[Federal Register Volume 86, Number 123 (Wednesday, June 30, 2021)]
[Rules and Regulations]
[Pages 34611-34621]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2021-13906]


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NATIONAL CREDIT UNION ADMINISTRATION

12 CFR Part 741

[NCUA 2020-0114]
RIN 3133-AF30


Capitalization of Interest in Connection With Loan Workouts and 
Modifications

AGENCY: National Credit Union Administration (NCUA).

ACTION: Final rule.

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SUMMARY: The NCUA Board (Board) is amending its regulations to remove 
the prohibition on the capitalization of interest in connection with 
loan workouts and modifications. The final rule also establishes 
documentation requirements to help ensure that the addition of unpaid 
interest to the principal balance of a mortgage loan does not hinder 
the borrower's ability to become current on the loan. The Board has 
also taken the opportunity afforded by the rulemaking to make several 
technical changes to the regulations to improve their clarity and 
update certain references. The final rule follows publication of the 
December 4, 2020, proposed rule and takes into consideration the public 
comments on the proposed rule. After careful consideration, the Board 
has decided to adopt the proposed rule without change.

DATES: Effective July 30, 2021.

FOR FURTHER INFORMATION CONTACT: Policy: Alison L. Clark, Chief 
Accountant, and Timothy C. Segerson, Deputy Director, Office of 
Examinations and Insurance, at (703) 518-6360; Legal: Ariel Pereira and 
Gira Bose, Senior Staff Attorneys, Office of General Counsel, at (703) 
518-6540.

SUPPLEMENTARY INFORMATION:
I. Background: The Board's December 4, 2020, Proposed Rule
II. Legal Authority
III. Discussion of Public Comments Received on the December 4, 2020, 
Proposed Rule
IV. This Final Rule

[[Page 34612]]

V. Regulatory Procedures

I. Background: The Board's December 4, 2020, Proposed Rule

    At its November 19, 2020, meeting, the Board proposed amending the 
NCUA's regulations to remove the prohibition on the capitalization of 
interest in connection with loan workouts and modifications. The 
proposed rule was subsequently published in the Federal Register on 
December 4, 2020.\1\ The prohibition is codified in Appendix B to Part 
741 (hereinafter referred to as ``Appendix B'') of the NCUA's 
regulations.
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    \1\ 85 FR 78269 (Dec. 4, 2020) (https://www.govinfo.gov/content/pkg/FR-2020-12-04/pdf/2020-25988.pdf).
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    As explained in the preamble to the December 4, 2020, proposed 
rule, the NCUA established the prohibition on authorizing additional 
advances to finance unpaid interest in a May 3, 2012, final rule.\2\ 
The May 2012 final rule established loan workout and monitoring 
requirements applicable to all federally insured credit unions (FICUs). 
Among other amendments, the final rule required that FICUs have written 
policies addressing loan workouts and nonaccrual practices. Under that 
final rule, such policies were required to prohibit a FICU from 
authorizing additional advances to a borrower to finance unpaid 
interest (capitalization of interest) and credit union fees and 
commissions. However, the final rule permitted FICUs to make such 
advances to cover third-party fees, such as force-placed insurance and 
property taxes.
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    \2\ 77 FR 31993 (May 31, 2012) (https://www.govinfo.gov/content/pkg/FR-2012-05-31/pdf/2012-13214.pdf).
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    The Board was prompted to reconsider these prohibitions because of 
the challenges and economic disruption caused by the COVID-19 pandemic. 
For borrowers experiencing financial hardship, a prudently underwritten 
and appropriately managed loan modification, consistent with safe and 
sound lending practices, is generally in the long-term best interest of 
both the borrower and the FICU. Such modifications may allow a borrower 
to remain in their home or a commercial borrower to maintain operations 
and can help FICUs minimize the costs of default and foreclosures. 
Thus, the prohibition in the May 2012 final rule on the capitalization 
of interest might be overly burdensome and, in some cases, possibly 
hamper a FICU's good-faith efforts to engage in loan workouts with 
borrowers facing financial difficulty.
    Other considerations, such as parity with the treatment of interest 
capitalization by banks, also factored in the Board's determination. 
Banks are not subject to the same prohibition on capitalizing interest 
(the banking agencies have not adopted an absolute standard equivalent 
to the rule that the Board codified in 2012). The banking agencies have 
addressed capitalization of interest through guidance, letters, and 
Call Report instructions, none of which strictly prohibit the 
capitalization of interest when modifying loans. Further, the 
government-sponsored enterprises (GSEs)--Fannie Mae and Freddie Mac--
have had a long-standing policy supporting the ability of servicers to 
capitalize interest and fees as part of a prudent modification program.
    Accordingly, the Board issued the December 4, 2020, proposed rule 
to make capitalization of interest a permissible option indefinitely. 
The proposed rule applies to workouts of all types of member loans, 
including commercial and business loans. In proposing the change, the 
Board underscored that Appendix B currently requires several safety and 
soundness and consumer protection-oriented measures that would also 
apply to capitalizing interest. The Board also proposed to add several 
consumer protection and safety and soundness requirements to Appendix B 
for FICUs when they modify loans with an interest capitalization 
component.
    The proposed rule also makes several technical changes to Appendix 
B to improve its clarity and update certain references. Interested 
readers should refer to the preamble of the December 4, 2020, proposed 
rule for additional background and information on the proposed 
regulatory changes.

