[Federal Register Volume 71, Number 124 (Wednesday, June 28, 2006)]
[Rules and Regulations]
[Pages 36661-36667]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E6-10137]


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NATIONAL CREDIT UNION ADMINISTRATION

12 CFR Parts 701 and 741


Third-Party Servicing of Indirect Vehicle Loans

AGENCY: National Credit Union Administration.

ACTION: Final rule.

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SUMMARY: The National Credit Union Administration (NCUA) is issuing a 
final rule to regulate purchases by federally insured credit unions of 
indirect vehicle loans serviced by third-parties. The rule limits the 
aggregate amount of these loans serviced by any single third-party to a 
percentage of the credit union's net worth. The rule ensures that 
federally insured credit unions do not undertake undue risk with these 
purchases.

DATES: This rule is effective July 28, 2006.

FOR FURTHER INFORMATION CONTACT: Paul Peterson, Staff Attorney, 
Division of Operations, Office of General Counsel, at (703) 518-6540; 
Matthew Biliouris, Program Officer, Office of Examination and 
Insurance, at (703) 518-6360; or Steve Sherrod, Division of Capital 
Markets Director, Office of Capital Markets and Planning, at (703) 518-
6620.

SUPPLEMENTARY INFORMATION:

A. Background

    In December 2005, the Board issued for public comment a proposed 
rule establishing concentration limits for indirect automobile loans 
and loan participations serviced by third-party servicers. 70 FR 75753 
(Dec. 21, 2005). As stated in the preamble to the proposed rule, the 
Board recognizes indirect lending has certain advantages for credit 
unions, such as growth in membership and loans, but is concerned some 
credit unions may involve themselves in indirect, outsourced programs--
meaning programs in which a third party manages a credit union's 
relationship with automobile dealers and, because the third party 
handles loan servicing, with the credit union's members as well--
without undertaking adequate due diligence, implementing appropriate 
controls, and having sufficient experience with a third party servicer.

[[Page 36662]]

    The Board proposed to limit the aggregate amount of outsourced 
loans and participations in outsourced loans a credit union may 
purchase from any one servicer to 50 percent of the credit union's net 
worth. After 30 months of experience with a particular servicer, the 
limit increases to 100 percent of net worth. The proposal exempted 
federally-insured depositories and wholly-owned subsidiaries of those 
depositories from the definition of servicer. The proposal also 
included a process and requirements for a credit union to request a 
waiver from the concentration limits from its regional director.
    Briefly summarized, this final rule retains the concentration 
limits, the servicer exemptions, and the waiver provision as proposed 
but, in response to public comments, the Board has made certain changes 
in the final rule. The final rule includes an additional exemption for 
certain credit union service organization (CUSO) servicers and excludes 
loans in which the servicer and its affiliates were not involved in the 
origination process from the concentration limits. These changes, while 
not affecting the rule's substantive and procedural rationales, are 
beneficial to credit unions by narrowing the rule's scope and impact. 
The final rule also includes a 45-day time period for a regional 
director to act on waiver requests and provides for an appeal to the 
NCUA Board. These changes are discussed in more detail in the following 
section on public comments.

B. Public Comments on the Proposed Rule

    NCUA received 27 comment letters from a variety of sources, 
including a state supervisory authority (SSA), credit unions, credit 
union trade organizations, and vendors involved in third-party 
servicing. The following summary categorizes the comments into general 
comments about the rule and comments about specific provisions with the 
Board's response to comments, as appropriate.

General Comments

    Several commenters believe this rulemaking is a good idea. One 
commenter stated ``NCUA's concerns are valid, and its proposal 
basically sound.'' Several commenters stated the specific concentration 
limits were reasonable and the waiver provisions appropriate. The SSA 
stated it shares NCUA's concern about indirect lending in general and 
specifically the risks related to third-party servicing arrangements 
for indirect vehicle lending. This SSA stated it had reviewed a number 
of these programs and found structural weaknesses and that reported 
returns failed to reflect credit losses and collection costs.
    Several commenters were generally opposed to the rulemaking. A few 
of these commenters contended NCUA's existing guidance was sufficient 
to deal with the risks of indirect automobile loans serviced by third-
party servicers. One of these commenters stated that each credit 
union's board should have flexibility to set policy limits in indirect 
lending just as they do with other types of lending. One commenter 
stated the proposal manages credit unions to the lowest common 
denominator and unnecessarily encumbers a credit union's ability to use 
indirect lending to manage the asset liability management (ALM) 
process.
    The Board appreciates these concerns and does not wish to 
unnecessarily limit the flexibility of credit union management or 
encumber a credit union's ability to manage its ALM process. As stated 
in the preamble to the proposed rule, indirect lending programs with 
third-party servicing carry risk for credit unions. When these programs 
involve a significant percentage of the credit union's net worth, these 
programs also create risks for the National Credit Union Share 
Insurance Fund (NCUSIF). Accordingly, the Board believes concentration 
limits are appropriate but credit unions demonstrating sufficient due 
diligence should be permitted to apply for and receive waivers to the 
concentration limits.\1\
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    \1\ A credit union below the concentration limits must still 
perform due diligence at a level commensurate with the program 
risks.
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Comments About the Specific Concentration Limits

