[Federal Register Volume 76, Number 189 (Thursday, September 29, 2011)]
[Rules and Regulations]
[Pages 60364-60367]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-24907]



[[Page 60364]]

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NATIONAL CREDIT UNION ADMINISTRATION

12 CFR Parts 700, 701, 702, 725, and 741

RIN 3133-AD87


Net Worth and Equity Ratio

AGENCY: National Credit Union Administration (NCUA).

ACTION: Final rule.

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SUMMARY: On January 4, 2011, President Obama signed Senate Bill 4036 
into law, which, among other things, amended the statutory definitions 
of ``net worth'' and ``equity ratio'' in the Federal Credit Union Act. 
Through this final rule, NCUA is making conforming amendments to the 
definition of ``net worth'' as it appears in NCUA's Prompt Corrective 
Action regulation and the definition of ``equity ratio'' as it appears 
in NCUA's Requirements for Insurance regulation. NCUA is also making 
technical changes in other regulations to ensure clarity and 
consistency in the use of the term ``net worth,'' as it is applied to 
federally-insured credit unions.

DATES: This rule will become effective on October 31, 2011.

FOR FURTHER INFORMATION CONTACT: Justin M. Anderson, Staff Attorney, 
Office of General Counsel, at the above address or telephone (703) 518-
6540 or Karen Kelbly, Chief Accountant, Office of Examination and 
Insurance, at the above address or telephone at 703-518-6630.

SUPPLEMENTARY INFORMATION:

A. Background

    On January 4, 2011, President Obama signed An Act to Clarify the 
National Credit Union Administration Authority to Make Stabilization 
Fund Expenditures without Borrowing from the Treasury (the 
Stabilization Fund Expenditures Act) into law. S. 4036, 111th Cong., 
Public Law 111-382 (2011). The Stabilization Fund Expenditures Act 
amended the Federal Credit Union Act (the Act) by clarifying NCUA's 
authority to make stabilization fund expenditures without borrowing 
from the Treasury, amending the definitions of ``equity ratio'' and 
``net worth,'' and requiring the Comptroller General of the United 
States to conduct a study on NCUA's handling of the recent corporate 
credit union crisis. The Stabilization Fund Expenditures Act is divided 
into four sections, and the amendments in this rule implement the 
changes made to the Act by sections two and three of the Stabilization 
Fund Expenditures Act.

B. Proposed Rule

    On March 17, 2011, the NCUA Board (the Board) issued a proposed 
rule to make conforming changes to the definitions of ``net worth'' and 
``equity ratio,'' as those terms are used in NCUA's regulations. 76 FR 
16345, March 23, 2011. The Board also proposed technical changes to the 
term ``net worth'' to ensure consistency and accurate accounting 
treatment in combination transactions. In response, the Board received 
15 comments: Two from credit union trade associations; one from a bank 
trade association; one from a state bank league; four from state credit 
union leagues; four from federal credit unions; and three from 
federally insured state chartered credit unions. All of the commenters 
supported the conforming changes to the definitions of ``net worth'' 
and ``equity ratio,'' but a majority of the commenters disagreed with 
the Board's proposed technical correction to the definition of net 
worth in Sec.  702.2(f)(3) of NCUA's regulation. The proposed technical 
change, which addresses the acquisition of one credit union by another, 
requires the subtraction of any bargain purchase gain from the acquired 
credit union's retained earnings when determining the amount of 
regulatory capital add-on to be included in the acquirer credit union's 
post acquisition net worth.
    In addition, commenters also addressed other points in the proposed 
rule, including the differing definitions of ``net worth'' in the 
Prompt Corrective Action (PCA) and Member Business Loan (MBL) 
regulations, the inclusion of section 208 assistance in a credit 
union's net worth, and the public disclosure of credit unions that 
receive section 208 assistance. Below, the Board discusses each of the 
topics addressed by the commenters.