II. Legal Authority

    The Board issues this final rule pursuant to its authority under 
the Federal Credit Union (FCU) Act.\3\ Under the FCU Act, the NCUA is 
the chartering and supervisory authority for federal credit unions 
(FCUs) and the Federal supervisory authority for FICUs.\4\ The FCU Act 
grants the NCUA a broad mandate to issue regulations that govern both 
FCUs and FICUs. Section 120 of the FCU Act is a general grant of 
regulatory authority and authorizes the Board to prescribe rules and 
regulations for the administration of the FCU Act.\5\ Section 209 of 
the FCU Act is a plenary grant of regulatory authority to the NCUA to 
issue rules and regulations necessary or appropriate to carry out its 
role as share insurer for all FICUs.\6\ Accordingly, the FCU Act grants 
the Board broad rulemaking authority to ensure that the credit union 
industry and the National Credit Union Share Insurance Fund remain safe 
and sound.
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    \3\ 12 U.S.C. 1751 et al.
    \4\ 12 U.S.C. 1752-1775.
    \5\ 12 U.S.C. 1766(a).
    \6\ 12 U.S.C. 1789(a)(11).
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III. Discussion of Public Comments Received on the December 4, 2020, 
Proposed Rule

A. The Comments, Generally

    The proposed rule provided for a 60-day public comment period, 
which closed on February 2, 2021. The NCUA received 26 comments in 
response to the proposed rule. These came from FICUs, individuals, and 
credit union leagues and trade associations. In general, the commenters 
expressed support for lifting the prohibition on interest 
capitalization as a helpful tool to assist financially distressed 
borrowers. The main reasons given by commenters for supporting the 
proposed rule were parity with banks, which are not prohibited from 
capitalizing interest; parity for FICU members whose loans are held in 
portfolio by the originating FICU and who, unlike members whose loans 
are sold on the secondary market, cannot currently take advantage of 
interest capitalization; and flexibility for distressed borrowers for 
whom interest capitalization may be the only realistic solution for 
avoiding foreclosure.
    While noting the Board's interest in receiving public comment on 
all aspects of the interest capitalization issue, the preamble to the 
proposed rule also provided six questions requesting input on specific 
issues related to the proposed rule. This section of the preamble 
summarizes the issues raised by the public commenters and provides the 
Board's responses to these issues. This comment summary is organized in 
two sections. The first addresses the comments received in response to 
the questions posed in the preamble. The second section summarizes the 
other issues raised by the commenters. As previously noted, and 
discussed more fully in the responses below, after careful review of 
the comments, the Board has elected to adopt the proposed regulatory 
amendments without change. However, the Board is clarifying below its 
supervisory position with regard to FICUs that may already have begun 
offering interest capitalization prior to the finalization of this 
rule.

B. Comments on Specific Provisions

    Responses to NCUA Questions 1 to 4. The NCUA asked FICUs to lay out 
their

[[Page 34613]]

experience or level of use with interest capitalization before the 
agency prohibited the practice in 2012. Of those that answered the 
question, one FICU stated that it did not allow the use of this 
mortgage modification tool. Others stated that it was beneficial, 
including one who said it was frequently used, particularly during the 
last financial crisis. One FICU stated that its program enjoyed an 85 
percent success rate from 2010 to 2012 and included approximately 170 
workouts representing about $22 million in mortgage loans that were 
saved from foreclosure.
    The NCUA also asked how likely FICUs would be to use interest 
capitalization if the prohibition is lifted. All FICUs that answered 
the question stated that they would use the tool to varying degrees 
largely dependent on its suitability for individual borrowers.
    The NCUA asked what risks might arise either to the FICU or the 
borrower in a mortgage modification that includes capitalization of 
interest. Of those that answered the question, one commenter stated 
that the risks would include a lack of understanding on the member's 
part of what interest capitalization means for their loan and there 
could be risk to the FICU if interest is capitalized on loans that 
already have high loan-to-value ratios. This commenter noted, however, 
that such risks could be effectively mitigated by the FICU providing 
clear communication to its members and reviewing its member's ability 
to repay the modified loan. Some stated that the consumer protection 
guardrails in the proposed rule would help mitigate any consumer 
protection risks. Others noted that the risk of not permitting interest 
capitalization needed to be weighed against any potential risk in 
permitting the practice. Some commenters noted that they evaluate each 
member's situation individually and did not anticipate any risks to the 
FICU or the member.
    The NCUA asked how the limitations imposed by the GSEs on the use 
of interest capitalization would impact a credit union's use of this 
mortgage modification tool. Those that answered this question stated 
that the impact would be minimal. One FICU stated that they already 
underwrite to Fannie Mae guidelines and are aware of the limitations. 
One commenter stated that loans that feature interest capitalization 
would not be loans that it would sell on the secondary market. Another 
stated that its recent sales to the GSEs were all newly originated and 
that a loan requesting forbearance between origination date and sale 
date is expected to occur so infrequently that it would be of no 
concern.
    NCUA Response. The NCUA appreciates the thoughtful comments 
submitted in response to the first four questions posed in the preamble 
to the December 4, 2020, proposed rule. The comments indicate that 
interest capitalization was used prior to the 2012 change in policy, 
and that it will likely again be used following the issuance of this 
final rule. Accordingly, the Board continues to believe that the 
capitalization of interest, when used prudently, can be a helpful loan 
modification tool in the best interests of members and FICUs. In 
response to the commenters concerned the change may raise risks for 
consumers, the Board reiterates that the consumer protection measures 
that currently apply to FICU loan workout policies also apply to loan 
workouts involving the capitalization of interest. In addition, as 
provided in the proposed rule, the Board is adding several consumer 
protection requirements that will apply to loan workouts involving the 
capitalization of interest.
    Comment: Consumer Protection Guardrails. NCUA question 5 asked 
commenters to provide their feedback on the consumer protection 
guardrails and documentation requirements in the proposed rule. The 
proposed rule states that capitalization of interest is not an 
appropriate solution in all cases and, as Appendix B currently 
provides, a FICU should consider and balance the best interests of the 
FICU and the borrower. The Board proposed adding several consumer 
protection and safety and soundness requirements to the Appendix for 
FICUs that capitalize interest in connection with loan workouts. At a 
minimum, if a FICU's loan modification policy permits capitalization of 
unpaid interest, under the proposed rule, the policy would have to 
require documentation that reflects a borrower's ability to repay, a 
borrower's source(s) of repayment, and when appropriate, compliance 
with the FICU's valuation policies at the time the modification is 
approved.
    Of the commenters that referenced the documentation requirements, 
17 stated that they support them. Some of these commenters, however, 
asked for clarification or suggested changes to certain aspects of the 
requirements. For example, one of the commenters suggested additional 
consumer guardrails to prohibit changes in loan terms such as interest 
rates or punitive fees established in the existing loan contract. 
Another commenter asked for clarification as to whether the proposed 
consumer protections would apply to all loan types, including business 
and commercial, or just consumer loans. Another commented that NCUA 
should strive for balance so that administrative burdens do not 
outweigh member benefits and noted that temporary income impairment may 
prevent a member from providing the documentary proof that examiners 
traditionally expect. Finally, one of these commenters added that NCUA 
examiners should refrain from adding documentation requirements beyond 
those in the proposed rule and, absent a safety and soundness issue, 
should also defer to the judgment of the FICU and its understanding of 
a borrower's ability to repay the loan.
    Four commenters stated that existing consumer protection measures 
are sufficient to protect and inform members, including two whose 
specific comments are set forth below. One commenter stated that the 
requirement to document a borrower's ability to repay would be 
problematic with COVID-related loans due to the enormous volume of 
members requesting COVID-related assistance. For example, if the FICU 
is capitalizing interest it would be increasing the current loan amount 
to avoid delays and unnecessary paperwork. Furthermore, if the new loan 
amount does not exceed 110 percent of the original loan amount then the 
FICU does not need to verify income or request a new appraisal. In 
these situations, a certification from the borrower that his/her income 
has not decreased from the time the loan was originally approved should 
suffice. Therefore, the NCUA should waive the ``ability-to-repay'' 
documentation requirements in these instances.
    The second commenter stated that the revisions required of a FICU's 
modification policy are so burdensome that they will deter many FICUs 
from offering interest capitalization because the requirements 
effectively require FICUs to complete a full underwriting of a modified 
loan multiple times. The commenter stated that the NCUA's existing rule 
already requires credit unions to make loan workout decisions based on 
a borrower's renewed willingness and ability to repay the loan and if a 
loan workout is granted then the credit union must document the 
determination that the borrower is willing and able to repay the loan. 
This existing requirement thus fulfils the ability to repay and 
documentation requirements while recognizing the need for flexibility.
    The commenter stated that the existing rule also enables FICUs to 
respond to large-scale, short-term financial challenges arising, for