    As proposed, the rule permits a credit union to buy indirect 
vehicle loans serviced by a third-party servicer in an amount up to 50 
percent of net worth for the first 30 months of the servicing 
relationship and, thereafter, up to 100 percent of net worth.
    Some commenters contended the rule should permit a credit union to 
invest up to 100 percent of its net worth after only 18 or 24 months in 
a program instead of having to wait 30 months. A few commenters also 
thought the initial concentration limit should be 75 percent of net 
worth instead of 50 percent. Some of these latter commenters thought 
that a 75 percent limit would be appropriate but only for credit unions 
with a composite CAMEL 1 rating.\2\ A few commenters contended credit 
unions qualifying for the NCUA Regulatory Flexibility Program should be 
entirely exempt from the proposed limits. 12 CFR part 742.
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    \2\ For a discussion of CAMEL ratings, see NCUA Letter to Credit 
Unions No. 03-CU-04, Subject: CAMEL Rating System, dated March 2003, 
located on NCUA's Web site at http://www.ncua.gov.
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    The Board believes a credit union should have sufficient experience 
with a third-party servicer before entrusting it with indirect vehicles 
loans in an amount equaling the credit union's entire net worth. Given 
the expected lives of various types of vehicle loans, the Board 
continues to believe 30 months is a reasonable time for a credit union 
to obtain the experience. Accordingly, the final rule retains the 30-
month time period.
    The Board also believes half of a credit union's net worth is a 
reasonable exposure during its initial involvement with a third-party 
servicer, regardless of a credit union's CAMEL rating. As stated in the 
preamble to the proposed rule, risks associated with these programs are 
similar to risks associated with asset backed securities (ABS). While 
natural person credit unions generally may not invest in ABS, national 
banks may, and the Office of the Comptroller of the Currency (OCC) 
limits a bank's aggregate investments in ABS issued by any one issuer 
to 25 percent of capital and surplus. 12 CFR 1.3(f). Since the capital 
and surplus of a national bank is roughly equivalent to the net worth 
of a natural person credit union, the 50 percent and 100 percent limits 
in the proposed rule are significantly less restrictive than the 25 
percent that the OCC permits for national bank investment in ABS. In 
addition, the OCC's 25 percent concentration limit on ABS applies to 
all banks, regardless of the bank's asset size or net worth ratio or 
the general performance ratings that OCC examiners assign to a 
particular bank. NCUA's proposal is less restrictive than the OCC's ABS 
limits because NCUA wants to encourage lending, but some safety and 
soundness limits are necessary. Accordingly, the final rule retains 50 
percent as the initial limit for credit unions and 100 percent as the 
general limit, subject to a credit union receiving a waiver.
    One commenter analogized the risks the proposal addressed to the 
risks of participation lending and suggested concentration limits 
should be related to loans to a single borrower, not to a particular 
servicer. The Board believes risks associated with third-party 
servicing of indirect vehicle loans apply equally to whole loans and 
participation interests in loans and these risks are best constrained 
by limits expressed in

[[Page 36663]]

terms of exposure to particular servicers. Another commenter stated 
concentration limits should be set as a percentage of paid-in and 
unimpaired capital and surplus rather than as a percentage of net 
worth. This commenter believes using net worth in the calculation 
encourages credit unions to maintain unnecessarily high levels of net 
worth.
    The Board believes third-party servicer concentration limits, which 
protect the viability of the credit union and also limit risk to the 
NCUSIF, are best expressed in terms of a credit union's net worth and 
not in terms of paid-in and unimpaired capital and surplus. Paid-in and 
unimpaired capital and surplus includes both shares and undivided 
earnings. 12 CFR 700.2(f). Including shares in this definition means a 
credit union with relatively low levels of net worth could have 
significant paid-in and unimpaired capital. Accordingly, concentration 
limits calculated as a percentage of the paid-in and unimpaired capital 
and surplus may not adequately protect a credit union or the NCUSIF.
    The Board confirms, as some commenters requested, that the 
concentration limits are calculated based on the outstanding loan 
balance. Further, the Board clarifies, as requested by one commenter, 
that a credit union may calculate the initial 30-month servicing 
relationship period from a date preceding this rulemaking. The 30-month 
servicing relationship period starts from the date a credit union first 
acquires an interest in loans from a particular third-party servicer.