C. Summary of Comments

1. Technical Change To ``Net Worth''

    Eleven commenters objected to NCUA's technical change to the 
definition of ``net worth'' in a combination transaction as set forth 
in proposed Sec.  702.2(f)(3). The proposed change requires the 
subtraction of any bargain purchase gain from an acquired credit 
union's retained earnings before the latter amount is included in the 
net worth of the acquiring credit union. This proposed correction also 
limits the difference between the added retained earnings and bargain 
purchase gain to an amount that is zero or more, which would prevent a 
retained earnings deficit from flowing forward to the acquiring 
institution. Finally, this proposed revision adds a requirement that 
the retained earnings of the acquired credit union at the point of 
acquisition be measured under Generally Accepted Accounting Procedures 
(GAAP) as referenced in the Act. 12 U.S.C. 1790d(o)(2)(A).
    All of the commenters objecting to this change cited at least one 
of three reasons. First, six commenters believed this change would have 
a chilling effect or act as a disincentive to credit unions interested 
in merging. The Board, however, notes that most mergers will be 
unaffected by this change. For the majority of credit union mergers, 
the resulting component is in the form of goodwill rather than bargain 
purchase gain. In those situations, this change will have no effect on 
the transaction. For those few mergers that this change will impact, 
the Board believes the impact will be minimal and will not create any 
disincentive to mergers as it duplicates the regulatory capital result 
achieved under the old pooling method. In responding to these comments, 
NCUA staff looked at recent mergers to evaluate the impact this change 
would have had on those transactions. Of the mergers reviewed, which 
resulted in a bargain purchase gain, none would have resulted in a 
significant decrease in net worth because of the technical correction. 
To illustrate this point, the Board notes that, of the mergers 
reviewed, the sharpest decline in net worth was from a net worth of 
12.93% under the current rule to a net worth of 12.46% with the 
technical correction.
    Second, six commenters also stated that this change is contrary to 
GAAP and would put acquiring credit unions in a worse financial 
position than they otherwise would have been had the transaction been 
accounted for under GAAP. The Board agrees with commenters that GAAP 
should govern the financial reporting of merger transactions and notes 
that this technical correction does not change the requirement for 
credit unions to report merger transactions in accordance with GAAP. 
This technical correction ensures that an acquiring credit union's 
regulatory capital does not achieve a double benefit through a bargain 
purchase gain, which is not contrary to GAAP accounting.
    Finally, eight commenters stated that this change is contrary to 
the purpose and intent of the 2006 Financial Services Relief Act (2006 
Relief Act). The 2006 Relief Act amended the FCU Act by defining ``net 
worth'' as including ``the retained earnings balance of the credit 
union, as

[[Page 60365]]

determined under generally accepted accounting procedures, together 
with any amounts that were previously retained earnings of any credit 
union with which the credit union has combined.'' Public Law 709-351, 
section 504 (2006), 12 U.S.C. 1790d(o)(2)(A). The expanded definition 
permitted the acquiring credit union to ``follow the new Financial 
Accounting Standards Board (FASB) rule while still allowing the capital 
of both credit unions to flow forward as regulatory capital and thus 
preserve the incentive for desirable credit union mergers.'' Staff of 
Senate Comm. on Banking, Housing and Urban Affairs, 109th Cong., 
Section-By-Section Analysis of Financial Services Regulatory Relief Act 
of 2006 (Comm. Print 2006) at 3. By duplicating the regulatory capital 
measure previously obtained under the pooling method of accounting, the 
2006 Relief Act eliminated the regulatory capital disincentive caused 
by changes to the FASB rules. The technical change proposed by the 
Board retains the forward flow of the capital of both the acquired and 
acquiring credit unions, but removes the double counting of the 
acquired credit union's capital caused by the accounting treatment of 
bargain purchase gain. The Board's proposed technical correction, 
therefore, is consistent with Congress' objective in the 2006 Relief 
Act. The following hypothetical example illustrates how the technical 
correction is in line with Congress' intent:

                      Table 1--Hypothetical Example
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         Target's balance sheet             Book value      Fair value
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Assets..................................        $475,000        $500,000
Liabilities.............................         348,000         350,000
Equity:                                   ..............  ..............
    Retained Earnings...................         127,000  ..............
    Acquired Equity.....................  ..............         125,000
    Bargain Purchase Gain...............  ..............          25,000
Liabilities & Equity....................         475,000         500,000
Acquirer's Retained Earnings............         250,000  ..............
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                          Table 2--Comparison of Acquirer's Regulatory Capital Outcomes
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                                                                     Under old     Under current  With technical
                                                                      pooling       rule w/BPG       amendment
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Acquirer's Retained Earnings Under GAAP.........................        $250,000        $275,000        $275,000
Target's Regulatory Capital Add-on:                               ..............  ..............  ..............
    PreMerger Retained Earnings.................................         127,000         127,000         127,000
    Less: Bargain Purchase Gain.................................  ..............  ..............        (25,000)
Net Worth (Regulatory Capital)..................................         377,000         402,000         377,000
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    Based on the discussion above and for the reasons articulated in 
the proposed rule (see 76 FR 16345, March 23, 2011), the Board is 
retaining the technical change in this final rule that requires the 
subtraction of any bargain purchase gain from the acquired credit 
union's retained earnings before the latter amount is included in the 
acquirer's net worth. A technical change to a reference in Part 725 is 
also made due to a realignment of definitions in Part 700.
2. Consistent Definition of ``Net Worth''
    Four commenters objected to the use of a different definition of 
``net worth'' in the MBL and PCA regulations. These commenters stated 
that the differing definitions were unfair and would likely cause 
confusion among credit unions. As noted in the proposed rule, the 
differing definitions are based on the definitions of ``net worth'' 
used in the sections of the Act addressing MBLs and PCA. See 76 FR 
16345, March 23, 2011 and 12 U.S.C. 1757a(c)(2) and 1790d(o)(2). The 
differing definitions of net worth for MBLs and PCA in NCUA's 
regulations reflect the corresponding differing definitions in the Act. 
As such, the Board cannot use the same definition of ``net worth'' in 
the MBL and PCA regulations without a statutory change.
3. Clarification of Section 208 Assistance
    The Board received four comments seeking clarification on when 208 
assistance can be counted as net worth. Section 208 of the Act allows 
the Board, in its discretion, to make loans to, or purchase the assets 
of, or establish accounts in insured credit unions the Board has 
determined are in danger of closing or in order to assist in the 
voluntary liquidation of a solvent credit union. 12 U.S.C. 1788(a)(1). 
Two commenters stated that it was Congress' intent to limit when 
section 208 assistance may be counted as net worth to only those 
situations when the Board provides the assistance to facilitate a 
merger between a healthy and a failed credit union. These commenters 
cited a portion of the Stabilization Fund Expenditures Act, which 
states that section 208 assistance may be counted as net worth when it 
is provided by the Board ``to facilitate a least cost resolution.'' 111 
Public Law 382, 124 Stat. 4134 (2011). These commenters believe that 
the phrase ``facilitate a least cost resolution'' limits when section 
208 assistance may be considered net worth to only those situations 
where it is provided to facilitate a merger. In contrast, two other 
commenters stated that section 208 assistance counted as net worth 
should not be restricted to only those situations involving a merger. 
These other commenters also cited the statutory amendments and argued 
that the Stabilization Fund Expenditures Act does not contain explicit 
limitations on when section 208 assistance can be included in a credit 
unions net worth, but rather provides the Board with a high level of 
discretion on when to use section 208 assistance as net worth. Id.
    After considering the comments and revisiting the language of the 
statutory amendments, the Board concurs with the commenters who stated 
that section 208 assistance as net worth should not be limited to only 
those instances when a merger is involved. As those commenters pointed 
out, there is nothing in the statutory change that states that section 
208 assistance can only be counted as net worth when a

