[Federal Register Volume 63, Number 234 (Monday, December 7, 1998)]
[Proposed Rules]
[Pages 67436-67439]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-32339]


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FEDERAL RESERVE SYSTEM

12 CFR Part 226

[Regulation Z; Docket No. R-1029]


Truth in Lending

AGENCY: Board of Governors of the Federal Reserve System.

ACTION: Proposed rule; official staff interpretation.

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SUMMARY: The Board is publishing for comment proposed revisions to the 
official staff commentary to Regulation Z (Truth in Lending). The 
commentary applies and interprets the requirements of Regulation Z. The 
proposed update addresses the prohibition against the issuance of 
unsolicited credit cards. It provides guidance on calculating payment 
schedules involving private mortgage insurance. In addition, the 
proposed update discusses credit sale transactions where downpayments 
include cash and property used as a trade-in.

DATES: Comments must be received on or before January 22, 1999.

ADDRESSES: Comments, which should refer to Docket No. R-1029, may be 
mailed to Ms. Jennifer J. Johnson, Secretary, Board of Governors of the 
Federal Reserve System, 20th Street and Constitution Avenue, N.W., 
Washington, D.C. 20551. Comments addressed to Ms. Johnson may also be 
delivered to the Board's mail room between 8:45 a.m. and 5:15 p.m., and 
to the security control room at all other times. Both the mail room and 
the security control room are accessible from the courtyard entrance on 
20th Street between Constitution Avenue and C Street, N.W. Comments may 
be inspected in room MP-500 between 9:00 a.m. and 5:00 p.m. in 
accordance with Secs. 261.12 and 261.14 of the Board's Rules Regarding 
the Availability of Information, 12 CFR 261.12 and 261.14.

FOR FURTHER INFORMATION CONTACT: Jane E. Ahrens, Senior Counsel, or 
Pamela Morris Blumenthal or James H. Mann, Staff Attorneys; Division of 
Consumer and Community Affairs, Board of Governors of the Federal 
Reserve System, at (202) 452-3667 or 452-2412; for users of 
Telecommunications Device for the Deaf (TDD) only, Diane Jenkins at 
(202) 452-3544.

SUPPLEMENTARY INFORMATION:

I. Background

    The purpose of the Truth in Lending Act (TILA; 15 U.S.C. 1601 et 
seq.) is to promote the informed use of consumer credit by providing 
for disclosures about its terms and cost. The act requires creditors to 
disclose the cost of credit as a dollar amount (the finance charge) and 
as an annual percentage rate. Uniformity in creditors' disclosures is 
intended to assist consumers in comparison shopping. TILA requires 
additional disclosures for loans secured by a consumer's home and 
permits consumers to rescind certain transactions that involve their 
principal dwelling. In addition, the act regulates certain practices of 
creditors. The act is implemented by the Board's Regulation Z (12 CFR 
Part 226).
    The Board's official staff commentary (12 CFR Part 226 (Supp. I)) 
interprets the regulation, and provides guidance to creditors in 
applying the regulation to specific transactions. The commentary is a 
substitute for individual staff interpretations; it is updated 
periodically to address significant questions that arise. The Board 
expects to adopt revisions to the commentary in final form in March 
1999; to the extent the revisions impose new requirements on creditors, 
compliance would be

[[Page 67437]]

optional until October 1, 1999, the effective date for mandatory 
compliance.

II. Proposed Revisions

Subpart A--General

Section 226.2--Definitions and Rules of Construction
    2(a)  Definitions. 2(a)(15) Credit Card. Section 226.2(a)(15) 
defines a credit card to include any card or credit device that may be 
used from time to time to obtain credit. Comment 2(a)(15)-2 provides 
examples of cards and devices that are and are not credit cards. The 
comment would be revised to include additional examples of cards or 
devices that are credit cards, addressing recent programs where cards 
are marketed from the outset with both credit and non-credit features.
    2(a)(18)  Downpayment. Comment 2(a)(18)-3 provides guidance on how 
a creditor discloses the downpayment if a trade-in is involved in a 
credit sale transaction and if the amount of an existing lien exceeds 
the value of the trade-in. The comment would be revised to provide 
additional examples when the downpayment also includes a cash payment.