Comments About Exemptions for Certain Types of Servicers

    The proposal exempted servicers that are federally-insured 
depository institutions or wholly-owned subsidiaries of federally-
insured depository institutions from the concentration limits. The 
rationale for this exemption is federal regulators have access to and 
oversight of these entities. Many comment letters addressed this 
exemption.
    Several commenters contended the ``wholly-owned subsidiary'' 
exemption should be broadened to include servicers that are only 
partially owned by credit unions. These commenters suggested various 
alternatives to the ``wholly-owned subsidiary'' language, including: 
exempting any servicer that is also a CUSO; any CUSO that has a 
majority of voting interests owned by federally-insured depository 
institutions; or any CUSO that has a majority of voting interests owned 
by federally-insured depository institutions and to which SSAs have 
access. One commenter also stated additional language could be added to 
require access by a Federal regulatory authority.
    NCUA understands the concerns of these commenters. As suggested by 
some of the commenters, the final rule exempts any servicing entity 
that has a majority of its voting interests owned by federally-insured 
credit unions and that includes in its servicing agreements with credit 
unions a provision providing NCUA with access to the servicer's books 
and records and the ability to review its internal controls. This 
written access provision is similar to the CUSO rule requirement that 
federal credit unions and their CUSOs must agree in writing to permit 
NCUA access to the CUSO. 12 CFR 712.3(d)(3). Credit unions relying on 
this exemption must provide the regional director a copy of the 
servicing agreement. This will keep regional directors informed of the 
number of these arrangements, particularly regarding state-chartered 
credit unions that NCUA does not examine on a regular basis.
    A few commenters suggested NCUA should exempt any servicer that 
agrees to allow NCUA access, whether or not the servicer is affiliated 
with a federally-insured credit union. Absent at least majority 
ownership of the servicer by federally insured credit unions, the Board 
does not believe an agreement will assure unfettered and cooperative 
access. Similarly, while a few commenters stated access by an SSA 
should be sufficient to exempt a servicer from the rule, the Board 
concludes the circumstances this rule addresses present particular 
safety and soundness concerns requiring NCUA or another Federal insurer 
to have access to the servicing entity.
    One commenter suggested the rule should be changed to apply only to 
those servicers involved in the loan origination process. This 
commenter contended that, where a credit union controls the 
underwriting process, uses its own dealer relationships for 
originations, and contracts directly with an independent, financially 
sound servicer with appropriate asset class experience, the credit 
union's risks are not significantly different from risks in its 
internal programs and, therefore, should not have different 
concentration limits.
    As stated in the preamble to the proposed rule, NCUA is primarily 
concerned with indirect vehicle lending programs where both control 
over the loan origination process and servicing are outsourced to a 
third-party. While NCUA drafted the proposed concentration limits so as 
to apply to any indirect loan serviced by a third-party servicer, 
regardless of the servicer's involvement in the loan origination 
process, after considering the comments, the Board agrees separating 
servicing from other aspects of the loan, such as underwriting, 
originating, or insuring, mitigates the overall risk. Accordingly, the 
Board has determined to exclude loans in which the servicer and its 
affiliates have no involvement with the loan other than servicing from 
the concentration limit. Specifically, the final rule excludes from the 
definition of covered vehicle loans any loan where neither the third-
party servicer nor any of its affiliates are involved in underwriting, 
originating, or insuring the loan or the process by which the credit 
union acquires its interest in the loan.
    Aside from this modification, the final rule retains the basic 
definition of vehicle loan, that is, ``any installment vehicle sales 
contract or its equivalent that is reported as an asset under generally 
accepted accounting principles [GAAP].'' The Board notes that, under 
GAAP, an interest in a vehicle loan transferred with recourse may not 
be a true sale. See Financial Accounting Standards Board Standard No. 
140. If the transfer does not warrant true sale accounting, the 
transferred loan interest would remain as an asset on the transferring 
credit union's books and, if serviced by a third-party servicer, count 
toward the concentration limits.

