Organization and Operations of Federal Credit Unions; Credit Union Service Organizations; Advertising

NATIONAL CREDIT UNION ADMINISTRATION

12 CFR Parts 701, 712 and 740

Organization and Operations of Federal Credit Unions; Credit

Union Service Organizations; Advertising

AGENCY: National Credit Union Administration (NCUA).

ACTION: Notice of Proposed Rulemaking.

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SUMMARY: The NCUA is proposing to update, clarify and streamline

existing rules concerning credit union service organizations (CUSOs), a

common means of outside provision of services to federal credit unions

(FCUs) and to credit union members. The intended effect of the proposal

is to reduce regulatory burden, maintain safety and soundness, and

ensure the continuity and growth of services to FCUs and their members

conducted through CUSOs. Related conforming changes are also proposed

to amend NCUA's rules on credit union service contract and credit union

advertising requirements.

DATES: Comments must be received on or before May 12, 1997.

ADDRESSES: Comments should be directed to Becky Baker, Secretary of the

Board. Mail or hand-deliver comments to: National Credit Union

Administration, 1775 Duke Street, Alexandria, Virginia 22314-3428. Fax

comments to (703) 518-6319. Post comments on NCUA's electronic bulletin

board by dialing (703) 518-6480 or to NCUA's webpage on the Internet at

[email protected]. Please send comments by one method only.

FOR FURTHER INFORMATION CONTACT: Martin ``Sparky'' Conrey, Staff

Attorney, Division of Operations, Office of General Counsel, at the

above address or telephone: (703) 518-6540; or Linda Groth, State

Program Officer, Division of Supervision, Office of Examination and

Insurance, at the above address or telephone: (703) 518-6360.

SUPPLEMENTARY INFORMATION:

I. Background and Discussion

A. General

In 1977, Section 107 of the Federal Credit Union Act (12 U.S.C.

1757) was amended to authorize federal credit unions (FCUs) to invest

in, and make loans to, CUSOs subject to certain funding limits and

other regulatory restrictions. The first CUSO rule was promulgated in

1979; the last major revision of this rule was in 1986. In general, the

results of the 1986 revision have been very positive. Nonetheless, over

ten years of experience with the regulation indicates that there may be

a need for additional simplification, clarification, and improvement.

In particular, NCUA is aware that certain business and legal

developments make this a good time to review and update the CUSO rule.

NCUA staff researched the relevant regulations, guidance, legal

interpretations and reporting requirements of NCUA and the other

federal financial institution regulators. In addition, NCUA is

conducting a review of its regulations pursuant to the Regulatory

Reinvention Initiative of the Vice President's National Performance

Review and the NCUA Board's Regulatory Relief Project. The purpose of

this notice of proposed rulemaking is to identify and request public

comment on reducing regulatory burden and increasing the flexibility

and usefulness of CUSOs, while ensuring the safety and soundness of

FCUs and the National Credit Union Share Insurance Fund (NCUSIF).

In providing comments upon the proposed rule, commenters are

requested to keep in mind the needs of small credit unions, especially

community development and low-income designated credit unions and their

members. CUSOs provide an ideal means for smaller credit unions to

expand the types of products and services offered to their memberships,

offer economies of scale, enhance members' lives, and increase hours of

service and locations, through automated teller machines (ATMs),

service centers, and other CUSO services. CUSOs can result in more

favorable penetration rates of potential members through availability

of financial services that might not otherwise be available and can

result in a transfer of knowledge and expertise from larger, full-

service credit unions to smaller, more limited service credit unions,

which can have long-term positive implications upon safety and

soundness. Lately, NCUA has been concerned over some reports that

smaller credit unions have been unable to meet minimum investment or

other eligibility requirements in order to partake of CUSO services.

For this reason, NCUA is weighing various options to increase smaller

credit union utilization of CUSO services. One means might be through

informal guidance, such as an NCUA Letter to Credit Unions, regarding

smaller credit union participation in CUSOs. Another means might be

through informal understandings with the CUSO industry regarding

possible incentives to be offered to smaller credit unions, such as a

reduction in, or waiver of, ordinary transaction charges, or a lowered

minimum investment or deposit amount

[[Page 11780]]

in order to obtain CUSO services. For example, NCUA is currently

reviewing Interpretive Ruling and Policy Statement (IRPS) No. 79-6,

Donations/Contributions, 44 FR 56691 (October 2, 1979) to determine

whether restrictions are necessary upon the donative and charitable

activity of FCUs to other credit unions. NCUA might also consider

express authority for de minimis equity investments in community

organizations, such as certain CUSOs, as part of the IRPS 79-6 review.

Certainly, NCUA is interested in soliciting comments on these, and

other, ideas to increase the availability of CUSO services to small

credit unions, their members, and their potential members.

NCUA notes that the proposed corporate credit union rule contains a

new section on corporate CUSOs that would apply instead of the

provisions of the natural person credit union CUSO rule, as is the case

currently. Proposed Rule, 61 FR 28085, 28106 (June 4, 1996). Therefore,

while any corporate credit unions are welcome to comment on this

proposal, such credit unions should keep in mind the possibility that

this rule may not apply to their institutions.

B. Section-by-Section Analysis

Proposed Section 701.26(b), Credit Union Service Contracts

NCUA solicits comments on whether current section 701.26(b) of its

rules should be removed. That section states that when a vendor service

contract requires the advance payment of more than 3 months, such

payment is deemed an investment in a CUSO subject to section 701.27 of

NCUA's rules. Current business practices of many vendors either require

such payments or give a discount to the purchasing credit union for

paying in advance. Not all vendors are CUSOs, or lend themselves to

having the CUSO rule applied to them. NCUA asks whether section

701.26(b) is outdated, imposes regulatory burdens, and is unnecessary.

It is proposed to be removed.

Proposed Part 712

In order to assist readers of the CUSO rule, NCUA proposes to

remove current section 701.27 and replace it with a new Part 712, which

Part is now unoccupied. Since the rule applies to FCUs, but is of much

interest to other parties, such as CUSOs and other CUSO investors, it

is hoped that by giving CUSOs their own section of NCUA's Rules and

Regulations, the rule will be more prominently featured and better

known, resulting in increased compliance and in a reduction of NCUA

staff time spent interpreting the regulation to interested parties.

Raising the rule to a part also results in more convenient citations

with fewer subsections. The most noticeable change in proposed Part 712

is the use of a Plain English question and answer format. Plain English

is being promoted within the Federal government as a means to increase

regulatory comprehension and compliance for users of regulations. An

intended consequence of this format, other than anticipated increased

compliance, is a lessening of misunderstandings caused by vague or

unclear standard regulatory language, which also results in increased

administrative efficiency. This revision and redesignation is done in

the spirit of regulatory review, reinvention, and renewal. Comment is

requested on the use of the Plain English format, or alternative

formats that could be used to achieve the goals of the Plain English

movement.

Proposed Section 712.1, What does this part cover?

Proposed section 712.1 condenses existing section 701.27(a), Scope,

by eliminating statutory citations and a summary of rule requirements

contained elsewhere in the rule. No change in the scope of the rule is

intended by the proposed amendment.

The term ``affiliated credit union'' is used to represent the

spectrum of credit unions that are eligible to make the services of a

CUSO available to their membership within the customer base

requirements of the CUSO rule. Under the current rule, ``affiliated

credit unions'' are those credit unions that either invest in, or lend

to, a particular CUSO. FCUs that are not an ``affiliated credit union''

of a CUSO may allow services of that CUSO to be available to their

membership through the group purchasing rule. 12 CFR Part 721. The

current arrangement has the effect of making members of non-affiliated

credit unions count as nonmembers for purposes of the customer base

requirements of the CUSO rule. To correct this anomaly, the proposed

revision adds to the definition of ``affiliated credit union'' those

credit unions that simply contract with a CUSO for provision of

services (something currently done under the group purchasing rule), in

addition to investor and lender credit unions of the CUSO. The result

of this is not to penalize CUSOs for serving members of credit unions

that may be permissibly served under the group purchasing rule.