[[Page 60366]]

merger is involved. In fact, when read as a whole, the Act, as amended 
by the Stabilization Fund Expenditures Act, addresses net worth in the 
context of a merger and in the context of section 208 assistance in 
different sections. Specifically, section 216(o)(2)(A) of the Act 
defines net worth of a credit union in a combination transaction and 
section 216(o)(2)(B) of the Act separately defines net worth with 
respect to section 208 assistance. 12 U.S.C. 1790d(o)(2)(A) and (B). 
The Board believes that this statutory construction as well as the 
absence of limiting language in the Stabilization Fund Expenditures Act 
supports the conclusion that defining section 208 assistance as net 
worth is not limited to situations only involving a merger. The Board, 
therefore, is clarifying that section 208 assistance can be counted in 
a credit union's net worth subject only to those limitations contained 
in the rule text and is not limited only to merger transactions.
4. Section 208 Assistance on the 5300
    Finally, three commenters requested that NCUA include a separate 
line item on the 5300 Call Report for reporting section 208 assistance 
received by a credit union. These commenters cited transparency and 
accountability as reasons for the inclusion of section 208 assistance 
on the 5300 Call Report. NCUA has previously declined to make 
information about credit unions receiving section 208 assistance public 
because there is a strong possibility that members may perceive receipt 
of section 208 assistance to indicate a weak and unstable credit union. 
Further, this information would also be exempt from public disclosure 
pursuant to Exemption 8 of the FOIA.\1\ While the Board is dedicated to 
transparency in its operations, this dedication must also be balanced 
with the safety and soundness of the credit union industry. As such, 
the Board continues to agree with this rationale for not publicly 
releasing information on credit unions that receive section 208 
assistance and will not include a separate line item on the 5300 Call 
Report for the disclosure of section 208 assistance.
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    \1\ Exemption 8 of the FOIA exempts from disclosure information 
contained in or related to examination, operating, or condition 
reports prepared by, on behalf of, or for the use of an agency 
responsible for the regulation or supervision of financial 
institutions. 5 U.S.C. 552(b)(8).
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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 modifies the definition of ``net worth'' and 
``equity ratio,'' and will not have a significant economic impact on a 
substantial number of small credit unions and a regulatory flexibility 
analysis is not required.

Small Business Regulatory Enforcement Fairness Act

    The Small Business Regulatory Enforcement Fairness Act (SBREFA) of 
1996, Public Law 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 Procedures Act. 5 U.S.C. 551. The Office of Information 
and Regulatory Affairs, an office within the Office of Management and 
Budget, is currently reviewing this rule, and NCUA anticipates it will 
determine that, for purposes of SBREFA, this is not a major rule.

Paperwork Reduction Act

    NCUA has determined that the final amendments will not increase 
paperwork requirements and a paperwork reduction analysis is not 
required.

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. The final rule would 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 final 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 proposed rule would not affect family 
well-being within the meaning of section 654 of the Treasury and 
General Government Appropriations Act, 1999, Public Law 105-277, 112 
Stat. 2681 (1998).

List of Subjects in 12 CFR Parts 700, 701, 702, 725, and 741

    Bank deposit insurance, Credit, Credit unions, Reporting and 
recordkeeping requirements.

    By the National Credit Union Administration Board on September 
22, 2011.
Mary Rupp,
Secretary of the Board.

    For the reasons stated in the preamble, the National Credit Union 
Administration amends 12 CFR parts 700, 701, 702, 725, and 742 as set 
forth below:

PART 700--DEFINITIONS

0
1. The authority citation for part 700 continues to read as follows:

    Authority:  12 U.S.C. 1752, 1757(6) and 1766.


0
2. In Sec.  700.2:
0
a. Remove the alphabetical paragraph designations,and add in 
alphabetical order a definition for ``net worth''; and
0
b. In the definition of ``insolvency,'' transfer paragraph designation 
(1) to follow the term.
    The addition reads as follows:


Sec.  700.2  Definitions.