Comments About Definitions

    The proposal defined net worth as:

    [T]he retained earnings balance of the credit union at quarter 
end as determined under generally accepted accounting principles. 
For low income-designated credit unions, net worth also includes 
secondary capital accounts that are uninsured and subordinate to all 
other claims, including claims of creditors, shareholders, and the 
National Credit Union Share Insurance Fund.

    Proposed Sec.  701.21(h)(3)(iv). A few commenters believe this 
definition of ``net worth'' should be modified to permit calculation of 
the appropriate limits from the line items on NCUA's Call Report, NCUA 
Form 5300.
    NCUA's current Call Report has an automated ``PCA Net Worth 
Calculation Worksheet.'' If a credit union makes accurate Call Report 
entries, line 7 of this Worksheet, entitled ``Total Net Worth,'' will 
provide the credit union with its retained earnings balance as 
determined under generally accepted accounting principles. This 
information can help credit unions determine their net worth for 
purposes of these concentration limits. The final rule text, however, 
does not refer to the Call

[[Page 36664]]

Report directly since NCUA modifies the Call Report and the specific 
line items change on occasion.
    The concentration limits will apply to all indirect vehicle loans 
serviced by a particular third-party servicer and its affiliates. The 
proposal defined affiliate as follows:

    The term ``its affiliates,'' as it relates to the third-party 
servicer, means any entities that: (A) Control, are controlled by, 
or are under common control with, that third-party servicer; or (B) 
are under contract with that third-party servicer or other entity 
described in paragraph (h)(3)(ii)(A) of this section.

    Proposed Sec.  701.21(h)(3)(ii). One commenter asked why the 
proposed definition includes entities under contract as well as 
entities under common control. If a credit union is using two or more 
servicers to service indirect automobile loans, the Board believes the 
loans of both servicers should be aggregated for purposes of the 
concentration limits if there is any contractual connection between the 
two servicers.\3\ If the contractual relationship does not increase the 
risk to a credit union in a particular case, it may seek a waiver from 
the regional director under the rule's waiver provisions and provide 
the regional director with details about the contractual relationship.
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    \3\ Although a credit union has a contract with its third-party 
servicer, the credit union is not an affiliate servicer for purposes 
of calculating compliance with its own concentration limits. In 
other words, a credit union does not have to aggregate any loans 
that it services in-house with loans serviced by third-party 
servicers.
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    One commenter thought that, in the definition of ``servicer,'' the 
phrase ``pursuant to the terms of a loan'' should be clarified to 
ensure that lockbox relationships are not inadvertently covered by the 
regulation.\4\ The Board understands lockbox accounts are typically 
established at banks, and the rule's definition of servicer 
specifically excludes banks and other federally-insured depository 
institutions and their wholly-owned subsidiaries. While a bank is 
excluded from the rule, any other entity falling within the definition 
of servicer is subject to the rule whether or not it employs a lockbox 
account arrangement as part of its servicing activities.
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    \4\ A ``lock box'' is a ``[c]ash management system whereby a 
company's customers mail payments to a post office box near the 
company's bank. The bank collects checks from the lock box * * * 
deposits them directly to the account of the firm, and informs the 
company's cash manager by telephone of the deposit. This reduces the 
float and puts cash to work more quickly.'' J. Downes and J. 
Goodman, Barron's Dictionary of Finance and Investment Terms, 333 
(5th ed. 1998).
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Comments About the Waiver Provision