Comments are requested on whether this amendment realizes its goal of

permitting CUSO services to continue to be provided to credit union

members of credit unions not investing in, or lending to, the CUSO

without violating CUSO customer base requirements.

In the interests of Plain English, the term ``affiliated credit

union'' is shortened to ``you'' in most of Part 712. When a requirement

applies only to affiliated credit unions that have loans to, or

investments in, CUSOs (e.g., proposed sections 712.2(a-c), 712.3(a-d),

712.4(a), 712.7, and 712.9) or to affiliated credit unions with a 10%

equity interest in a CUSO (e.g., proposed section 712.4(b)), the

narrowed application is noted in the adjacent rule language. Therefore,

readers should be careful to read the term ``you'' in context of

surrounding language. ``You'' does not mean all affiliated credit

unions at all times in all places.

Proposed Section 712.2, How much can you invest in, or loan to, CUSOs,

and what parties may be involved?

The proposed revision would eliminate existing section 701.27(b),

Limits imposed by the FCU Act, as being repetitive of other rule

provisions. The statutory provisions of the FCU Act are, and would

continue to be under the proposal, completely incorporated into other

provisions of the CUSO rule. Provisions concerning funding limitations

and CUSO parties, currently in section 701.27(d)(1), would be contained

in proposed section 712.2.

Proposed Limits on Funding

The funding limitations contained in proposed section 701.2 (a) and

(b) are statutory in nature and required by Sections 107(5)(D) and

(7)(I) of the FCU Act. 12 U.S.C. 1757(5)(D) and (7)(I). An FCU cannot

invest more than one percent of its paid-in and unimpaired capital and

surplus in CUSOs. Nor can an FCU loan more than one percent of its

paid-in and unimpaired capital and surplus to CUSOs. Paid-in and

unimpaired capital and surplus means shares and undivided earnings.

NCUA staff would like to clarify the scope of covered CUSO

investments and loans. In the past, NCUA has deemed all of the

following to be either loan or investment equivalents in the context of

the CUSO rule: standby letter of credit issued by an FCU to cover a

CUSO; sale and leaseback transactions; installment sales and other

similar equipment financings; payment of CUSO expenses by FCU, such as

subsidies; guarantees of CUSO debt or purchase of CUSO debentures; FCU

pledge and guarantee of loans from other entities to the CUSO; and FCU

spin-off of assets to CUSOs. All of these loan and investment cash

[[Page 11781]]

equivalents are used in determining the actual aggregate cash outlay

figure.

For compliance purposes, FCUs should generally use the aggregate

cash outlay figure in order to compute the regulatory CUSO investment

and loan limits. This number would equal the total amount of FCU funds

either invested in, lent to, or available to be lent under a line of

credit with the FCU to, the CUSO. If an FCU accounts for its CUSO using

the cost method consistent with Generally Accepted Accounting

Principles (GAAP) and writes down the investment because of other than

temporary impairment, the written down amount becomes the new basis and

computes into the new aggregate cash outlay figure.

Calculation of the CUSO funding limits is a separate issue from

reporting CUSO investments and loans under GAAP. GAAP requires one of

three measurement options--the cost method, equity method, or

consolidated financial statements--depending upon the degree of

ownership an FCU has in a CUSO. FCU financial reporting of CUSO

activity should follow GAAP. The definition of ``paid-in and unimpaired

capital and surplus'' is unchanged in the proposal from the current

definition in section 701.27(c)(4). The content of the provision

regarding parties eligible to be CUSO investors or lenders, proposed

section 712.2(c), remains unchanged from the current reference in

section 701.27(d)(1).

Proposed Section 712.3, What are the characteristics of, and what

requirements apply to, CUSOs?

The proposed revision incorporates existing provisions on

Structure, currently section 701.27(d)(2), Customer base, currently

section 701.27(d)(4), Accounting procedures and access to information,

currently section 701.27(d)(7), and Compliance with other laws,

currently section 701.27(e), into new section 712.3.

Proposed Structure

For consistency purposes, NCUA proposes to add the limited

liability company (LLC) format to the existing permissible CUSO entity

structures in proposed section 712.3(a). Definitions for three new

terms are proposed to be added to this paragraph, ``corporation,''

``limited liability company,'' and ``limited partnership.'' The terms

``corporation'' and ``limited partnership'' are meant to clarify

existing NCUA interpretations regarding the current, permissible forms

of a CUSO. Corporations are creatures of statute, generally formed by a

combination of steps, including the filing of articles of

incorporation, the drafting and implementation of bylaws, and being

capitalized through the issuance of stock and/or bonds. A limited

partnership is also a creature of statute, generally formed by filing

with the state a certificate of limited partnership. Many limited

partnerships also have a limited partnership agreement which details

partnership specifics. Similar to both corporations and limited

partnerships, an LLC is a noncorporate business in which all of the

member-owners have limited liability and in which members can actively

participate in management. Generally, an LLC is created by filing

articles of organization with the state. Most LLCs also have an

operating agreement, which sets forth the managers' and members' rights

and obligations and management specifics. In some states, the LLC

format provides investors limited liability equivalent to that of the

corporation or limited partnership formats. However, in many states the

LLC laws have not yet been tested and upheld in the courts, and state

laws are not uniform.

NCUA views the lack of LLC law uniformity among the various states

as a problem. States have often relied upon uniform acts to provide

consistency and promote comity between the various states. For

examples, many states have adopted a form of either the Model Business

Corporation Act or the Revised Model Business Corporation Act, and most

states have adopted either the Uniform Limited Partnership Act or the

Revised Uniform Limited Partnership Act. NCUA has had many years of

experience with these uniform laws through CUSOs formed in both the

corporate format and limited partnership format. However, unlike the

uniform corporation and limited partnership laws, the Uniform Limited

Liability Company Act (ULLCA), adopted by the National Conference of

Commissioners on Uniform State Laws in 1994, has not been adopted by

any states.

Other potential negatives also exist. For example, most states

permit any LLC member to withdraw from an LLC at any time and receive

the fair market value of his or her membership interest. This can

trigger a capital crisis or act as a means for LLC members holding

larger interests to control other LLC members to the detriment of the

LLC. This potential instability may make it harder for the LLC CUSO to

attract working capital and talented employees. In addition, most LLC

acts specify that each LLC member is entitled to an equal vote on each

LLC matter and that each member has full power and authority to act as

an agent of the LLC. Most LLC acts, while permitting LLC economic

interests to be freely transferable, permit management (voting and

agency rights) to be transferable only with the consent of all other

LLC members. These unique strictures of the LLC format may lead to

management, operational, and accountability problems not seen in the

corporate and limited partnership formats. Also, taxation issues

regarding a nonprofit, nontaxable entity's investment in an LLC are

unclear. NCUA solicits information regarding the likely taxation of a

nonprofit, nontaxable entity's investment as an LLC member. In

particular, NCUA is interested in reviewing an Internal Revenue Service

(IRS) advance ruling regarding this issue. If one does not currently

exist NCUA may suspend a resolution of the LLC issue until such an IRS

advance ruling does exist.

It is critical that a CUSO be of a proven format that will insulate

FCU investors from liabilities incurred by the CUSO. The proposal

limits the availability of the LLC format to those states where an FCU

can obtain written legal advice that the state of formation's laws will

provide limited liability to the investing FCU equivalent to that of a

shareholder in a corporation or as a limited partner in a limited

partnership. However, comment is requested on other alternative

definitions that would provide equal assurance to NCUA of the limited

liability available to LLCs in various states. Attention to issues of

ease of examination, administrative application, and enforcement should

also be paid.

NCUA notes that CUSOs, as state-chartered entities, are subject to

relevant federal, state and local taxes. Being taxable entities, CUSOs

may take advantage of appropriate tax options, such as electing

cooperative tax status in a proper situation.