Subpart B--Open-end Credit

Section 226.12--Special Credit Card Provisions
    12(a)  Issuance of Credit Cards. 12(a)(1). Section 226.12(a) 
prohibits creditors from issuing credit cards except in response to a 
consumer's request or application for the card or as a renewal of, or 
substitute for, a previously accepted credit card. The prohibition 
addresses various concerns including the potential for theft and fraud 
and the consumer inconvenience of refuting claims of liability.
    The law does not prohibit creditors from issuing unsolicited cards 
that have a non-credit purpose--such as check-guarantee or purchase 
price-discount cards, so long as they cannot be used also to obtain 
credit. Consumers may later be able to convert these cards to credit 
cards if the issuer makes a credit feature available and the consumer 
requests the credit.
    Comment 12(a)(1)-7 provides guidance regarding a card that is 
issued and accepted by the consumer as a non-credit device and that 
subsequently is converted for use as a credit device at the consumer's 
request. The comment would be revised to reflect more clearly its 
intended purpose. For example, a purchase-price discount card may be 
issued on an unsolicited basis if the card issuer does not propose to 
connect the card with any credit plan. If the issuer later establishes 
a credit plan to which the card could be connected and the consumer 
requests access to the plan, the previously issued card can be re-
encoded (or the issuer may reprogram its computers to allow the card to 
be used to access credit) without violating TILA.
    Questions about the comment's meaning have been raised regarding 
its application to recent programs where unsolicited cards are marketed 
from the outset as both stored-value cards and credit cards. The 
revised comment would clarify that, because these multifunction cards 
are connected with credit plans when they are issued, and thus are 
credit cards, these cards may not be sent without the consumer's prior 
request or application. See comment 2(a)(15)-2. To the extent that the 
interpretation of rule previously may have been unclear, the Board 
believes that liability should not attach to a card issuer's prior 
reliance on comment 12(a)(1)-7 in issuing multifunction cards that 
included a credit feature.
Section 226.14--Determination of Annual Percentage Rate
    14(c)  Annual Percentage Rate for Periodic Statements. Comment 
14(c)-10 addresses finance charges that are imposed during the current 
billing cycle but that relate to account activity that occurred during 
a prior billing cycle. The comment refers expressly to current-cycle 
and prior-cycle debits but not to current-cycle or prior-cycle credits. 
The comment is meant to cover both debits and credits, and would be 
revised accordingly.

Subpart C--Closed-end Credit

Section 226.18--Content of Disclosures
    18(g)  Payment Schedule. The Homeowners Protection Act of 1998 
(HPA) limits the amount of private mortgage insurance consumers can be 
required to purchase. Borrowers may request cancellation of private 
mortgage insurance under some circumstances and lenders must terminate 
private mortgage insurance automatically when certain conditions are 
met. For example, creditors must stop collecting insurance premiums 
when the outstanding loan balance is 78 percent of the original value 
of the property provided the account is current (unless the mortgage is 
``high-risk'' as defined in the statute).
    Comment 18(g)-5 would be added in response to creditors' requests 
for guidance on how the requirements of the HPA affect TILA 
disclosures. TILA disclosures are based on the legal obligation between 
the parties. (See Sec. 226.17(c)(1).) The payment schedule disclosure 
required by section 18(g) should reflect all components of the finance 
charge, including private mortgage insurance for the time period there 
is a legal obligation to maintain the insurance.
    18(j)  Total Sale Price. Comment 18(j)-2 provides the formula for 
calculating the total sale price in a credit sale transaction. In 
response to requests for guidance, the comment would be revised to 
address how the total sale price may be affected by downpayments 
involving cash and property that is being used as a trade-in and that 
has a lien exceeding the value of the trade-in.

III. Form of Comment Letters

    Comment letters should refer to Docket No. R-1029, and, when 
possible, should use a standard typeface with a type size of 10 or 12 
characters per inch. This will enable the Board to convert the text to 
machine-readable form through electronic scanning, and will facilitate 
automated retrieval of comments for review. Also, if accompanied by an 
original document in paper form, comments may be submitted on 3\1/2\ 
inch computer diskettes in any IBM-compatible DOS- or Windows-based 
format.

List of Subjects in 12 CFR Part 226

    Advertising, Banks, banking, Consumer protection, Credit, Federal 
Reserve System, Mortgages, Reporting and recordkeeping requirements, 
Truth in lending.