[[Page 34614]]

example, from natural disasters such as hurricanes, temporary gaps in 
employment, or the current pandemic which may make it difficult to 
access documentation, even though the FICU reasonably determines that 
the borrower's mid- to long-term income prospects remain intact.
    Finally, the commenter stated that the way the proposed rule is 
drafted implies that these additional documentation requirements would 
apply to all modification types if the credit union merely permits 
interest capitalization.\7\
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    \7\ The proposed rule states in the regulatory text: 
``Modifications of loans that result in capitalization of unpaid 
interest are appropriate only when the borrower has the ability to 
repay the debt in accordance with the modification. At a minimum, if 
a FICU's loan modification policy permits capitalization of unpaid 
interest, the policy must require each of the following . . .'' 
(Supra note 1, at 78272).
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    NCUA Response. The Board appreciates the support expressed by the 
large majority of commenters for the proposed consumer protection 
guardrails. The final rule adopts these consumer protection measures 
without change.
    Appendix B applies to consumer and commercial loans. The rule 
requires that loan modification policies must provide for 
``[c]ompliance with all applicable consumer protection laws and 
regulations.'' The term ``applicable'' indicates that FICUs must comply 
with the laws and regulations that apply to a particular transaction. 
While some of those, such as the Equal Credit Opportunity Act, might 
apply to a commercial loan, most will not.
    As noted, one of the comments suggested additional consumer 
guardrails to prohibit changes to interest rates or fees. The Board 
designed the proposed rule to provide FICUs greater flexibility when 
restructuring an existing loan. However, the proposed rule requires 
that, when doing so, a FICU must consider whether the loan modification 
is well-designed and provides a favorable outcome for borrowers. While 
a fair consideration of a borrower's circumstances would generally not 
support an increase to interest rates or fees, the Board believes the 
language of the proposed rule provides the desired protections and 
declines to change it at this time.
    In response to the commenters who raised concerns that compliance 
with the new requirements might be burdensome, the Board notes that the 
consumer protection guardrails added by this rule apply solely to loan 
modifications that involve the capitalization of interest. FICUs will 
therefore not be required to comply with the additional documentation 
requirements for other types of loan modifications. In addition, 
several of the guardrails reflect current best practices and 
requirements that should not impose any additional significant burden 
on credit unions. For example, credit unions are already required to 
comply with all applicable consumer protections laws and regulations. 
The guardrails reiterate the need for compliance to emphasize the 
importance of these legal consumer protections. Likewise, FICUs are 
already assumed to undertake the necessary due diligence to ensure a 
borrower's ability to repay. For example, Appendix B currently requires 
that a FICU's loan modification policy ``must also ensure credit unions 
make loan workout decisions based on the borrower's renewed willingness 
and ability to repay the loan.'' \8\ The Board also notes that the rule 
does not prescribe a specific method for making this determination, 
thereby providing credit unions with a large degree of flexibility in 
meeting the requirement. The rule requires only that FICUs maintain 
documentation reflecting how the determination was made.
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    \8\ See 12 CFR part 741, Appendix B, section captioned ``Written 
Loan Workout Policy and Monitoring Requirements.''
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    Comment: Prohibition on Advancing Credit Union Fees and 
Commissions. Seventeen commenters responded to question 6 regarding 
whether NCUA should lift the current prohibition on the capitalization 
of credit union fees and commissions.
    The commenters in support of maintaining the prohibition stated 
that they did not deem it necessary to charge such fees or feel that it 
was appropriate to charge internal fees to members who are struggling. 
They noted that continuing to prohibit the practice is an important 
consumer protection. One of the commenters stated that in the event the 
NCUA did decide to authorize the capitalization of credit union fees 
and commissions, appropriate limitations should be put in place, 
without which the potential for predatory behavior and risk to the 
member-borrower may be heightened.
    Two commenters in support of removing the prohibition stated that 
FICUs should have the ability to charge reasonable modification fees so 
long as those fees are disclosed. One stated that FICUs have an 
incentive to not overburden the member with excessive workout-related 
fees to help the member repay the loan. Another commenter stated that 
if the NCUA chose not to allow all FICU fees to be capitalized, it 
should consider allowing the capitalization of fees up to a certain 
level. Another stated that for consumer protection purposes any fees 
charged for a modification involving interest capitalization should not 
be commissionable and that fees should be limited to actual costs 
incurred.
    One FCU commenter stated that its mortgage modifications are 
handled by a third-party service provider which charges a fee for each 
modification. If the fee cannot be capitalized and the borrower cannot 
afford to pay it as a direct charge, the FCU's only alternatives are to 
deny the modification or absorb the cost. This commenter was the only 
one to provide some data regarding the actual cost of modification 
fees. Prior to 2012, when interest capitalization was permitted, the 
cost to this FCU for the modification of 170 mortgage loans would have 
been approximately $42,500. If the cost to the FCU of managing the 
program and operating its loan system were included, the cost more than 
doubled. The FCU further noted that the fees are the reimbursement of 
costs and not a revenue generation opportunity.
    NCUA Response. Having reviewed the comments, the Board is not 
persuaded that FICUs should be permitted to capitalize credit union 
fees and commissions at this time. Most commenters advocating for the 
change did not include any discussion of how borrowers would be 
protected from excessive fees or supply any data on the actual cost to 
FICUs of providing loan workouts with interest capitalization. The 
final rule continues to permit FICUs to make advances covering third-
party fees, such as force-placed insurance or property taxes. The 
Board, however, continues to believe that the current restrictions on 
fee reimbursement have provided a level of protection for borrowers in 
distress. The Board agrees with the comment that it would be contrary 
to the purposes of the credit union system to capitalize internally 
generated fees and commissions in a time of economic stress. 
Accordingly, credit union fees and commissions must be paid directly by 
the borrower at the time of the modification and not added to the loan 
balance.