However, CUSOs will not be permitted to attempt to evade NCUA's

statutory and regulatory requirements. For example, the CUSO rule

applies to all levels or tiers of a CUSO's structure. Therefore, any

entity in which a CUSO invests will also be treated as a CUSO subject

to the CUSO rule. In other words, all tiers of a CUSO are also CUSOs.

Also, a CUSO will not be permitted to evade the limited liability

insulation of the limited partnership format by forming a corporation

CUSO to be a general partner of a limited partnership CUSO. Substance

over form will control, and NCUA will collapse such a transaction to

its essence deeming it the formation of a general partnership CUSO,

which is now, and is proposed to remain, impermissible.

[[Page 11782]]

Proposed Customer Base

Proposed section 712.3(b) deletes the cross-reference for the

definition of ``affiliated credit union'' to the definitions paragraph

that appears in current section 701.27(d)(4). The proposed rule has no

separate paragraph for definitions; instead, definitions appear next to

their first use in the regulatory text. Otherwise, the content of the

proposed section 712.3(b) remains unchanged from current section

701.27(d)(4). NCUA is soliciting comments on whether further guidance

should be offered on the definition of ``primarily serves'' in the

customer base requirement. In the 1986 final CUSO rule preamble, the

Board stated that defining the term as a percentage of business or

percentage of customers could prove arbitrary. In the past, NCUA's

definition of the term ``primarily serves'' has depended upon several

variables, such as: type of business(es) provided; number of affiliated

members served; gross or net revenues derived from affiliated members;

amount of affiliated members' assets under management; number of

policies sold to affiliated members; number of services provided to

affiliated members; and availability/access of services to affiliated

members. Since CUSO permissible services and activities vary so much by

business, and since many CUSOs are engaged in multiple permissible

services and activities, coming to a simple standard applicable to all

lines of business and all CUSOs is problematic. Still, if a simple,

equitable standard could be applied, NCUA may not be adverse to using

it. In providing comments, commenters are asked to consider the issues

of ease of administrative application and enforcement.

Proposed FCU and CUSO Accounting; Access to Information

Proposed sections 712.3(c) and (d) contain no changes from current

sections 701.27(d)(7)(i) and (ii). However, NCUA would like to obtain

comment on a few aspects of the current rule. First, NCUA is soliciting

comments on whether NCUA examination and supervision authority over

CUSOs should be strengthened. Both the Office of Thrift Supervision

(OTS), which charters and supervises federal savings associations, and

the Office of the Comptroller of the Currency (OCC), which charters and

supervises national banks, subject their regulated financial

institutions' subsidiaries to examination and supervision ``in the same

manner and to the same extent'' as the parent financial institution. 12

CFR 5.34(d)(3)(OCC) and 559.3(o)(OTS). NCUA believes that this approach

might be superior to the current approach of a contractual right of

review in several ways. It would make it easier for NCUA to react

quickly and more directly to situations involving CUSO safety and

soundness. It would also enable NCUA to better protect the NCUSIF from

potential FCU losses due to CUSO losses. Presently, NCUA's main

recourse is through threatened divestments or disposals of CUSO

interests and loans. NCUA is also concerned that CUSOs performing

critical, core functions for affiliated credit unions,\1\ may

disastrously affect affiliated credit union services if the CUSOs were

to fail, suspend services, or experience another situation resulting in

discontinuance of services. For example in instances where member

transactions flow through the CUSO, credit unions could be at risk of

losing much more than the amount of their CUSO investment or loan.

However, NCUA realizes that treating CUSOs as an extension of its

affiliated credit unions might also have some drawbacks as well. It

would be a factor a court could consider in piercing the corporate veil

and finding liability over to a credit union investor or lender. It

would be a major change from existing practice, which for the vast

majority of CUSOs has worked very well. For these reasons, NCUA is

interested in public comment regarding the best scope of review or

examination and supervision authority of CUSOs.

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\1\ As a point of beginning, NCUA considers the following a list

of such critical, core services and activities: (1) Share-related

core services. Data processing of share deposits, withdrawals, and

other account transactions; Operations conducting member share

transactions for credit unions, including service center branches,

remote service operations and ATMs; Provision of share account

related clerical, professional, or management services; Share draft

and deposit posting, sorting and processing; ACH services;

Advertising, brokerage, and other services to procure and retain

share accounts; Computation and posting of dividends and other

credits and charges; Preparation and mailing of share drafts,

statements, notices and similar items; (2) Credit-related core

services. Data processing of loan applications, evaluations,

extensions, collections, and payments; Making, acquiring, servicing,

warehousing or otherwise processing member loans or other extensions

of credit for a credit union, including consumer loans, credit card

loans, mortgage loans, business loans and loan equivalents, such as

leasing and indirect lending programs; Operations conducting lending

activity for credit unions, including service center branches,

remote service operations, ATMs, and loan production offices;

Advertising, brokerage, and other services to procure and retain

loans; Advising, structuring, and arranging extensions of credit;

Provision of credit analysis services; Provision of credit account

related clerical, professional, or management services; and (3)

Other related core services. General ledger data processing;

Management, development, sale or lease of affiliated credit union

fixed assets; Record retention, security and disaster recovery

services; Provision of investment advice, counseling, or services;

Provision of liquidity management, investment, advisory and

consulting services; Development and administration of personnel

benefit programs, including life insurance, health insurance, and

pension and retirement plans.

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Commenters are also asked to address issues concerning a middle

ground, such as requiring CUSOs to adhere contractually to any

conditions in writing imposed upon their business by the NCUA.

Currently, both OTS and OCC may impose conditions in writing upon the

subsidiaries of their regulated financial institutions. 12 CFR

5.34(d)(4)(OCC) and 559.1(b)(OTS). Another possibility would be to

strengthen the existing audit and reporting requirements further, or to

require CUSOs to adopt specified policies, procedures, and other

internal safety and soundness controls.

Commenters are also requested to comment on whether NCUA should

charge a review or examination fee for conducting CUSO supervision

activities. Currently, the OTS may assess a subsidiary examination fee.

12 CFR 559.3(o). More intensive CUSO reviews or examinations would

require more specialized examiner training and take time to complete.

On average, it currently takes at least one week to finish a CUSO

review. If all CUSOs were reviewed on a regular basis, it could add a

substantial strain on NCUA's budget and resources. A CUSO examination

fee would be one means to ensure that the cost for this program would

be borne by CUSOs and not all federally insured and federally charted

credit unions, many of which do not utilize CUSO services.

Additionally, commenters are reminded that: CUSOs must follow GAAP

for financial reporting purposes; affiliated credit unions must follow

GAAP or alternative accepted regulatory accounting practices (RAP).

Further, CUSOs must obtain audits consistent with generally accepted

auditing standards (GAAS). NCUA interprets GAAP to mean compliance with

standards of the Financial Accounting Standards Board (FASB) and

related hierarchy, and GAAS to mean auditing standards issued by the

American Institute of Certified Public Accountants (AICPA), unless

otherwise determined by NCUA.

NCUA recommends that a CPA performing an opinion audit of the

financial statements of an FCU that uses a CUSO to process transactions

consider the guidance in the AICPA's Statement on Auditing Standards

(SAS) No. 70, Reports on the Processing of Transactions by Service

Organizations, when planning and performing the audit. SAS No. 70

provides guidance

[[Page 11783]]

when an FCU obtains either or both of the following services from a

CUSO: (1) executing transactions and maintaining the related

accountability; and (2) recording transactions and processing related

data. The AICPA recommends SAS 70 reports be completed in CUSO trust

companies that invest and hold assets for FCU employee benefit plans;

CUSO mortgage bankers that service mortgages for FCUs; electronic data

processing (EDP) service centers that process transactions and related

data for FCUs; and other situations in which a CUSO develops, provides

and maintains the software used by FCUs. The SAS 70 report on policies

and procedures placed in operation and tests of operating effectiveness

are crucial in keeping FCUs informed of internal control weaknesses of

CUSOs performing core functions of the FCU. NCUA requests comment on

this approach.