Text of Proposed Revisions

    Certain conventions have been used to highlight the proposed 
revisions to the text of the staff commentary. New language is shown 
inside bold-faced arrows, while language that would be deleted is set 
off with bold-faced brackets. Comments are numbered to comply with 
Federal Register publication rules.
    For the reasons set forth in the preamble, the Board proposes to 
amend 12 CFR part 226 as follows:

PART 226--TRUTH IN LENDING (REGULATION Z)

    1. The authority citation for part 226 continues to read as 
follows:

    Authority: 12 U.S.C. 3806; 15 U.S.C. 1604 and 1637(c)(5).

    2. In Supplement I to Part 226, under Section 226.2--Definitions 
and Rules of Construction, the following amendments would be made:

[[Page 67438]]

    a. Under Paragraph 2(a)(15) Credit card., paragraph 2. would be 
revised; and
    b. Under Paragraph 2(a)(18) Downpayment., paragraph 3. would be 
revised.
    The revisions would read as follows:
* * * * *

Supplement I--Official Staff Interpretations

* * * * *

Subpart A--General

* * * * *


Sec. 226.2  Definitions and rules of construction

    2(a) Definitions.
* * * * *
    2(a)(15)  Credit card.
* * * * *
    2. Examples. i. Examples of credit cards include:
    A. A card that guarantees checks or similar instruments, if the 
asset account is also tied to an overdraft line or if the instrument 
directly accesses a line of credit.
    B. A card that accesses both a credit and an asset account (that 
is, a debit card).
    C. An identification card that permits the consumer to defer 
payment on a purchase.
    D. An identification card indicating loan approval that is 
presented to a merchant or to a lender, whether or not the consumer 
signs a separate promissory note for each credit extension.
    E. A card or device that can be activated upon 
receipt to access credit, notwithstanding the fact that the 
recipient must first contact the card issuer before using the card.
    F. A card that has a substantive use other than credit, such as 
a purchase-price discount card, if the card also may be used to 
obtain credit (even if the recipient must first contact the card 
issuer to access or activate the credit feature).
    ii. In contrast, a credit card does not include, for example:
    A. A check-guarantee or debit card with no credit feature or 
agreement, even if the creditor occasionally honors an inadvertent 
overdraft.
    B. Any card, key, plate, or other device that is used in order 
to obtain petroleum products for business purposes from a wholesale 
distribution facility or to gain access to that facility, and that 
is required to be used without regard to payment terms.
* * * * *
    2(a)(18)  Downpayment.
* * * * *
    3. Effect of existing liens. In a credit sale, the ``downpayment'' 
may only be used to reduce the cash price. For example, when the 
existing lien on an automobile to be traded in exceeds the value of the 
automobile, creditors must disclose a zero on the downpayment line 
rather than a negative number. To illustrate, assume a consumer owes 
$10,000 on an existing automobile loan and that the trade-in value of 
the automobile is only $8,000, leaving a $2,000 deficit. The creditor 
should disclose a downpayment of $0, not -$2,000. Similarly, 
if the consumer pays $1,500 in cash (which does not extinguish the 
$2,000 deficit) the creditor should disclose a downpayment of $0, not -
$500. But if the consumer provides $3,000 in cash (which eliminates the 
$2,000 deficit and contributes $1,000 to reduce the cash price), the 
creditor should disclose a downpayment of $1,000.
* * * * *
    3. In Supplement I to Part 226, under Section 226.12--Special 
credit card provisions, under Paragraph 12(a)(1), paragraph 7. would be 
revised to read as follows:
* * * * *