C. Other Issues Raised by Commenters

    Comment: Federal Preemption of State Consumer Protection Laws. Two 
commenters raised state preemption issues. Both commenters asked the 
NCUA to clarify that the proposed rule's requirement that all FICUs 
follow applicable state consumer protection laws does not override its 
regulation preempting state law on issues

[[Page 34615]]

pertaining to ``terms of repayment'' (12 CFR 701.21(b)(1)(ii)(B)). Both 
commenters noted that some states prohibit the charging of interest on 
interest which if not preempted will dampen the effectiveness of NCUA's 
proposed rule.
    NCUA Response: As an initial matter, the NCUA notes that the part 
701 regulations, including Sec.  701.21, generally apply solely to 
FCUs. Federally insured, state-chartered credit unions (FISCUs) must 
follow any requirements established by their State regarding the terms 
of repayment.\9\ With respect to FCUs, this final rule does not in any 
way amend the regulation regarding the relationship between State law 
and the NCUA's regulations on loans made to members and lines of credit 
(12 CFR 701.21). The Board is not inclined to provide a blanket 
preemption of any or all State laws that may relate to capitalization 
of interest. FCUs may need to evaluate the application of relevant 
state laws on a case-by-case basis and may contact the NCUA for its 
opinion in the event a particular State law raises a preemption issue.
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    \9\ As provided in Sec.  701.21(a), certain provisions of Sec.  
701.21 apply to FISCUs as specified in Sec.  741.23; however, the 
part 741 provision does not make Sec.  701.21(b)(1)(ii)(B) 
applicable to FISCUs.
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    Comment: Retroactive Applicability. Two commenters asked that the 
NCUA apply the rule retroactively. One stated that NCUA should make 
January 1, 2020, the effective date to fully capture the economic 
disruption caused by the pandemic. The other commenter stated that in 
the interests of fairness if a credit union has already been 
capitalizing interest on loans without receiving an examination finding 
or Document of Resolution (DOR),\10\ then examiners should not take 
corrective action for these practices once the rule is finalized.
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    \10\ See generally the NCUA Examiner's Guide, for more 
information regarding the agency's examination process, including 
examination findings and DORs. The Guide is available at: https://publishedguides.ncua.gov/examiner/Pages/default.htm#ExaminersGuide/Home.htm%3FTocPath%3D_1.
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    NCUA Response. The Board has not revised the rule in response to 
these comments. The Board notes that, as a legal matter, agencies may 
not generally adopt retroactive rules without explicit congressional 
authorization.\11\ Accordingly, this final rule will apply 
prospectively upon issuance. The Board, however, is cognizant of the 
extraordinary nature of the COVID-19 pandemic, and the resulting 
stresses that have been placed on FICUs and their members. In their 
June 2020 interagency examiner guidance, the NCUA and the other banking 
agencies noted that loan modifications are ``positive actions that can 
mitigate adverse effects on borrowers due to the pandemic.'' \12\ The 
interagency guidance specifies that ``[e]xaminers will not criticize 
institutions for working with borrowers as part of a risk mitigation 
strategy intended to improve existing loans, even if the restructured 
loans have or develop weaknesses that ultimately result in adverse 
credit classification.'' \13\ The NCUA will take into account the 
interagency examiner guidance in assessing any loan modification 
actions taken by credit unions, including interest capitalization, 
prior to the effective date of this final rule.
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    \11\ Bowen v. Georgetown Univ. Hosp., 488 U.S. 204 (1988).
    \12\ Interagency Examiner Guidance for Assessing Safety and 
Soundness Considering the Effect of the COVID-19 Pandemic on 
Institutions (June 2020), page 6, available at https://www.ncua.gov/files/press-releases-news/examiner-guidance-covid19-effect.pdf.
    \13\ Id.
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    Comment: Troubled Debt Restructuring. One commenter stated that the 
NCUA should emphasize, either in the regulation or in supervisory 
guidance, the importance of a FICU update to its troubled debt 
restructuring (TDR) policy because a TDR policy that harmonizes 
interest capitalization and other accounting tools is essential if 
NCUA's proposed rule is to achieve its full, intended effect.
    NCUA Response. The Board appreciates this comment and agrees that 
FICUs should update their TDR policies as necessary to maintain 
consistency with applicable requirements. TDRs are a concept found in 
generally accepted accounting principles (GAAP),\14\ which FICUs are 
generally required to follow pursuant to section 202 of the FCU 
Act.\15\ The NCUA and the other banking agencies most recently issued 
guidance regarding TDRs on April 7, 2020. The April 7, 2020, 
interagency statement is designed to assist financial institutions that 
are working with borrowers affected by COVID-19.\16\ The NCUA is not 
revising any TDR requirements through this rulemaking.
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    \14\ See Federal Accounting Standards Board (FASB) Accounting 
Standards Codification (ASC) 310-40, Receivables--Troubled Debt 
Restructurings by Creditors, available at https://asc.fasb.org/subtopic&trid=2196892.
    \15\ See section 202(b)(6)(C)(i) of the Federal Credit Union Act 
(12 U.S.C. 1782(b)(6)(C)(i)).
    \16\ Interagency Statement on Loan Modifications and Reporting 
for Financial Institutions Working with Customers Affected by the 
Coronavirus (Revised) (April 7, 2020), available at: https://www.ncua.gov/files/press-releases-news/interagency-statement-tdr-policy-revised.pdf.
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IV. This Final Rule