NCUA also clarifies that the current requirement for a CPA audit

means an opinion audit and nothing less. The audit must be an audit of

the separate CUSO entity and not simply an audit of the FCU's financial

statements prepared on a consolidated basis, unless the CUSO is a

wholly-owned CUSO. The reason for this longstanding position is that

all credit unions investing in the CUSO need to be aware of any

potential risks in their CUSO. This clarification reflects current

practice and policy.

Compliance with Other Laws

Proposed section 712.3(e) remains unchanged from current section

701.27(e). NCUA has interpreted this requirement to apply not only to

laws applicable to the proper maintenance of either corporate or

limited partnership format, such as fee, filing and tax requirements,

but also to any other laws applicable to the nature of the CUSO's

business. For instance, an insurance agency CUSO must comply with state

insurance laws and regulations. Any CUSO that classifies as a franchise

would need to follow federal and state franchising laws. Any CUSO

service center would need to follow all applicable federal consumer

protection laws related to its activities, as well as other relevant

laws applicable to FCUs, such as those relating to supervisory

committee access (12 CFR 701.12-.13); loans to members (12 CFR 701.21);

truth in savings (12 CFR Part 707); advertising (12 CFR Part 740);

share insurance (12 CFR Part 745); security program, report of

suspicious activity, and bank secrecy act compliance (12 CFR Part 748);

records preservation and retention (12 CFR Part 749); and relevant

bylaw requirements, such as those relating to the confidentiality of

member records (Standard Federal Credit Union Bylaws, NCUA Publication

No. 8001).

Proposed Section 712.4, What must you and a CUSO do to maintain

separate corporate identities?

The proposed revision retains a version of the legal opinion

requirement of current section 701.27(d)(3), and adds a requirement

that corporate separateness be maintained between the FCU and the CUSO.

Proposed Separate Corporate Existence

The language used in proposed section 712.4(a)(1-6) is borrowed

from the OTS rules applicable to federal savings and loan service

corporations. 12 CFR 559.10. NCUA currently recommends such operating

practices in the NCUA Examiner's Guide, but believes that codifying

these guidelines into a rule will help to publicize the practices,

provide clear brightlines for compliance, provide continuing guidance

during the life of the CUSO, and not carry the drawbacks of solely

relying upon the legal opinion requirement. NCUA is not suggesting that

a failure to follow one or more or all of such suggested practices by

an FCU and its CUSO should cause a court to ignore the separate

corporate existence of the CUSO. Nor is NCUA suggesting that attorney

involvement is unwise or unnecessary for FCUs contemplating CUSO

involvement. Quite to the contrary, NCUA encourages legal, accounting,

tax advisor, and other consultant involvement in matters affecting CUSO

investments and loans. Legal opinions are important, but may not be

sufficient in and of themselves to achieve safety and soundness and

continued corporate separateness. However, by following the proposed

requirements, an FCU should be able to avoid potential exposure for

CUSO obligations. Comment is requested on this approach.

In addition, NCUA has long interpreted the Act to require as

minimum coverage that an FCU's fidelity bond provide coverage for the

fraud or dishonesty of all employees, directors, officers, and

supervisory and committee members. 12 U.S.C. 1766(h); 12 CFR 701.20(c).

Some question has arisen as to whether the directors and employees of a

CUSO should be covered by the fidelity bond of the FCU investor or

lender of the CUSO. This point of law is currently unsettled. After

some initial research, it seems that the insurance industry makes a

wide variety of insurance products available to CUSOs that are similar

to the FCU fidelity bond in coverage. A basic Commercial Crime Policy

can include coverage for employee dishonesty, theft, disappearance and

destruction, and depositor's forgery. Similarly, mortgage service CUSOs

generally must have a bond meeting secondary mortgage market

requirements, such as a Financial Institutions Bond Standard Form No.

15 (Mortgage Bankers Blanket Bond Policy). Likewise, a securities

brokerage CUSO often will be a member of the National Association of

Securities Dealers (NASD), and will meet NASD bonding requirements

through a Financial Institutions Bond Standard Form No. 14 (Security

Brokers Blanket Bond). NCUA strongly encourages CUSOs to maintain

business insurance adequate to meet the CUSO's needs as determined by

each CUSO's board of directors and management. At this time, NCUA does

not believe that it is necessary to codify any CUSO bonding or

insurance requirements, however, commenters are urged to respond as to

whether a CUSO bond or insurance requirement is necessary, and, if so,

given the variances in CUSO bond or insurance options available, what

the requirement should contain and achieve.

Proposed Legal Opinion

In current section 701.27(d)(3), an FCU must obtain a written legal

opinion as to whether the CUSO is established in a manner that will

limit the FCU's potential exposure to no more than the amount invested

in, or lent to, the CUSO. The legal opinion requirement does not

require updating as new services are offered, nor does the legal

opinion track management practices at a CUSO that could lead to

liability exposure to the affiliated credit union. In addition, some

credit union attorneys have questioned the implication that the rule

requires lawyers to act as guarantors or sureties of a CUSO's correct

formation and continued legal existence. To remedy these weaknesses,

NCUA proposes to amend the legal opinion requirement to require that

the legal opinion be obtained both when a CUSO is established and

whenever the CUSO adds a new permissible activity or service that

materially affects the CUSO. A legal opinion would also be required if

a CUSO converts from one permissible structure, such as a limited

partnership, to another permissible structure, such as a corporation.

This is in addition to the requirement that separate corporate

existence be maintained between the FCU and CUSO and is designed to

reduce the potential liability between an FCU and its CUSO investments.

In order to reduce the regulatory burden of obtaining legal

[[Page 11784]]

opinions, NCUA proposes that legal opinions will only be required for

FCUs owning a 10% or greater equity interest in a CUSO. NCUA roughly

estimates that this will reduce the number of legal opinions needed by

as much as 80%. Comment is requested on the approach, and also the use

of 10% as a material threshold for monitoring potential FCU liability

exposure through a legal opinion requirement.

Proposed 712.5, What activities and services are preapproved for CUSOs?

Proposed paragraphs (a)-(o) of section 712.5 reorder and

recategorize current sections 701.27(d)(5)(i and ii), permissible

services and activities, into a more user friendly format and add

services and activities deemed permissible by opinion letter since the

1986 rule revision.

Proposed Permissible Services and Activities

The first sentence of proposed section 712.5 is derived from

requirements imposed by the OCC and OTS upon bank and thrift

subsidiaries. 12 CFR 5.34(d)(3) and 559.1(b). OCC and OTS reserve the

right to limit any bank or thrift subsidiary's activities, or to refuse

to permit activities, for supervisory, legal, or safety and soundness

reasons. NCUA proposes to apply these same requirements to CUSOs. NCUA

sees this amendment as a clarification of existing NCUA practice.

Currently, NCUA provides interpretations of the parameters of existing

permissible CUSO activities through the issuance of legal opinion

letters and Regional and Central Office correspondence. As the proposed

amendment provides, these current NCUA pronouncements are based upon

supervisory, legal, and safety and soundness grounds. The proposed

amendment only puts FCUs and CUSOs on notice that NCUA does have the

right to interpret the parameters of permissible CUSO services and

activities. If transgressions are discovered after the fact, currently

NCUA can work with the credit unions and CUSOs involved to arrive at a

mutually satisfactory conclusion. In an extreme case, NCUA can order

the affiliated credit union to divest its CUSO investment or dispose of

its CUSO loan. NCUA may also already exercise these remedies if the

normally permissible CUSO services and activities are improperly,

imprudently, or recklessly conducted. Therefore, the proposed amendment

adds no new powers to NCUA's supervision of affiliated credit unions'

CUSO investments and loans. Comment is requested on the addition of the

proposed amendment in this context.

NCUA proposes to rearrange the list of permissible activities and

services for ease of understanding and citation, and to reflect changes

in CUSO activities and services. Since 1986, NCUA has divided all CUSO

activities into two categories: operational and financial. However,

many of these services and activities are now a combination of both

operational and financial services. The proposed change also reflects a

return to the 1978 CUSO rule format of listing services by related

categories. The proposed categories of permissible services and

activities are as follows: checking and currency services; clerical,

professional and management services; consumer mortgage loan

origination; electronic transaction services; financial counseling

services; fixed asset services; insurance brokerage or agency; leasing;

loan support services; real estate brokerage services; record

retention, security and disaster recovery services; securities

brokerage services; shared credit union branch (service center)

services; travel agency services; and trust and trust-related services.