    The proposal provided that a regional director, upon request, could 
grant a credit union a waiver from the concentration limits. The 
proposal provided criteria a regional director will consider when 
evaluating a waiver request, including: a credit union's understanding 
of the third-party servicer's organization, business model, financial 
health, and the related program risks; the credit union's due diligence 
in monitoring and protecting against program risks; the contracts 
between the credit union and the third-party servicer; and other 
factors relevant to safety and soundness. Many commenters thought this 
waiver provision was a good idea and the provision for a waiver and 
proposed criteria are retained in the final rule.
    Several commenters suggested the waiver provision should set a time 
period for a regional director's decision. A few commenters thought the 
rule should permit appeal of a waiver decision to the NCUA Board. The 
Board agrees with these commenters. The final rule provides that a 
regional director will make a written determination on a waiver request 
within 45 calendar days after receipt of the request. The 45-day period 
will not begin until a credit union has submitted all necessary 
information to the regional director. A credit union may appeal any 
part of the determination to the NCUA Board. Appeals must be submitted 
through the regional director within 30 days of the date of the 
determination. The Board believes these time periods are reasonable and 
notes they are similar to other waiver processes the Board has adopted. 
See, e.g., 12 CFR 701.36(a)(2)(iii).
    Two commenters thought the rule should permit state chartered 
credit unions to obtain waivers from their SSAs rather than from a 
regional director. The proposed rule required the SSA of a state 
chartered credit union to concur before the regional director grants a 
waiver, and the final rule retains this requirement. Because third-
party servicing of indirect vehicle loans creates risk for the NCUSIF, 
however, NCUA should have a role in the decision to grant or deny all 
waivers.
    One commenter thought the waiver procedure was overly burdensome. 
The Board understands the commenter's concern, but believes it has 
balanced safety and soundness concerns appropriately with the burden 
associated with requesting a waiver. Another commenter questioned why 
an approved waiver should have an expiration date. Circumstances change 
with the passage of time, including the structure of the servicer, the 
content of its program, and the composition of the credit union's 
internal staff and due diligence. Given the significance of the risks, 
a credit union with an existing waiver should demonstrate periodically 
that it understands and controls the risks associated with a servicer's 
program.
    Two commenters sought clarification that credit unions could 
request a waiver from the initial concentration limit of 50 percent as 
well as the 100 percent concentration limit. The Board confirms that, 
as proposed and as provided in the final rule, credit unions may 
request waivers of either limit.
    One commenter noted one of the criteria a regional director will 
consider when reviewing a waiver is the ability of a credit union to 
replace an inadequate servicer. This commenter expressed concern that 
credit unions purchasing participation interests generally have little 
or no ability under standard servicing contracts to replace the 
servicer. The Board agrees an owner of a loan participation interest is 
unlikely to have much say in replacing a poor servicer but notes this 
criterion is only one factor among several a regional director 
considers in determining whether to grant a waiver request.
    Several commenters stated they would like additional information 
about the requirements for a waiver. Two commenters thought waiver 
criteria should include information about the rating of any associated 
insurance company. The Board believes the rule sufficiently describes 
the criteria a regional director will consider but provides the 
following additional discussion of the criteria and documentation for 
waiver requests. Much of this discussion is repeated from the preamble 
of the proposed rule. 70 FR 75753, 75756 (Dec. 21, 2005).
    Credit unions seeking higher concentration limits should have high 
levels of due diligence and tight controls. Due diligence, in turn, 
begins with a demonstrated understanding of the third-party servicer's 
organization, business model, financial health, and program risks. 
Accordingly, a waiver request should provide information about the 
following:
     The vendor's organization, including identification of 
subsidiaries and affiliates involved in the program and the purpose of 
each;
     The various sources of income to the vendor and the credit 
union in the program and any potential vendor conflicts with the 
interests of the credit union;

[[Page 36665]]