A. Capitalization of Interest

    The Board is amending Appendix B to remove the prohibition on the 
capitalization of interest in connection with loan workouts and 
modifications. As noted, the change applies to workouts of all types of 
member loans, including commercial and business loans. The NCUA also 
notes that--consistent with the scope of Appendix B--the regulatory 
amendments made by this final rule apply only to loan modifications 
involving the capitalization of interest. The final rule does not 
address the capitalization of interest that may occur in other 
contexts. The Board notes that banks frequently include interest 
capitalization as one of several components in a loan restructuring to 
mutually benefit the lender and the borrower. The Board expects that 
FICUs will follow suit, and provide borrowers with the option to 
capitalize interest along with other loan modification options, such as 
the lowering of loan payments or the interest rate, extending the 
maturity date, partial principal or interest forgiveness and other 
modifications.
    The final rule adds a definition of capitalized interest to the 
Glossary of Appendix B. For the purposes of this rulemaking, 
capitalization of interest constitutes the addition of accrued but 
unpaid interest to the principal balance of a loan.
    The final rule continues to provide that a FICU may not, under any 
event, authorize additional advances to finance credit union fees and 
commissions. FICUs will be permitted to continue to make advances to 
cover third party fees to protect loan collateral, such as force-placed 
insurance or property taxes. The Board believes that maintaining the 
prohibition on the capitalization of credit union fees is an important 
consumer protection feature of the rule for member borrowers.
    The Board underscores that it is maintaining several requirements 
that apply to all loan workout policies in Appendix B. For example, the 
Appendix establishes the expectation that loan workouts will consider 
and balance the best interests of the FICU and the borrower, including 
consumer financial protection measures. Ensuring the best interest of 
the borrower prohibits predatory lending practices such as including 
loan terms that result in negative amortization. In addition, a FICU's 
policy must establish limits on

[[Page 34616]]

the number of modifications allowed for an individual loan. Further, 
the policy must ensure that a FICU make loan workout decisions based on 
a borrower's renewed willingness and ability to repay the loan.
    If a FICU restructures a loan more frequently than once a year or 
twice in five years, examiners will have higher expectations for the 
documentation of the borrower's renewed willingness and ability to 
repay the loan. The current Appendix also sets forth several 
supervisory expectations relating to multiple restructurings, stating 
that examiners will request validation documentation regarding 
collectability if a FICU engages in multiple restructurings of a loan. 
The current Appendix also requires that a FICU maintain sufficient 
documentation to demonstrate that the FICU's personnel communicated the 
new terms with the borrower, that the borrower agreed to pay the loan 
in full under the new terms and, most importantly, the borrower has the 
ability to repay the loan under the new terms.
    These requirements and expectations, which currently apply to 
FICUs' loan workout policies, will apply equally if a FICU adopts a 
practice of capitalizing interest in connection with loan workouts. In 
addition, in light of the potential for interest capitalization to have 
a detrimental effect on borrowers if executed inappropriately, and to 
mask the true financial status of a loan and a credit union's financial 
statements, the Board is adding requirements to the Appendix to apply 
to FICUs that engage in this practice.
    Modifications of loans that result in capitalization of unpaid 
interest are appropriate only when the borrower has the ability to 
repay the debt in accordance with the modification. At a minimum, if a 
FICU's loan modification policy permits capitalization of unpaid 
interest, the policy must require each of the following:
    1. Compliance with all applicable consumer protection laws and 
regulations, including, but not limited to, the Equal Credit 
Opportunity Act, the Fair Housing Act, the Truth In Lending Act, the 
Real Estate Settlement Procedures Act, the Fair Credit Reporting Act, 
and the prohibitions against the use of unfair, deceptive or abusive 
acts or practices contained in the Consumer Financial Protection Act of 
2010. (The Board notes that FICUs are also expected to comply with 
applicable State consumer protection laws that, in some instances, may 
be more stringent than Federal law, prohibiting, for example, the 
charging of interest on interest, subject to any case-by-case Federal 
preemption determinations that may be appropriate.)
    2. Documentation that reflects a borrower's ability to repay, a 
borrower's source(s) of repayment, and when appropriate, compliance 
with the FICU's valuation policies at the time the modification is 
approved.
    3. Providing borrowers with documentation that is accurate, clear, 
and conspicuous and consistent with Federal and state consumer 
protection laws.
    4. Appropriate reporting of loan status for modified loans in 
accordance with applicable law and accounting practices. The FICU shall 
not report a modified loan as past due if the loan was current prior to 
modification and the borrower is complying with the terms of the 
modification.
    5. Prudent policies and procedures to help borrowers resume 
affordable and sustainable repayments that are appropriately 
structured, while at the same time minimizing losses to the credit 
union. The prudent policies and procedures must consider:
    i. Whether the loan modifications are well-designed, consistently 
applied, and provide a favorable outcome for borrowers.
    ii. The available options for borrowers to repay any missed 
payments at the end of their modifications to avoid delinquencies or 
other adverse consequences.
    6. Appropriate safety and soundness safeguards to prevent the 
following:
    i. Masking deteriorations in loan portfolio quality and 
understating charge-off levels;
    ii. Delaying loss recognition resulting in an understated allowance 
for loan and lease losses account or inaccurate loan valuations;
    iii. Overstating net income and net worth (regulatory capital) 
levels; and
    iv. Circumventing internal controls.