The category headings are solely descriptive in nature and not meant to

convey authority for additional services and activities beyond the

specific services and activities listed.

Eight new services, reflecting current NCUA interpretations of

existing services, are proposed to be included in the rule revision.

First, in proposed paragraph (a)(3), under checking and currency

services, NCUA proposes to add ``money order, savings bonds, travelers

checks, and purchase and sale of U.S. Mint commemorative coins

services.'' Second, in proposed paragraph (b)(2), under clerical,

professional and management services, NCUA proposes to add ``courier

services.'' Third, in proposed paragraph (b)(4), also under clerical,

professional and management services, NCUA proposes to add ``facsimile

transmissions and copying services.'' Fourth, in proposed paragraph

(b)(10), also under clerical, professional and management services,

NCUA proposes to add ``supervisory committee audits.'' Fifth, in

proposed paragraph (d)(5), under electronic transaction services, NCUA

proposes to add ``electronic income tax filing.'' Sixth, in proposed

paragraph (h)(2), under leasing, NCUA proposes to add ``real estate

leasing of excess CUSO property.'' This covers real estate leasing only

of premises acquired for CUSO business, and otherwise mainly used in

CUSO business, that may later be used for future CUSO expansion.

Although ``personal property leasing'' and ``real estate leasing of

excess CUSO property'' are listed as the only two permissible leasing

services in proposed paragraph (h), fixed asset leasing is also

permitted, but retained with the other permissible fixed asset

activities in proposed paragraph (f)(1). Seventh, in proposed paragraph

(k)(2), under record retention, security, and disaster recovery

services, NCUA proposes to add ``disaster recovery services.'' Eighth,

in proposed paragraph (k)(3), also under record retention, security and

disaster recovery services, NCUA proposes to add ``optical imaging, CD-

ROM data storage and retrieval services'' to current ``microfilm and

microfiche services.'' NCUA believes that these proposed amendments are

self-explanatory, and only codify existing permissible services and

activities not currently in the rule itself. Comment is requested on

both the content and wording of these proposed amendments. In

particular, NCUA would like to use terms that keep abreast of current

and future technologies to provide CUSOs with operating and market

flexibility in accomplishing permissible CUSO services and activities.

NCUA has also received requests to add consumer loan originations

to the list of permissible activities. Historically, NCUA has been

opposed to this addition. Unlike consumer mortgage loan origination,

which requires a specialized lending staff, must follow strict

secondary mortgage market rules, and requires economies of scale in

order to be viable, consumer loans are relatively easy to offer and

process. In addition, NCUA is apprehensive in granting CUSOs authority

to provide consumer loans to the general public, as it may be perceived

as a dilution of the common bond by Congress and the public. NCUA is

also concerned that if member loans were being made by CUSOs, NCUA

would have a duty to examine such loans which would lead to stricter

NCUA examination authority over CUSOs. However, due to the requests to

add it as an additional service, NCUA would like to request comment on

adding consumer loan origination as an additional service. Comments

detailing needs, benefits, and drawbacks of offering this service

outside of the credit union itself are especially solicited. Comments

are also solicited on whether consumer loan origination services would

be helpful to small, low-income, or community development credit

unions. Commenters should address whether consumer loan services should

be permissible only for credit unions of

[[Page 11785]]

a certain asset size and how such a class should be defined.

CUSOs, according to the FCU Act, are to provide ``services which

are associated with the routine operations of credit unions.'' 12

U.S.C. 1757(7)(I). In addition, CUSOs are to be ``established primarily

to serve the needs of its member credit unions, and whose business

relates to the daily operations of the credit unions they serve.'' 12

U.S.C. 1757(5)(B). In providing these daily, routine services of need

to credit unions, CUSOs must avoid investments in depository financial

institutions, insurance companies, trade associations, liquidity

facilities, and similar entities. 12 U.S.C. 1757(7)(I). In the past,

NCUA has interpreted this statutory authority broadly to encompass most

services and activities a credit union can provide to itself and its

members through use of express authority, incidental authority, or

goodwill authority. NCUA feels this interpretation is supported by the

language of the FCU Act, which sets forth a clear boundary of CUSO

services, namely, services fulfilling credit union and credit union

member needs. Nor did Congress purport to limit CUSO activities by

cross-reference to statutory FCU powers or by specifically listing CUSO

powers in the statute.

With this discussion in mind, two services currently offered by

CUSOs have been denied as proper incidental authorities for other

financial institutions. The first is the provision of data processing

services to the general public (Nat. Retailer Corp. of Ariz. v. Valley

Nat. Bank, 604 F.2d 32 (9th Cir. 1979) and Ass'n of Data Processing

Service Organizations, Inc. v. Federal Home Loan Bank of Cincinnati,

568 F.2d 478 (6th Cir. 1977)) and the second is the provision of travel

related services (Arnold Tours, Inc. v. Camp, 408 F.2d 1147 (1st Cir.

1969) and Assn. of Bank Travel Bureaus, Inc. v. Bd. of Gov. of Federal

Reserve System, 568 F.2d 549 (7th Cir. 1978)). Although NCUA in the

past has permitted these two services as permissible CUSO services on a

member goodwill basis, NCUA would like to request public comment,

thereby creating an administrative record, on whether NCUA's position

is supported by fact and justified as a proper agency interpretation.

Goodwill services are those services that would normally be neither

express nor incidental, but provide services to members that either

cannot be conveniently obtained elsewhere or can be provided within the

traditional mission of a credit union. For instance, offering vendor

services through the group purchase rule could be termed a goodwill

activity. By making goods and products available to members that have

been reviewed and endorsed by the credit union, members are assured

that the offered products and services are legitimate and helpful.

Comments relating to member needs of such services would be helpful to

the NCUA Board in determining whether sufficient authority exists for

the Board to retain these services as permissible CUSO services. In a

similar vein, although NCUA currently does permit real estate brokerage

services as a permissible service, NCUA has been troubled by cases

involving conflicts and the appearance of conflicts between real estate

brokerage CUSOs and the credit unions such CUSOs serve. For similar

reasons regarding impairment of appraiser independence and possible

conflicts of interest, NCUA has declined to add real estate appraisal

activities to the list of permissible activities. Comment is also

requested regarding the propriety of maintaining real estate brokerage

services as a permissible service in a revised rule. NCUA also requests

comments regarding any aspects of any other currently allowable, or

potentially allowable, CUSO activity or service.

Proposed 712.6, What activities and services are prohibited for CUSOs?

This proposed section restates the statutory prohibition of 12

U.S.C. 1757(7)(I). NCUA legal opinion letters have opined that trade

association affiliates and subsidiaries are eligible to form CUSOs with

FCUs; however insurance company affiliates and subsidiaries are not so

eligible. NCUA bases this difference upon the composition and purpose

of the trade association affiliates and subsidiaries, which derive from

and benefit the credit unions themselves, as opposed to insurance

companies, which are not composed of, or directly benefit, credit

unions.

Proposed 712.7, What must you do to add activities or services that are

not preapproved?

Current Sec. 701.27(d)(5)(iii) regarding NCUA approval of other

activities and services is unchanged in proposed section 712.7. Though

it has never been used since its inclusion in 1986, the provision does

provide a means for the permissible activities and services portion of

the rule to keep pace with changes in the marketplace and technological

advances. The terms ``NCUA Board,'' and ``Secretary of the Board,''

have the meanings ascribed to them in Part 790 of the NCUA Rules and

Regulations. 12 CFR Part 790.

Proposed 712.8, What transaction and compensation limits might apply to

individuals related to you or a CUSO?

Proposed section 712.8 contains conflict of interest provisions

between FCUs and CUSOs.