     The experience, character, and fitness of the vendor's 
owners and key employees;
     The vendor's ability to fulfill commitments, as evidenced 
by aggregate financial commitments, capital strength, liquidity, 
reputation, and operating results; \5\
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    \5\ Nationally recognized statistical rating organization 
(NRSRO) ratings, multi-year audited and segmented financials, and 
explanations of related party transactions and changes to the net 
worth of the vendor, if any, are also relevant.
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     How loan-related cash flows, including borrower payments, 
borrower payoffs, and insurance payments, are tracked and identified in 
the program;
     An analysis of whether, in the event of the servicer's 
insolvency, the various borrower, insurance, and resale payments in the 
possession of the servicer and the vehicle collateral are protected 
from the bankruptcy trustee;
     The vendor's internal controls to protect against fraud 
and abuse, as documented by, for example, a current SAS 70 type II 
report prepared by an independent and well-qualified accounting firm;
     Insurance offered by the vendor, including interrelated 
insurance products, premiums, conditions for coverage beyond the 
control of the credit union (e.g., a prohibition on extension of the 
insured loans past maturity), the rating of the insurer, and 
limitations such as aggregate loss limits;
     The underwriting criteria provided by the vendor, 
including an analysis of the expected yield based on historical loan 
data, and a sensitivity analysis considering the potential effects of a 
deteriorating economic environment, failure of associated insurance, 
the possibility of fraud at the servicer, a decline in average 
portfolio credit quality, and, if applicable, movement in the program 
back toward industry-wide performance statistics; \6\
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    \6\ If the program loans have historically outperformed industry 
averages, perhaps because of lower prepayment rates or lower default 
proportions, a credit union should calculate expected yield if the 
prepayment rates or default proportions move upwards toward the 
industry averages.
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     Vendor involvement in the underwriting and processing of 
loan applications, including use of proprietary scoring or screening 
models not included in the credit union approved underwriting criteria; 
and
     The program risks, including (1) Credit risk, (2) 
liquidity risk, (3) transaction risk, (4) compliance risk, (5) 
strategic risk, (6) interest rate risk, and (7) reputation risk.
    To qualify for a waiver of concentration limits, the servicing 
agreement should also include more than minimal protections for the 
credit union. Servicer performance standards should be objective and 
clear, and a waiver request should clearly articulate how the 
performance standards protect the interests of the credit union. The 
exit clause, including any cure period, should be exercisable in a 
reasonable period of time. The more intensive the requisite servicing, 
such as for nonprime or subprime loans, the shorter that period of time 
should be. A credit union's right to exit the servicing agreement 
should be exercisable at a reasonable cost to the credit union. If a 
credit union must pay a punitive fee to replace a poor servicer, give 
up valuable insurance protection, or forfeit legal rights without 
adequate compensation, the servicing agreement will not satisfy this 
waiver criterion.
    Some indirect, outsourced programs have complex business models 
that include vendor management of the dealer relationship and also 
insurance provided by the vendor. These business models can produce 
situations where the vendor's financial interests are not aligned with 
the credit union's interests. The credit union needs to be aware of 
these situations and, if appropriate, take protective action.
    For example, a dealer's interest in an indirect lending situation 
is to obtain financing so the dealer can sell a vehicle. A credit 
union's interest is to ensure loan applications are properly 
underwritten and only members meeting the underwriting standards 
receive loans. With an indirect, outsourced program, a third-party 
vendor controls information on the quality of a particular dealer's 
originations. A vendor could present loans to a credit union from a 
changing list of dealers, making it difficult for a credit union to 
identify and screen substandard dealers. This creates a potential for 
the vendor to permit dealers with substandard underwriting performance 
to remain active in the program.
    Unlike typical indirect lending where a dealer receives an 
origination fee, in some vendor programs, a vendor processes loan 
applications for the credit union and also receives significant income 
from dealer fees. A credit union needs to fully understand the 
relationship between the vendor and the dealers. Credit unions seeking 
a concentration limit waiver should review agreements between the 
vendor and associated dealers.
    Some vendors provide third-party default insurance or reinsurance 
and this presents a potential conflict between the vendor as servicer 
and the vendor as insurer. Accordingly, a credit union needs to 
understand the relationship between the vendor and the insurance 
company and the associated risks to the credit union. To understand 
this relationship fully, a credit union desiring a concentration limit 
waiver should review all agreements between the vendor, affiliates of 
the vendor, and the associated insurance companies.
    Another potential conflict exists where the vendor controls the 
dealer relationship and can route a potential loan to multiple funding 
sources. For example, some vendors track statistics on loan performance 
by dealership. A credit union should be aware if a vendor then routes 
loan applications from the preferred dealerships to the preferred 
funding sources. A credit union desiring a waiver should understand the 
various funding sources available to the vendor and document how the 
vendor tracks vendor performance and makes funding decisions.
    With each identified risk, a credit union should explain to the 
regional director how it plans to eliminate or mitigate the risk. Some, 
but not all, risks may be dealt with through contractual arrangements. 
For example, the credit union must ensure that its contracts with the 
servicer grant the credit union sufficient control over the servicer's 
actions and provide for replacing an inadequate servicer. As NCUA 
stated in Letter to Credit Unions No. 04-CU-13, and, again, in NCUA 
Risk Alert No. 05-01, safety and soundness requires a credit union to 
limit the power of a third-party servicer to alter loan terms. Also, 
the servicing contract must contain a mechanism, or exit clause, to 
replace an unsatisfactory servicer.
    A regional director may also consider any legal reviews obtained by 
the credit union on these contracts and should consider the scope and 
depth of the review and the reviewer's qualifications.
    Regional directors may consider other relevant factors when 
determining whether to grant a waiver of concentration limits as well 
as the size of any substitute limit. Other factors include the 
demonstrated strength of the credit union's management and the credit 
union's previous history in exercising due diligence over similar 
programs. In addition, higher concentration levels entail more risk to 
the net worth of a credit union, and so the requisite due diligence 
also depends on the substitute concentration limit the credit union 
requests.

C. Effective Date

    The effective date of this final rule is 30 days from the date of 
publication in the Federal Register.