B. Technical Updates to Appendix B

    The Board also took this opportunity to propose several technical 
changes to Appendix B to improve its clarity and update certain 
references. No commenters opposed these changes, and the Board is 
adopting them as proposed.
    For example, the final rule updates references to the NCUA's or 
other guidance in the Appendix, such as guidance or standards issued by 
other federal banking agencies or the Financial Accounting Standards 
Board (FASB). These changes are intended to provide current 
information, and are not substantive policy changes.
    In May 2014, FASB issued an accounting standard update for revenue 
recognition (ASU 2014-09) which replaced the cost recovery method of 
income recognition in ASC 605-10-25-4 with transition guidance found in 
ASC 606--Revenue from Contracts with Customers. The (2012) Appendix 
made reference to the cost recovery method of income recognition with 
citation in the Glossary. As this has been superseded by ASC 606, the 
Board has eliminated this reference in the Appendix and emphasizes that 
accrual of interest income ceases on a financial asset when full 
payment of principal and interest in cash is not expected.
    In addition, to conform to the terminology that the Board adopted 
in 2016 in amending part 723,\17\ the final rule updates references to 
member business loans to also refer to commercial loans. These changes 
are not intended to create new requirements or standards.
---------------------------------------------------------------------------

    \17\ 81 FR 13530 (Mar. 14, 2016) (https://www.govinfo.gov/content/pkg/FR-2016-03-14/pdf/2016-03955.pdf).
---------------------------------------------------------------------------

    The final rule also makes terminology in the Appendix consistent 
with its purpose. The Appendix sets forth requirements for FICU 
policies relating to loan workouts, TDRs, and nonaccrual status. In 
several instances, the current Appendix uses the word ``should'' when 
referring to necessary elements of a FICU's policies or refers to the 
Appendix as ``guidance'' or an interpretive ruling and policy 
statement. To make the purpose and effect of the Appendix clearer, the 
final rule uses mandatory language where appropriate and eliminates 
references to the Appendix as ``guidance.''
    Finally, the Board clarified several statements of the Appendix to 
make it more consistent with plain language principles.
    None of these changes were substantive and were outlined for 
commenters in a redlined copy of the Appendix that the agency made 
available in the rulemaking docket.

V. Regulatory Procedures

A. Regulatory Flexibility Act

    The Regulatory Flexibility Act requires the NCUA to prepare an 
analysis to describe any significant economic impact a regulation may 
have on a substantial number of small entities.\18\ For purposes of 
this analysis, the NCUA considers small credit unions to be those 
having under $100 million in assets.\19\ The final rule allows FICUs to 
capitalize unpaid interest when working with borrowers. The final rule

[[Page 34617]]

is not expected to increase the cost burden for FICUs. Accordingly, the 
NCUA certifies that the final rule will not have a significant economic 
impact on a substantial number of small credit unions.
---------------------------------------------------------------------------

    \18\ 5 U.S.C. 603(a).
    \19\ 80 FR 57512 (Sept. 24, 2015) (https://www.govinfo.gov/content/pkg/FR-2015-09-24/pdf/2015-24165.pdf).
---------------------------------------------------------------------------

B. Paperwork Reduction Act

    The Paperwork Reduction Act of 1995 (PRA) (44 U.S.C. 3501 et seq.) 
requires that the Office of Management and Budget (OMB) approve all 
collections of information by a Federal agency from the public before 
they can be implemented. Respondents are not required to respond to any 
collection of information unless it displays a valid OMB control 
number. In accordance with the PRA, the information collection 
requirements included in this final rule have been submitted to OMB for 
approval under control number 3133-0092.

C. 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, the NCUA, an 
independent regulatory agency as defined in 44 U.S.C. 3502(5), 
voluntarily complies with the executive order. This rulemaking will not 
have a substantial direct effect 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. 
The NCUA has determined that this final rule does not constitute a 
policy that has federalism implications for purposes of the executive 
order.

D. Assessment of Federal Regulations and Policies on Families

    The NCUA has determined that this final rule will not affect family 
well-being within the meaning of Section 654 of the Treasury and 
General Government Appropriations Act, 1999.\20\
---------------------------------------------------------------------------

    \20\ Public Law 105-277, 112 Stat. 2681 (1998).
---------------------------------------------------------------------------

E. Small Business Regulatory Enforcement Fairness Act

    The Small Business Regulatory Enforcement Fairness Act of 1996 
(SBREFA) \21\ generally provides for congressional review of agency 
rules. A reporting requirement is triggered in instances where the NCUA 
issues a final rule as defined by section 551 of the Administrative 
Procedure Act. An agency rule, in addition to being subject to 
congressional oversight, may also be subject to a delayed effective 
date if the rule is a ``major rule.'' The NCUA does not believe this 
rule is a ``major rule'' within the meaning of the relevant sections of 
SBREFA. As required by SBREFA, the NCUA will submit this final rule to 
OMB for it to determine if the final rule is a ``major rule'' for 
purposes of SBREFA. The NCUA also will file appropriate reports with 
Congress and the Government Accountability Office so this rule may be 
reviewed.
---------------------------------------------------------------------------

    \21\ 5 U.S.C. 551.
---------------------------------------------------------------------------

List of Subjects in 12 CFR Part 741

    Credit, Credit unions, Share insurance.

    By the National Credit Union Administration Board on June 24, 
2021.
Melane Conyers-Ausbrooks,
Secretary of the Board.

    For the reasons discussed in the preamble, the Board amends 12 CFR 
part 741 as follows:

PART 741--REQUIREMENTS FOR INSURANCE

0
1. 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
2. Appendix B to Part 741 is revised to read as follows:

Appendix B to Part 741--Loan Workouts, Nonaccrual Policy, and 
Regulatory Reporting of Troubled Debt Restructured Loans

    This Appendix establishes requirements for the management of 
loan workout \1\ arrangements, loan nonaccrual, and regulatory 
reporting of troubled debt restructured loans (herein after referred 
to as TDR or TDRs). This Appendix applies to all federally insured 
credit unions.
---------------------------------------------------------------------------

    \1\ Terms defined in the Glossary will be italicized on their 
first use in the body of this =Appendix.
---------------------------------------------------------------------------

    Under this Appendix, TDRs are as defined in generally accepted 
accounting principles (GAAP), and the Board does not intend to 
change the Financial Accounting Standards Board's (FASB) definition 
of TDR in any way through this policy. In addition to existing 
agency policy, this Appendix sets the NCUA's supervisory 
expectations governing loan workout policies and practices and loan 
accruals.

