The business activities of financial institutions are subject to certain restrictions and prohibitions that are intended to prevent illegal or anti-competitive activities while promoting sound business practices, competition, and consumer protection.
The Banking Act provides restrictions on certain business practices of the banks. It also prohibits certain activities and limits the amount of credit that may be extended to a single counterparty for safety and soundness reasons.
Banks must operate with Chinese walls and other internal controls that are designed to identify, evaluate, and prevent any conflict of interest that may arise with their customers. Such systems must be integrated into the organization's overall internal control systems. When making a loan, banks may not demand a tie-in from the borrower such as a compensating deposit. When acquiring a third-party collateral or debt guarantee for a loan, banks may not demand unjustified claim or security interest from the borrower or the guarantor.
Banks are prohibited from engaging in certain investment activities for safety and soundness. In respect of securities investment, banks must limit their exposure to securities that are susceptible to extreme price volatility or liquidity risks. The exposure limit must also be proportionate to the level of capital available to readily meet any potential losses.
Ownership of land and other real properties that are intended for business operations is limited to 60 percent of the bank capital. The limitation is intended as a safeguard against excessive or prolonged exposure to illiquid assets. Ownership of real properties for purposes other than business operations is prohibited unless ownership stems from the acquisition of collateral from defaulted borrowers. The disposition of such property, however, must be completed within a year from the date of the acquisition.
The extension of credit is regulated to minimize significant counterparty risks and prevent unsound bank lending practices. Credit extension is broadly understood to include not only loans made or renewed, but also any loan guarantees or lines of credit granted and other transactions that obligate a person to pay money or its equivalent to the bank.