Proposed Conflict of Interest

Section 701.27(d)(6) currently imposes restrictions between an

affiliated credit union and a CUSO. The primary purposes of the

conflict of interest section is to prevent insider abuse and self-

dealing that could lead to losses at the CUSO, affiliated credit

unions, and the NCUSIF. It is the responsibility and fiduciary duty of

FCU volunteers and employees to make decisions based on the best

interests of the FCU and its members. Motivations of personal financial

gain from CUSO activities could present an inherent conflict of

interest. Such motivations in various CUSO cases have led to personal

gain by FCU officials and resulted in FCU losses, occasionally even

resulting in the liquidation or merger of the FCU. In addition, CUSO

compensation of FCU volunteers could serve as means to subvert the

prohibitions on volunteer official compensation contained in the Act.

12 U.S.C. 1761 and 1761a. Moreover, compensation of shared CUSO/FCU

officials might be a factor that a court could evaluate in deciding to

pierce the corporate veil to expose an affiliated credit union to

liability. For these reasons, therefore, NCUA is committed to

maintaining strong conflicts of interest provisions between CUSOs and

FCUs. In this vein, NCUA is proposing one change to the current

language of the rule. Currently, under section 701.27(d)(6)(i), a CUSO

may reimburse an FCU for the services of an FCU official or FCU senior

management employee used by a CUSO. The ability of a CUSO to reimburse

an FCU for the services of FCU officials in the CUSO was orginally

permitted to enable newly formed CUSOs to have low cost help. It is

possible that this provision might still be needed, especially in the

context of smaller credit unions establishing CUSOs. As stated earlier,

NCUA wants to encourage increased smaller credit union involvement with

CUSO activities and services. On the other hand, NCUA is concerned that

reimbursement issues could affect the corporate separateness of a CUSO

and an FCU, as well as the other issues discussed in this paragraph.

Therefore, NCUA is proposing the elimination of the reimbursement

exemption. Comment is requested on this proposed change, especially

regarding any

[[Page 11786]]

repercussions upon the ability of smaller credit unions in forming and

maintaining CUSOs. Comments are also solicited on any other regulatory

improvements that would enable NCUA to better police and contain CUSO/

FCU conflicts.

The definitions of ``immediate family member,'' ``official,'' and

``senior management employee'' remain unchanged in the proposal from

the current definitions in section 701.27(c)(2, 3, and 5).

Proposed 712.9, When must you begin compliance with the revised rule?

Proposed section 712.9 updates the compliance phase-in period of a

final revised CUSO rule.

Proposed Preexisting CUSOs.

Other than a proposed change in the date of this section, from May

27, 1986, to the effective date of any final rule, section 701.27(d)(8)

remains mostly unchanged in proposed section 712.9. NCUA has

experienced one CUSO activity, ATM services, that often began as a

service primarily to credit unions, but with ATM network and switch

consolidations, arguably does not meet the CUSO rule ``primarily

serves'' customer base requirements. In some of these situations, it is

NCUA's understanding that an institution must hold stock in the ATM

network or switch in order to participate in the ATM network or switch.

NCUA does not want to deny credit union members ATM services due to a

rule restriction. Therefore, comment is requested on how best to

address this situation. Comment is also requested on whether other CUSO

activities and services may also be affected by similar trends, and on

possible solutions to such situations.

In 1986, when more extensive amendments were adopted, the Board

granted CUSOs and FCUs a one-year phase-in period before the amendments

would become effective. However, given the more limited scope of these

amendments, the Board is proposing an effective date compliance date.

Comments are requested on whether more time would be beneficial to

CUSOs and FCUs, and, if so, what length of time should be granted by

the Board as a phase-in period.

Proposed Section 740.3(c), Mandatory Requirements with Regard to

the Official Sign and its Display

Federally-insured credit unions are not permitted to receive

account funds at any teller's station or window where any non-federally

insured credit union or institution receives shares or deposits. Credit

union service centers and branches servicing more than one credit union

where only some of the credit unions are insured by NCUA are exempt

from this requirement. However, in a service center context a sign is

required immediately above or beside each official NCUA sign stating

``Only the following credit unions serviced by the facility are

federally insured by the NCUA ____________________.'' (the full name of

each credit union insured is to follow the word NCUA). The lettering is

to be of such size and print to be clearly legible to all members

conducting share or deposit transactions. The intent of this

requirement was to inform credit union members using a service center

that share insurance was dependent upon their credit union and not upon

the location of their transactions (the service center).

Since this rule was last revised in 1986, the number of states

permitting state-chartered credit unions to have non-federal account

insurance has shrunk. Currently, non-federally insured credit unions

exist primarily in California (13), Idaho (20), Illinois (54), Indiana

(21), Maryland (5), Nevada (8), Ohio (129), Puerto Rico (194), and

Washington State (71). In order to reduce the paperwork and compliance

burdens on service centers, which service mainly federally-insured

credit unions, NCUA is proposing to change this disclosure requirement.

The proposal only requires disclosure of non-federally insured credit

unions serviced at a service center. Since there are an estimated 515

non-federally insured credit unions compared to 11,687 federally-

insured credit unions, by reversing the disclosure requirement many

service centers should experience a compliance and paperwork burden

reduction. This disclosure would also accomplish the intent of the

current disclosure of informing the credit union members of whether

NCUSIF insurance exists on their credit union accounts. While NCUA is

aware of the statutorily-mandated disclosures that nonfederally insured

credit unions must give to their members (12 U.S.C. 1831t), NCUA is

concerned that some member confusion might still exist which might lead

the member of a nonfederally insured credit union to believe that his

or her deposits were federally insured by the NCUSIF. NCUA requests

comments on the need and adequacy of this proposed change.

II. Regulatory Procedures

A. Regulatory Flexibility Act

The Regulatory Flexibility Act requires the NCUA to prepare any

analysis to describe any significant economic impact any proposed

regulation may have on a substantial number of small entities

(primarily those under $1 million in assets). The proposed CUSO and

service contract rule revisions would reduce existing regulatory

burdens. The advertising amendment also reduces existing regulatory

burden. Therefore, the NCUA Board has determined and certifies that the

proposed amendment, if adopted, will not have a significant economic

impact on a substantial number of small credit unions. Accordingly, the

Board has determined that a Regulatory Flexibility Analysis is not

required.

B. Paperwork Reduction Act

NCUA has determined that several requirements of this proposal

constitute collections of information under the Paperwork Reduction

Act. The requirements are that the FCU: (1) Obtain a written agreement

from the CUSO, prior to investing in or lending to the organization,

that the CUSO will follow GAAP, render financial statements (balance

sheet and income statement) at least quarterly and obtain a Certified

Public Accountant opinion audit annually and provide copies of such to

the FCU, and provide NCUA and its representatives with complete access

to any books and records of the CUSO as deemed necessary by NCUA in

carrying out its responsibilities under the Act (proposed section

712.3(d)); (2) obtain written legal advice if the FCU's equity interest

in a CUSO is greater than 10 percent as to whether the CUSO is

established and maintained in a manner that will limit potential

exposure to no more than the loss of funds invested in, or lent to, the

CUSO (proposed section 712.4(b)); and (3) compose a list of non-

federally insured credit unions by a service center and post the list

by the official NCUA sign (proposed section 740.3(c)). NCUA has

submitted a copy of these proposed sections to the Office of Management

and Budget (OMB) for its review. These proposed sections enable NCUA to

monitor an FCU's involvement with CUSOs for safety and soundness and to

ensure that CUSOs are properly formed and maintained in accordance with

applicable state laws.

It is NCUA's view that the time a CUSO spends ensuring compliance

with GAAP, compiling quarterly financial statements, and providing NCUA

and its representatives with complete access to any books and records

of the CUSO are not burdens created by this regulation, but rather are

usual and customary practices in the normal operations of a business

entity. It is also NCUA's view that the written agreement between the

CUSO and the FCU is not a burden created by this regulation, but is

usual and customary practice in the normal

[[Page 11787]]

operations of a business entity. The paperwork burdens created by these

rules are the remaining requirements outlined above.