* * * * *
    Net worth. Unless otherwise noted, the term ``net worth,'' as 
applied to credit unions, has the same meaning as set forth in Sec.  
702.2(f) of this chapter.
* * * * *

PART 701--ORGANIZATION AND OPERATION OF FEDERAL CREDIT UNIONS

0
3. The authority citation for part 701 continues to read as follows:

    Authority:  12 U.S.C. 1752(5), 1755, 1756, 1757, 1758, 1759, 
1761a, 1761b, 1766, 1767, 1782, 1784, 1786, 1787, 1789. Section 
701.6 is also authorized by 15 U.S.C. 3717. Section 701.31 is also 
authorized by 15 U.S.C. 1601 et seq.; 42 U.S.C. 1981 and 3601-3610. 
Section 701.35 is also authorized by 42 U.S.C. 4311-4312.

0
4. Revise Sec.  701.21(h)(4)(iv) to read as follows:


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

* * * * *
    (h) * * *
    (4) * * *
    (iv) The term ``net worth'' means the retained earnings balance of 
the credit union at quarter end as determined under generally accepted 
accounting principles and as further defined in Sec.  702.2(f) of this 
chapter.
* * * * *

[[Page 60367]]

PART 702--PROMPT CORRECTIVE ACTION

0
5. The authority citation for part 702 continues to read as follows:

    Authority:  12 U.S.C. 1766(a), 1790(d).

0
6. In 702.2, revise paragraph (f)(3) and add paragraph (f)(4) to read 
as follows:


Sec.  702.2  Definitions.

* * * * *
    (f) * * *
    (3) For a credit union that acquires another credit union in a 
mutual combination, net worth includes the retained earnings of the 
acquired credit union, or of an integrated set of activities and 
assets, less any bargain purchase gain recognized in either case to the 
extent the difference between the two is greater than zero. The 
acquired retained earnings must be determined at the point of 
acquisition under generally accepted accounting principles. A mutual 
combination is a transaction in which a credit union acquires another 
credit union or acquires an integrated set of activities and assets 
that is capable of being conducted and managed as a credit union.
    (4) The term ``net worth'' also includes loans to and accounts in 
an insured credit union established pursuant to section 208 of the Act 
[12 U.S.C. 1788], provided such loans and accounts:
    (i) Have a remaining maturity of more than 5 years;
    (ii) Are subordinate to all other claims including those of 
shareholders, creditors and the National Credit Union Share Insurance 
Fund;
    (iii) Are not pledged as security on a loan to, or other obligation 
of, any party;
    (iv) Are not insured by the National Credit Union Share Insurance 
Fund;
    (v) Have non-cumulative dividends;
    (vi) Are transferable; and
    (vii) Are available to cover operating losses realized by the 
insured credit union that exceed its available retained earnings.
* * * * *

PART 725--NATIONAL CREDIT UNION ADMINISTRATION CENTRAL LIQUIDITY 
FACILITY

0
7. The authority citation for part 725 continues to read as follows:

    Authority:  Secs. 301-307 Federal Credit Union Act, 92 Stat. 
3719-3722 (12 U.S.C. 1795-1795f).

Sec.  725.18  [Amended]

0
8. In Sec.  725.18, amend paragraph (c) by removing the words ``by 
Sec.  700.2(e)(1)'' and adding in its place the words ``in paragraph 
(1) to the definition of ``insolvency in Sec.  700.2''.

PART 741--REQUIREMENTS FOR INSURANCE

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

    Authority:  12 U.S.C. 1757, 1766(a), 1781-1790, and 1790d; 31 
U.S.C. 3717.


0
10. In Sec.  741.4, in paragraph (b), revise the introductory text to 
the definition of ``equity ratio'' to read as follows:


Sec.  741.4  Insurance premium and one percent deposit.

* * * * *
    (b) * * *
    Equity ratio, which shall be calculated using the financial 
statements of the NCUSIF alone, without any consolidation or 
combination with the financial statements of any other fund or entity, 
means the ratio of:
* * * * *
[FR Doc. 2011-24907 Filed 9-28-11; 8:45 am]
BILLING CODE 7535-01-P