[[Page 36666]]

    As discussed in the preamble to the proposed rule, 70 FR 75753, 
75757 (Dec. 21, 2005), several credit unions that currently participate 
in indirect, outsourced programs have concentration levels that exceed 
the proposed concentration limits. For those credit unions that exceed 
the concentration limits on the effective date, the rule will not 
require any divestiture. The rule will prohibit these credit unions 
from purchasing any additional loans, or interests in loans, from the 
affected vendor program until such time as the credit union either 
reduces its holdings below the appropriate concentration limit or the 
credit union obtains a waiver to permit a greater concentration limit.
    The Board is concerned that some credit unions may consider making 
large purchases of loans that would be subject to the rule before the 
effective date of the final rule. NCUA will review any large purchases 
closely and credit unions should be advised that NCUA may consider 
appropriate supervisory action, including divestiture, to ensure that 
the credit union's actions were safe and sound.

D. Regulatory Procedures

Regulatory Flexibility Act

    The Regulatory Flexibility Act requires NCUA to prepare an analysis 
to describe any significant economic impact a proposed rule may have on 
a substantial number of small credit unions (those under $10 million in 
assets). This final rule establishes for federally-insured credit 
unions a concentration limit on indirect vehicle loans serviced by 
certain third parties. In the preamble of the proposed rule NCUA 
published its estimate that no more than five small credit unions were 
involved in purchasing vehicle loans, or interests in loans, from an 
indirect, outsourced vendor program. NCUA received no comments on this 
estimate. Accordingly, NCUA has determined that the rule will not have 
a significant economic impact on a substantial number of small credit 
unions and that a regulatory flexibility analysis is not required.

Paperwork Reduction Act

    The waiver provision in Sec.  701.21(h)(2) contains information 
collection requirements. As required by the Paperwork Reduction Act of 
1995 (44 U.S.C. 3507(d)), NCUA submitted a copy of the proposed rule as 
part of an information collection package to the Office of Management 
and Budget (OMB) for its review and approval of a new Collection of 
Information, Third-Party Servicing of Indirect Vehicle Loans. On March 
1, 2006, OMB approved this new Collection of Information. The OBM 
Collection Number is 3133-0171.

Executive Order 13132

    Executive Order 13132 encourages independent regulatory agencies to 
consider the impact of their actions on state and local interests. In 
adherence to fundamental federalism principles, NCUA, an independent 
regulatory agency as defined in 44 U.S.C. 3502(5), voluntarily complies 
with the executive order. This rule will not have substantial direct 
effects on the states, on the connection between the national 
government and the states, or on the distribution of power and 
responsibilities among the various levels of government. NCUA has 
determined that this rule does not constitute a policy that has 
federalism implications for purposes of the Executive Order.

The Treasury and General Government Appropriations Act, 1999--
Assessment of Federal Regulations and Policies on Families

    NCUA has determined that this rule would not affect family well-
being within the meaning of section 654 of the Treasury and General 
Government Appropriations Act, 1999, Pub. L. 105-277, 112 Stat. 2681 
(1998).

Small Business Regulatory Enforcement Fairness Act

    The Small Business Regulatory Enforcement Act of 1996 (Pub. L. 104-
121) provides generally for congressional review of agency rules. A 
reporting requirement is triggered in instances where NCUA issues a 
final rule as defined by section 551 of the Administrative Procedure 
Act. 5 U.S.C. 551. The Office of Management and Budget has determined 
that this rule is not a major rule for purposes of the Small Business 
Regulatory Enforcement Fairness Act of 1996.

List of Subjects

12 CFR Part 701

    Credit unions, Loans.

12 CFR Part 741

    Credit unions, Requirements for insurance.

    By the National Credit Union Administration Board on June 22, 
2006.
Mary Rupp,
Secretary of the Board.

0
For the reasons stated in the preamble, the National Credit Union 
Administration amends 12 CFR parts 701 and 741 as set forth below:

PART 701--ORGANIZATION AND OPERATION OF FEDERAL CREDIT UNIONS

0
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, and 1789. 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. 1981 and 3601-3619. Section 701.35 
is also authorized by 42 U.S.C. 4311-4312.


0
2. Add a new paragraph (h) to Sec.  701.21 to read as follows:


Sec.  701.21  Loans to members and lines of credit to members.