Written Loan Workout Policy and Monitoring Requirements \2\
---------------------------------------------------------------------------

    \2\ For additional guidance on commercial and member business 
lending extension, deferral, renewal, and rewrite policies, see 
Interagency Policy Statement on Prudent Commercial Real Estate Loan 
Workouts (October 30, 2009) transmitted by Letter to Credit Unions 
No. 10-CU-07, and available at http://www.ncua.gov.
---------------------------------------------------------------------------

    For purposes of this Appendix, types of workout loans to 
borrowers in financial difficulties include re-agings, extensions, 
deferrals, renewals, or rewrites. See the Glossary entry on workouts 
for further descriptions of each term. Borrower retention programs 
or new loans are not encompassed within this policy nor considered 
by the Board to be workout loans.
    A credit union can use loan workouts to help borrowers overcome 
temporary financial difficulties such as loss of job, medical 
emergency, or change in family circumstances such as the loss of a 
family member. Loan workout arrangements must consider and balance 
the best interests of both the borrower and the credit union.
    The lack of a sound written policy on workouts can mask the true 
performance and past due status of the loan portfolio. Accordingly, 
the credit union board and management must adopt and adhere to an 
explicit written policy and standards that control the use of loan 
workouts, and establish controls to ensure the policy is 
consistently applied. The loan workout policy and practices should 
be commensurate with a credit union's size and complexity, and must 
conform with a credit union's broader risk mitigation strategies. 
The policy must define eligibility requirements (that is, under what 
conditions the credit union will consider a loan workout), including 
establishing limits on the number of times an individual loan may be 
modified.\3\ The policy must also ensure credit unions make loan 
workout decisions based on a borrower's renewed willingness and 
ability to repay the loan. If a credit union restructures a loan 
more frequently than once a year or twice in five years, examiners 
will have higher expectations for the documentation of the 
borrower's renewed willingness and ability to repay the loan. The 
NCUA is concerned about restructuring activity that pushes existing 
losses into future reporting periods without improving a loan's 
collectability. One way a credit union can provide convincing 
evidence that multiple restructurings improve collectability is to 
validate completed multiple restructurings that substantiate the 
claim. Examiners will ask for such validation documentation if a 
credit union engages in multiple restructurings of a loan.
---------------------------------------------------------------------------

    \3\ Broad based credit union programs commonly used as a member 
benefit and implemented in a safe and sound manner limited to only 
accounts in good standing, such as Skip-a-Pay programs, are not 
intended to count toward these limits.
---------------------------------------------------------------------------

    In addition, the policy must establish sound controls to ensure 
loan workout actions are appropriately structured.\4\ The

[[Page 34618]]

policy must explicitly prohibit the authorization of additional 
advances to finance credit union fees and commissions. The credit 
union may, however, make advances to cover third-party fees, such as 
force-placed insurance or property taxes. For loan workouts granted, 
a credit union must document the determination that the borrower is 
willing and able to repay the loan.
---------------------------------------------------------------------------

    \4\ In developing a written policy, the credit union board and 
management may wish to consider similar parameters as those 
established in the FFIEC's ``Uniform Retail Credit Classification 
and Account Management Policy'' (FFIEC Policy). 65 FR 36903 (June 
12, 2000) (https://www.govinfo.gov/content/pkg/FR-2000-06-12/pdf/00-14704.pdf). The FFIEC Policy sets forth specific limitations on the 
number of times a loan can be re-aged (for open-end accounts) or 
extended, deferred, renewed or rewritten (for closed-end accounts). 
NCUA Letter to Credit Unions (LCU) 09-CU-19, ``Evaluating 
Residential Real Estate Mortgage Loan Modification Programs,'' also 
outlines policy best practices for real estate modifications 
(https://www.ncua.gov/regulation-supervision/letters-credit-unions-other-guidance/evaluating-residential-real-estate-mortgage-loan-modification-programs). Those best practices remain applicable to 
real estate loan modifications (with the exception to the 
capitalization of credit union fees) but could be adapted in part by 
the credit union in their written loan workout policy for other 
loans.
---------------------------------------------------------------------------

    Modifications of loans that result in capitalization of unpaid 
interest are appropriate only when a borrower has the ability to 
repay the debt. At a minimum, if a FICU's loan modification policy 
permits capitalization of unpaid interest, the policy must require:
    1. Compliance with all applicable federal and state consumer 
protection laws and regulations, including, but not limited to, the 
Equal Credit Opportunity Act, the Fair Housing Act, the Truth In 
Lending Act, the Real Estate Settlement Procedures Act, the Fair 
Credit Reporting Act, and the prohibitions against the use of 
unfair, deceptive or abusive acts or practices in the Consumer 
Financial Protection Act of 2010.
    2. Documentation that reflects a borrower's ability to repay, a 
borrower's source(s) of repayment, and when appropriate, compliance 
with the FICU's valuation policies at the time the modification is 
approved.
    3. Providing borrowers with written disclosures that are 
accurate, clear and conspicuous and that are consistent with Federal 
and state consumer protection laws.
    4. Appropriate reporting of loan status for modified loans in 
accordance with applicable law and accounting practices. The FICU 
shall not report a modified loan as past due if the loan was current 
prior to modification and the borrower is complying with the terms 
of the modification.
    5. Prudent policies and procedures to help borrowers resume 
affordable and sustainable repayments that are appropriately 
structured, while at the same time minimizing losses to the credit 
union. The prudent policies and procedures must consider
    i. Whether the loan modifications are well-designed, 
consistently applied, and provide a favorable outcome for borrowers.
    ii. The available options for borrowers to repay any missed 
payments at the end of their modifications to avoid delinquencies or 
other adverse consequences.
    6. Appropriate safety and soundness safeguards to prevent the 
following:
    i. Masking deteriorations in loan portfolio quality and 
understating charge-off levels; \5\
---------------------------------------------------------------------------