Subpart B--Open-End Credit

* * * * *


Sec. 226.12  Special credit card provisions

* * * * *
    12(a)  Issuance of credit cards.
    Paragraph 12(a)(1)
* * * * *
    7. Issuance of non-credit cards. i. General. Under 
12(a)(1), a credit card cannot be issued except in response to a 
request or an application. (See comment 2(a)(15)-2 for examples of 
cards or devices that are and are not credit cards.) A credit feature 
may be added to a previously issued non-credit card only upon the 
consumer's specific request. Adding a credit feature includes re-
encoding the non-credit device, or reprogramming the issuer's computer 
program or automated teller machines.
    ii. Examples. Purchase-price discount cards may be sent on an 
unsolicited basis by an issuer that does not propose to connect the 
card to any credit plan. If the issuer subsequently establishes a 
credit plan that could be accessed by the card, it may solicit 
customers who have received the discount cards to offer them the credit 
feature, and may then reprogram its computers to provide credit access 
to consumers who request activativation of the credit 
feature.
    [The issuance of an unsolicited device that is not, but may become, 
a credit card, is not prohibited provided:
     The device has some substantive purpose other than 
obtaining credit, such as access to non-credit services offered by the 
issuer;
     It cannot be used as a credit card when issued; and
     A credit capability will be added only on the recipient's 
request.
    For example, the card issuer could send a check guarantee card on 
an unsolicited basis, but could not add a credit feature to that card 
without the consumer's specific request. The re-encoding of a debit 
card or other existing card that had no credit privileges when issued 
would be appropriate after the consumer has specifically requested a 
card with credit privileges. Similarly, the card issuer may add a 
credit feature, for example, by reprogramming the issuer's computer 
program or automated teller machines, or by a similar program 
adjustment.]
* * * * *
    4. In Supplement I to Part 226, Section 226.14--Determination of 
Annual Percentage Rate, under Paragraph 14(c) Annual percentage rate 
for periodic statements., paragraph 10.ii. is republished and paragraph 
10.ii.B. would be revised to read as follows:
* * * * *


Sec. 226.14  Determination of annual percentage rate

* * * * *
    14(c)  Annual percentage rate for periodic statements.
* * * * *
    10. Prior-cycle adjustments.
* * * * *
    ii. Finance charges relating to activity in prior cycles should be 
reflected on the periodic statement as follows:
* * * * *
    B. If a finance charge that is 
posted[debited] to the account relates to activity for which 
a finance charge was debited or credited to the 
account in a previous billing cycle, for example, if the finance charge 
relates to an adjustment such as the resolution of a billing error 
dispute, or an unintentional posting error, or a payment by check that 
was later returned unpaid for insufficient funds or other reasons, the 
creditor shall at its option:
    1. Calculate the annual percentage rate in accord with ii.A. of 
this paragraph, or
    2. Disclose the finance charge adjustment on the periodic statement 
and calculate the annual percentage rate for the current billing cycle 
without including the finance charge adjustment in the numerator and 
balances associated with the finance charge adjustment in the 
denominator.
* * * * *
    5. In Supplement I to Part 226, under Sec. 226.18--Content of 
disclosures, the following amendments would be made:

[[Page 67439]]

    a. Under 18(g) Payment schedule., a new paragraph 5. would be 
added; and
    b. Under 18(j) Total sale price., paragraph 2. would be revised.
    The addition and revision would read as follows:
* * * * *

Subpart C--Closed-End Credit

* * * * *


Sec. 226.18  Content of disclosures

* * * * *
    18(g)  Payment schedule.
* * * * *
    5. Mortgage insurance. The payment schedule should 
reflect the consumer's mortgage insurance payments until the date on 
which the creditor must automatically terminate coverage under 
applicable law, even though the consumer may have a right to request 
that the insurance be cancelled earlier.
* * * * *
    18(j)  Total sale price.
* * * * *
    2. Calculation of total sale price. The figure to be disclosed is 
the sum of the cash price, other charges added under Sec. 226.18(b)(2), 
and the finance charge disclosed under Sec. 226.18(d). When 
a credit sale transaction involves property that is being used as a 
trade-in (an automobile, for example) and that has a lien exceeding the 
value of the trade-in, the total sale price is affected by the amount 
of any cash provided. To illustrate, assume a consumer finances the 
purchase of an automobile with a cash price of $20,000. The consumer 
owes $10,000 on an existing loan on an automobile with a trade-in value 
of $8,000, leaving a $2,000 deficit that the consumer must finance. If 
the consumer pays $3,000 in cash and no other costs are financed, the 
total sale price would be the sum of the $20,000 cash price and the 
finance charge; because the $3,000 cash payment extinguishes the $2,000 
trade-in deficit no charges are added under Sec. 226.18(b)(2). (The 
remaining $1,000 is a downpayment, which does not affect the total 
sales price.) However, if the cash payment were $1,500, the total sale 
price would be the sum of the $20,000 cash price, an additional $500 
financed under Sec. 226.18(b)(2) (the $2,000 deficit reduced by the 
$1,500 cash payment), and the finance charge.
* * * * *
    By order of the Board of Governors of the Federal Reserve 
System, acting through the Secretary of the Board under delegated 
authority, December 1, 1998.
Jennifer J. Johnson,
Secretary of the Board.
[FR Doc. 98-32339 Filed 12-4-98; 8:45 am]
BILLING CODE 6210-01-P