In life we come to understand that “Everything old turns new again”; “History repeats itself”; or my personal favorite, “Been there, Done that”. The same could be said about Regulation U. Implemented so long ago (1936 to be exact), we all believe we know the requirements. So, why bring it up now?<br />Regulation U covers any loan secured by margin* stock with a balance greater than $100,000. For covered loans, the customer must complete the purpose statement form U-1 for bank and/or G-3 for non-bank lenders and/or the T-4 for broker/dealers. Note: Three types of lenders, bank, non-bank and plan.<br />
Margin stock includes any equity security registered on a national securities exchange, such as the New York Stock Exchange or the American Stock Exchange; any over-the-counter (OTC) security trading in the Nasdaq Stock Market's National Market; any debt security convertible into a margin stock; and most mutual funds.
The purpose statement/U-1 must be completed by the borrower and must state whether the loan proceeds are to “purchase or carry” a debt. Here’s why we bring it up. Lenders often instruct the borrower to put no there because the proceeds are not used to purchase the collateral. However, if the proceeds go to pay off a prior debt which at any time was used to purchase the collateral, the loan proceeds are being used to carry the debt.<br />To minimize market risk of the credit, the loan amount cannot exceed 50% of the current value of the margin stock. There are some exceptions when the 50% rule does not apply. A lender may extend and maintain purpose credit without regard to the 50% loan value limitations of Regulation U, if such credit is extended to any bank, any foreign banking institution, an ESOP, or any plan-lender.<br />Non-bank lenders must file an annual report related to the credit. Plan lenders may extend credit under the plan for any amount up to 100 percent of the current market value of the stock. A G-3 purpose statement is not required for these loans, but a plan-lender must still comply with the registration requirements and file annual reports.<br />Lender beware: When helping customer complete loan documents be sure you know how to properly give instructions. <br />So let’s revisit the steps for a bank lender, specifically: <br />Scenario 1: Loan application states proceeds are for personal use and loan is not secured by margin stock. No U-1 is required. <br />Scenario 2: Loan application is for personal use and is secured by margin stock, borrower completes the U-1. If the borrower states the proceeds are not to be used to purchase or carry the stock, the lender does not need to list the collateral on the U-1. Word of caution: if your proceeds check is paying off existing debt with another lender, confirm what the funds from the original note were used for.<br />Scenario 3: Loan application is for personal use and is secured by margin stock, borrower completes the U-1. If the borrower states the proceeds are to be used to purchase or carry the stock, the lender is required to list the collateral on the U-1 and complete the form by confirming market value and limited to 50% LTV. <br />