NCUA estimates that it should take the CUSO an average of 2 hours

to research and contract to have a Certified Public Accountant opinion

audit each year. Since this requirement applies to all 448 CUSOs, the

annual reporting burden would be 896 hours to comply with this

requirement. It is expected that it would take 15 minutes for each of

the 448 CUSOs to provide copies of the audit to NCUA, resulting in an

annual reporting burden of 112 hours. NCUA estimates that 482 FCUs

would have to research and obtain written legal advice on the CUSO

investment, an activity that is expected to take 1 hour per year,

imposing annual reporting burden of 482 hours. Each of the 282 service

center locations would need to compose and post a list of the non-

federally insured credit unions serviced by that location. The

estimated time to perform this at each location is estimated to be 0.5

hour for each, resulting in an annual reporting burden of 141 hours.

The total annual burden hours imposed by the proposed rule is 1631

hours.

The Paperwork Reduction Act of 1995 and regulations of the Office

of Management and Budget (OMB) require that the public be provided an

opportunity to comment on information collection requirements,

including an agency's estimate of the burden of the collection of

information.

The NCUA Board invites comment on: (1) Whether the collection of

the information is necessary for the proper performance of the

functions of NCUA, including whether the information will have

practical utility; (2) the accuracy of NCUA's estimate of the burden of

the collection of information, including the validity of the

methodology and assumptions used; (3) ways to enhance the quality,

utility, and clarity of the information to be collected; and (4) ways

to minimize the burden of collection of information on those who are to

respond, including through the use of appropriate automated electronic,

mechanical, or other technological collection techniques or other forms

of information technology; e.g., permitting electronic submission of

responses.

OMB is required to make a decision concerning the collection of

information contained in these proposed regulations between 30 and 60

days after publication of this document in the Federal Register.

Therefore, a comment to OMB is best assured of having its full effect

if OMB receives it within 30 days of publication. This does not affect

the deadline for the public to comment to the NCUA Board on the

proposed regulations.

Organizations and individuals desiring to submit comments on the

information collection requirements should direct them to the Office of

Information and Regulatory Affairs, OMB, Room 10235, New Executive

Office Building, Washington, D.C. 20503; Attention: Alex Hunt, Desk

Officer for NCUA. Comments must also be sent to NCUA, 1775 Duke Street,

Alexandria, VA 22314-3428; Attention: Marijean Brown, Acting Paperwork

Reduction Act Coordinator, Telephone No. (703) 518-6410; Fax No. (703)

518-6433; E-Mail Address: [email protected]. Comments should be

postmarked by May 12, 1997. All comments submitted in response to these

proposed regulations will be available for public inspection, during

and after the comment period, at NCUA's Central Office, 6th Floor, Law

Library, 1775 Duke Street, Alexandria, VA between the hours of 9 a.m.

and 1 p.m., Monday through Friday of each week except federal holidays,

and by appointment through the Law Librarian at telephone no. (703)

518-6540.

C. Executive Order 12612

Executive Order 12612 requires NCUA to consider the effect of its

actions on state interests. The proposed CUSO regulation applies only

to federal credit unions. The proposed advertising rule amendment would

apply to all federally insured credit unions, including federally

insured, state-chartered credit unions. However, due to the relatively

low number of credit union service centers that serve non-federally

insured credit unions, NCUA has determined that the proposed rule does

not constitute a ``significant regulatory action'' for purposes of the

Executive Order. However, NCUA welcomes comment on means and methods to

coordinate with the state credit union supervisors regarding

achievement of shared goals involving viability, flexibility, parity,

conformity and safety and soundness regarding CUSOs and service center

advertising of accounts.

List of Subjects

12 CFR Part 701

Advertising, Aged, Civil rights, Credit, Credit unions, Fair

housing, Individuals with disabilities, Insurance, Marital status

discrimination, Mortgages, Religious discrimination, Reporting and

recordkeeping requirements, Sex discrimination, Signs and symbols,

Surety bonds.

12 CFR Part 712

Administrative practice and procedure, Credit, Credit unions,

Investments, Reporting and recordkeeping requirements.

12 CFR Part 740

Advertising, Bank deposit insurance, Credit unions, Reporting and

recordkeeping requirements, Signs and symbols.

By the National Credit Union Administration Board on March 7,

1997.

Becky Baker,

Secretary of the Board.

For the reasons set forth in the preamble, it is proposed that 12

CFR chapter VII be amended as follows:

PART 701--ORGANIZATION AND OPERATION OF FEDERAL CREDIT UNIONS

1. The authority citation for Part 701 continues to read as

follows:

Authority: 12 U.S.C. 1752(5), 1755, 1756, 1757, 1759, 1761a,

1761b, 1766, 1767, 1782, 1784, 1787, 1789, 1798. Section 701.6 is

also authorized by 31 U.S.C. 3717. Section 701.31 is also authorized

by 15 U.S.C. 1601 et seq.; 42 U.S.C. 1861 and 3601-3610. Section

701.35 is also authorized by 42 U.S.C. 4311-4312.

Sec. 701.26 [Amended]

2. Section 701.26 is amended by removing paragraph (b) and removing

the paragraph designation (a).

Sec. 701.27 [Removed]

3. Section 701.27 is removed.

4. Part 712 is added to read as follows:

PART 712--CREDIT UNION SERVICE ORGANIZATIONS (CUSOs)

Sec.

712.1 What does this part cover?

712.2 How much can you invest in, or loan to, CUSOs, and what

parties may be involved?

712.3 What are the characteristics of, and what requirements apply

to, CUSOs?

712.4 What must you and a CUSO do to maintain separate corporate

identities?

712.5 What activities and services are preapproved for CUSOs?

712.6 What activities and services are prohibited for CUSOs?

712.7 What must you do to add activities or services that are not

preapproved?

712.8 What transaction and compensation limits might apply to

individuals related to you or a CUSO?

712.9 When must you begin compliance with this part?

Authority: 12 U.S.C. 1756, 1757(5)(D) and (7)(I), 1766, 1782,

1784, and 1785.

Sec. 712.1 What does this part cover?

This part establishes when you, an affiliated Federal credit union,

can

[[Page 11788]]

invest in, and make loans to, CUSOs. This part does not regulate CUSOs

directly, but rather establishes conditions of your investments in, and

loans to, CUSOs. For purposes of this part, ``affiliated credit

unions'' means those Federal credit unions that have either invested

in, made loans to, or contracted with, a CUSO.

Sec. 712.2 How much can you invest in, or loan to, CUSOs, and what

parties may be involved?

(a) Investments. Your total investments in CUSOs must not exceed,

in the aggregate, 1% of your paid-in and unimpaired capital and surplus

as of your last calendar year-end financial report. For purposes of

paragraphs (a) and (b) of this section, ``paid-in and unimpaired

capital and surplus'' means shares and undivided earnings.

(b) Loans. Your total loans to CUSOs must not exceed, in the

aggregate, 1% of your paid-in and unimpaired capital and surplus as of

your last calendar year-end financial report.

(c) Parties. You may invest in, or loan to, a CUSO by yourself, or

with other credit unions or with non-credit union parties.

Sec. 712.3 What are the characteristics of, and what requirements

apply to, CUSOs?

(a) Structure. You can invest in or loan to a CUSO only if the CUSO

is structured as a corporation, limited liability company, or limited

partnership. For purposes of this paragraph (a), ``corporation'' means

a legally incorporated corporation as established and maintained under

relevant state law. For purposes of this paragraph (a), ``limited

liability company'' means a legally established limited liability

company as established and maintained under relevant state law. For

purposes of this paragraph (a), ``limited partnership'' means a legally

established limited partnership as established and maintained under

relevant state law.

(b) Customer base. You can invest in or loan to a CUSO only if the

CUSO primarily serves credit unions, your membership or the membership

of affiliated credit unions.

(c) Federal credit union accounting. You must record your

investments in or loans to CUSOs in accord with ``generally accepted

accounting principles'' (GAAP).