* * * * *
    (h) Third-party servicing of indirect vehicle loans. (1) A 
federally-insured credit union must not acquire any vehicle loan, or 
any interest in a vehicle loan, serviced by a third-party servicer if 
the aggregate amount of vehicle loans and interests in vehicle loans 
serviced by that third-party servicer and its affiliates would exceed:
    (i) 50 percent of the credit union's net worth during the initial 
thirty months of that third-party servicing relationship; or
    (ii) 100 percent of the credit union's net worth after the initial 
thirty months of that third-party servicing relationship.
    (2) Regional directors may grant a waiver of the limits in 
paragraph (h)(1) of this section to permit greater limits upon written 
application by a credit union. In determining whether to grant or deny 
a waiver, a regional director will consider:
    (i) The credit union's understanding of the third-party servicer's 
organization, business model, financial health, and the related program 
risks;
    (ii) The credit union's due diligence in monitoring and protecting 
against program risks;
    (iii) If contracts between the credit union and the third-party 
servicer grant the credit union sufficient control over the servicer's 
actions and provide for replacing an inadequate servicer; and
    (iv) Other factors relevant to safety and soundness.
    (3) A regional director will provide a written determination on a 
waiver request within 45 calendar days after receipt of the request; 
however, the 45-day period will not begin until the requesting credit 
union has submitted all necessary information to the regional director. 
If the regional director does not

[[Page 36667]]

provide a written determination within the 45-day period the request is 
deemed denied. A credit union may appeal any part of the determination 
to the NCUA Board. Appeals must be submitted through the regional 
director within 30 days of the date of the determination.
    (4) For purposes of paragraph (h) of this section:
    (i) The term ``third-party servicer'' means any entity, other than 
a federally-insured depository institution or a wholly-owned subsidiary 
of a federally-insured depository institution, that receives any 
scheduled, periodic payments from a borrower pursuant to the terms of a 
loan and distributes payments of principal and interest and any other 
payments with respect to the amounts received from the borrower as may 
be required pursuant to the terms of the loan. The term also excludes 
any servicing entity that meets the following three requirements:
    (A) Has a majority of its voting interests owned by federally-
insured credit unions;
    (B) Includes in its servicing agreements with credit unions a 
provision that the servicer will provide NCUA with complete access to 
its books and records and the ability to review its internal controls 
as deemed necessary by NCUA in carrying out NCUA's responsibilities 
under the Act; and
    (C) Has its credit union clients provide a copy of the servicing 
agreement to their regional directors.
    (ii) The term ``its affiliates,'' as it relates to the third-party 
servicer, means any entities that:
    (A) Control, are controlled by, or are under common control with, 
that third-party servicer; or
    (B) Are under contract with that third-party servicer or other 
entity described in paragraph (h)(4)(ii)(A) of this section.
    (iii) The term ``vehicle loan'' means any installment vehicle sales 
contract or its equivalent that is reported as an asset under generally 
accepted accounting principles. The term does not include:
    (A) Loans made directly by a credit union to a member, or
    (B) Loans in which neither the third-party servicer nor any of its 
affiliates are involved in the origination, underwriting, or insuring 
of the loan or the process by which the credit union acquires its 
interest in the loan.
    (iv) The term ``net worth'' means the retained earnings balance of 
the credit union at quarter end as determined under generally accepted 
accounting principles. For low income-designated credit unions, net 
worth also includes secondary capital accounts that are uninsured and 
subordinate to all other claims, including claims of creditors, 
shareholders, and the National Credit Union Share Insurance Fund.
* * * * *

PART 741--REQUIREMENTS FOR INSURANCE

0
3. The authority citation for part 741 continues to read as follows:

    Authority: 12 U.S.C. 1757, 1766, 1781-1790, and 1790d. Section 
741.4 is also authorized by 31 U.S.C. 3717.


0
4. Add a new paragraph (c) to Sec.  741.203 to read as follows:


Sec.  741.203  Minimum loan policy requirements.

* * * * *
    (c) Adhere to the requirements stated in Sec.  701.21(h) of this 
chapter concerning third-party servicing of indirect vehicle loans. 
Before a state-chartered credit union applies to a regional director 
for a waiver under Sec.  701.21(h)(2), it must first notify its state 
supervisory authority. The regional director will not grant a waiver 
unless the appropriate state official concurs in the waiver. The 45-day 
period for the regional director to act on a waiver request, as 
described Sec.  701.21(h)(3), will not begin until the regional 
director has received the state official's concurrence and any other 
necessary information.
 [FR Doc. E6-10137 Filed 6-27-06; 8:45 am]
BILLING CODE 7535-01-P