Board of Directors.

Federal Deposit Insurance Corporation.

Robert E. Feldman,

Executive Secretary.

Footnotes

1.  In advocating the suggested change, this comment explained the change as follows: “[The change] would * * * further ensure that the participant's funds * * * would be aggregated with other deposit accounts of the participant held in the same bank, where appropriate, or would be appropriately segregated from other deposit accounts held by the same participant provided there are separate qualifying designated beneficiaries.” The reference to “qualifying beneficiaries” suggests that insurance coverage may be sought under 12 CFR 330.10. That section of the insurance regulations deals with revocable testamentary trust accounts. Under 12 CFR 330.10, such accounts are insured up to $100,000 for the funds contributed by each owner for the benefit of each beneficiary (with “beneficiary” meaning a person who shall become the owner of the funds upon the owner's death). See 12 CFR 330.10(a). This “per beneficiary” coverage is not available, however, unless certain requirements are satisfied. First, the title of the bank account must reflect the testamentary nature of the account. This requirement can be satisfied through the use of a term such as “payable-on-death” or “POD.” See 12 CFR 330.10(b). Second, the names of the testamentary beneficiaries must be identified somewhere in the bank's deposit account records. See id. Third, the beneficiaries must be “qualifying beneficiaries” (i.e., the owner's spouse, children, grandchildren, parents or siblings). See 12 CFR 330.10(a). By expressly providing that the funds of each participant will be treated as a separate “account,” the FDIC does not mean to affect any of the requirements for obtaining insurance coverage under 12 CFR 330.10. For example, as a result of the first requirement, no coverage will be available under 12 CFR 330.10 unless the bank establishes an account with “POD” or similar term in the account title. Also, coverage under 12 CFR 330.10 will not be available for a participant's funds in a qualified tuition savings program unless the participant is permitted under 26 U.S.C. 529 and the applicable state law to designate one or more beneficiaries who will receive the funds in the event of the participant's death.