(d) CUSO accounting; audits and financial statements; NCUA access

to books and records. You must obtain written agreements from a CUSO,

prior to investing in or lending to the organization, that the CUSO

will:

(1) Follow GAAP;

(2) Render financial statements (balance sheet and income

statement) at least quarterly and obtain a Certified Public Accountant

opinion audit annually and provide copies of such to you; and

(3) Provide NCUA and its representatives with complete access to

any books and records of the CUSO, as deemed necessary by NCUA in

carrying out its responsibilities under the Act.

(e) Other laws. A CUSO must comply with applicable Federal, state

and local laws.

Sec. 712.4 What must you and a CUSO do to maintain separate corporate

identities?

(a) Corporate separateness. You and the CUSO must be operated in a

manner that demonstrates to the public the separate corporate existence

of you and the CUSO. Each must operate so that:

(1) Its respective business transactions, accounts, and records are

not intermingled;

(2) Each observes the formalities of its separate corporate

procedures;

(3) Each is adequately financed as a separate unit in the light of

normal obligations reasonably foreseeable in a business of its size and

character;

(4) Each is held out to the public as a separate enterprise;

(5) You do not dominate the CUSO to the extent that the CUSO is

treated as a department of you; and

(6) Unless you have guaranteed a loan obtained by the CUSO, all

borrowings by theCUSO indicate that you are not liable.

(b) Legal opinion. If you have a 10% or greater equity interest in

a CUSO, you must obtain written legal advice as to whether the CUSO is

established and maintained in a manner that will limit your potential

exposure to no more than the loss of funds invested in, or lent to, the

CUSO.

Sec. 712.5 What activities and services are preapproved for CUSOs?

NCUA at any time may limit any CUSO activities or services, or

refuse to permit any CUSO activities or services, for supervisory,

legal, or safety and soundness reasons. Otherwise, you may invest in,

loan to, and/or contract with those CUSOs that provide one or more of

the following activities and services related to the routine, daily

operations of credit unions:

(a) Checking and currency services:

(1) Check cashing;

(2) Coin and currency services; and

(3) Money order, savings bonds, travelers checks, and purchase and

sale of U.S. Mint commemorative coins services;

(b) Clerical, professional and management services:

(1) Accounting services;

(2) Courier services;

(3) Credit analysis;

(4) Facsimile transmissions and copying services;

(5) Internal audit for credit unions;

(6) Locator services;

(7) Management and personnel training and support;

(8) Marketing services;

(9) Research services; and

(10) Supervisory committee audits;

(c) Consumer mortgage loan origination;

(d) Electronic transaction services:

(1) Automated teller machine (ATM) services;

(2) Credit card and debit card services;

(3) Data processing;

(4) Electronic fund transfer (EFT) services;

(5) Electronic income tax filing;

(6) Payment item processing; and

(7) Wire transfer services;

(e) Financial counseling services:

(1) Developing and administering Individual Retirement Accounts

(IRA), Keogh, deferred compensation and other personnel benefit plans;

(2) Estate planning;

(3) Financial planning and counseling;

(4) Income tax preparation;

(5) Investment counseling; and

(6) Retirement counseling;

(f) Fixed asset services:

(1) Management, development, sale or lease of fixed assets; and

(2) Sale, lease or servicing of computer hardware or software;

(g) Insurance brokerage or agency:

(1) Agency for sale of insurance; and

(2) Provision of vehicle warranty programs;

(h) Leasing:

(1) Personal property; and

(2) Real estate leasing of excess CUSO property;

(i) Loan support services:

(1) Debt collection services;

(2) Loan processing, servicing and sales; and

(3) Sale of repossessed collateral;

(j) Real estate brokerage services;

(k) Record retention, security and disaster recovery services:

(1) Alarm-monitoring and other security services;

(2) Disaster recovery services;

(3) Microfilm, microfiche, optical imaging, CD-ROM data storage and

retrieval services;

(4) Provision of forms and supplies; and

(5) Record retention and storage;

(l) Securities brokerage services;

(m) Shared credit union branch (service center) operations;

[[Page 11789]]

(n) Travel agency services; and

(o) Trust and trust-related services:

(1) Acting as administrator for prepaid legal service plans;

(2) Acting as trustee, guardian, conservator, estate administrator,

or in any other fiduciary capacity; and

(3) Trust services.

Sec. 712.6 What activities and services are prohibited for CUSOs?

CUSOs must not engage in the activities or services of depository

financial institutions, insurance companies, trade associations,

liquidity facilities, and similar entities.

Sec. 712.7 What must you do to add activities or services that are not

preapproved?

In order for you to invest in and/or loan to a CUSO that offers the

unpreapproved activity or service, you must first receive NCUA Board

approval. Your request for NCUA Board approval of a new activity or

service should include a full explanation and complete documentation of

the activity or service and how that activity or service is associated

with routine credit union operations. Your request should be submitted

jointly to your Regional Office and to the Secretary of the Board. Your

request will be treated as a petition to amend Sec. 712.5 and NCUA will

request public comment or otherwise act on the petition within 60 days

after receipt.

Sec. 712.8 What transaction and compensation limits might apply to

individuals related to you or a CUSO?

(a) Officials and senior management employees. Your officials,

senior management employees, and their immediate family members must

not receive any salary, commission, investment income, or other income

or compensation from a CUSO either directly or indirectly, or from any

person being served through the CUSO. This provision does not prohibit

your officials or senior management employees from assisting in the

operation of a CUSO, provided your officials or senior management

employees are not compensated by the CUSO. For purposes of this

paragraph (a), ``official'' means your directors or committee members.

For purposes of this paragraph (a), ``senior management employee''

means your chief executive officer (typically this individual holds the

title of President or Treasurer/Manager), any assistant chief executive

officers (e.g. Assistant President, Vice President, or Assistant

Treasurer/Manager) and the chief financial officer (Comptroller). For

purposes of this paragraph (a), ``immediate family member'' means a

spouse or other family members living in the same household.

(b) Employees. The prohibition contained in paragraph (a) of this

section also applies to your employees not otherwise covered if the

employees are directly involved in dealing with the CUSO unless your

board of directors determines that your employees' positions do not

present a conflict of interest.

(c) Others. All transactions with business associates or family

members of your officials, senior management employees, and their

immediate family members, not specifically prohibited by paragraphs (a)

and (b) of this section must be conducted at arm's length and in your

interest.

Sec. 712.9 When must you begin compliance with this part?

(a) Investments. Your investments in existence prior to [the

effective date of the final regulation], must conform with this part

not later than [the effective date of the final regulation], unless the

Board grants its prior approval to continue such investment for a

stated period.

(b) Loans. Your loans in existence prior to [the effective date of

the final regulation] must conform with this part not later than [the

effective date of the final regulation], unless:

(1) The Board grants its prior approval to continue your loan for a

stated period; or

(2) Under the terms of its loan agreement you cannot require

accelerated repayment without breaching the agreement.

PART 740--ADVERTISING

5. The authority citation for Part 740 continues to read as

follows:

Authority: 12 U.S.C. 1766, 1781, 1789 and 4311.

6. Section 740.3(c) is revised to read as follows:

Sec. 740.3 Mandatory requirements with regard to the official sign and

its display.

* * * * *

(c) An insured credit union shall not receive account funds at any

teller's station or window where any noninsured credit union or

institution receives deposits. Excepted from this prohibition are

credit union centers, service centers, or branches servicing more than

one credit union where only some of the credit unions are insured by

the NCUA. In such instances there must be placed immediately above or

beside each official sign another sign stating ``The following credit

unions serviced by this facility are not federally insured by the NCUA

____________________.'' (the full legal name of each credit union and

the city and state of its principal office will follow the word NCUA

each time it appears). The lettering will be of such size and print to

be clearly legible to all members conducting share or share deposit

transactions.

* * * * *

[FR Doc. 97-6374 Filed 3-12-97; 8:45 am]

BILLING CODE 7535-01-P