    \5\ Refer to NCUA guidance on charge-offs set forth in LCU 03-
CU-01, ``Loan Charge-off Guidance,'' dated January 2003 (https://www.ncua.gov/regulation-supervision/letters-credit-unions-other-guidance/loan-charge-guidance). Examiners will require that a 
reasonable written charge-off policy is in place and that it is 
consistently applied. Additionally, credit unions need to adjust 
historical loss factors when calculating ALLL needs for pooled loans 
to account for any loans with protracted charge-off timeframes (for 
example, 12 months or more). See discussions on the latter point in 
the 2006 Interagency ALLL Policy Statement transmitted by Accounting 
Bulletin 06-1 (December 2006) (https://www.ncua.gov/regulation-supervision/letters-credit-unions-other-guidance/interagency-advisory-addressing-alll-key-concepts-and-requirements). Upon 
implementation of ASC 326--Financial Instruments--Credit Losses, 
credit unions will use the guidance in Interagency Policy Statement 
on Allowances for Credit Losses (May 2020) (https://www.ncua.gov/files/press-releases-news/policy-statement-allowances-credit-losses.pdf).
---------------------------------------------------------------------------

    ii. Delaying loss recognition resulting in an understated 
allowance for loan and lease losses account or inaccurate loan 
valuations;
    iii. Overstating net income and net worth (regulatory capital) 
levels; and
    iv. Circumventing internal controls.
    The credit union's risk management framework must include 
thresholds, based on aggregate volume of loan workout activity, 
which trigger enhanced reporting to the board of directors. This 
reporting will enable the credit union's board of directors to 
evaluate the effectiveness of the credit union's loan workout 
program, understand any implications to the organization's financial 
condition, and make any compensating adjustments to the overall 
business strategy. This information will also be available to 
examiners upon request.
    To be effective, management information systems need to track 
the principal reductions and charge-off history of loans in workout 
programs by type of program. Any decision to re-age, extend, defer, 
renew, or rewrite a loan, like any other revision to contractual 
terms, must be supported by the credit union's management 
information systems. Sound management information systems identify 
and document any loan that is re-aged, extended, deferred, renewed, 
or rewritten, including the frequency and extent of such action. 
Documentation normally shows that credit union personnel 
communicated with the borrower, the borrower agreed to pay the loan 
in full under any new terms, and the borrower has the ability to 
repay the loan under any new terms.

Regulatory Reporting of Workout Loans Including TDR Past Due Status

    Credit unions will calculate the past due status of all loans 
consistent with loan contract terms, including amendments made to 
loan terms through a formal restructure. Credit unions will report 
delinquency on the Call Report consistent with this policy.\6\
---------------------------------------------------------------------------

    \6\ Subsequent Call Reports and accompanying instructions will 
reflect this policy, including focusing data collection on loans 
meeting the definition of TDR under GAAP. In reporting TDRs on 
regulatory reports, the data collections will include all TDRs that 
meet the GAAP criteria for TDR reporting, without the application of 
materiality threshold exclusions based on scoping or reporting 
policy elections of credit union preparers or their auditors. Credit 
unions should also refer to ASC Subtopic 310-40 when determining if 
a restructuring of a debt constitutes a TDR.
---------------------------------------------------------------------------

Loan Nonaccrual Policy

    Credit unions must recognize interest income appropriately. 
Credit unions must place loans in nonaccrual status when doubt 
exists as to full collection of principal and interest or the loan 
has been in default for a period of 90 days or more. Upon placing a 
loan in nonaccrual, a credit union must reverse or charge-off 
previously accrued but uncollected interest. A nonaccrual loan may 
be returned to accrual status when a credit union expects repayment 
of the remaining contractual principal and interest or it is well 
secured and in process of collection.\7\ This policy on loan accrual 
is consistent with longstanding credit union industry practice as 
implemented by the NCUA over the last several decades. The balance 
of the policy relates to commercial and member business loan 
workouts and is similar to the policies adopted by the federal 
banking agencies \8\ as set forth in the FFIEC Call Report for 
banking institutions and its instructions.\9\
---------------------------------------------------------------------------

    \7\ Placing a loan in nonaccrual status does not change the loan 
agreement or the obligations between the borrower and the credit 
union. Only the parties can effect a restructuring of the original 
loan terms or otherwise settle the debt.
    \8\ The federal banking agencies are the Board of Governors of 
the Federal Reserve System, the Federal Deposit Insurance 
Corporation, and the Office of the Comptroller of the Currency.
    \9\ FFIEC Report of Condition and Income Forms, Instructions and 
Supplemental Instructions, https://www.ffiec.gov/forms041.htm.
---------------------------------------------------------------------------

Nonaccrual Status

    Credit unions may not accrue interest \10\ on any loan where 
principal or interest has been in default for a period of 90 days or 
more unless the loan is both ``well secured'' and ``in the process 
of collection.'' \11\ For purposes of applying the ``well secured'' 
and ``in process of collection'' test for nonaccrual status listed 
above, the date on which a loan reaches nonaccrual status is 
determined by its contractual terms.
---------------------------------------------------------------------------

    \10\ Nonaccrual of interest also includes the amortization of 
deferred net loan fees or costs, or the accretion of discount. 
Nonaccrual of interest on loans past due 90 days or more is a 
longstanding agency policy and credit union practice.
    \11\ A purchased credit impaired loan asset need not be placed 
in nonaccrual status as long as the criteria for accrual of income 
under the interest method in GAAP is met. Also, the accrual of 
interest on workout loans is covered in a later section of this 
Appendix.
---------------------------------------------------------------------------

    While a loan is in nonaccrual status, a credit union may treat 
some or all of the cash payments received as interest income on a 
cash basis provided no doubt exists about the collectability of the 
remaining recorded investment in the loan. A credit union must 
handle the reversal of previously accrued, but uncollected, interest 
applicable to any loan placed in nonaccrual status in accordance 
with GAAP.\12\
---------------------------------------------------------------------------

    \12\ Acceptable accounting treatment includes a reversal of all 
previously accrued, but uncollected, interest applicable to loans 
placed in a nonaccrual status against appropriate income and balance 
sheet accounts. For example, one acceptable method of accounting for 
such uncollected interest on a loan placed in nonaccrual status is 
to reverse all of the unpaid interest by crediting the ``accrued 
interest receivable'' account on the balance sheet; to reverse the 
uncollected interest that has been accrued during the calendar year-
to-date by debiting the appropriate ``interest and fee income on 
loans'' account on the income statement, and to reverse any 
uncollected interest that had been accrued during previous calendar 
years by debiting the ``allowance for loan and lease losses'' 
account on the balance sheet. The use of this method presumes that 
credit union management's additions to the allowance through charges 
to the ``provision for loan and lease losses'' on the income 
statement have been based on an evaluation of the collectability of 
the loan and lease portfolios and the ``accrued interest 
receivable'' account.

---------------------------------------------------------------------------

[[Page 34619]]

Restoration to Accrual Status for All Loans Except Commercial and 
Member Business Loan Workouts

    A nonaccrual loan may be restored to accrual status when:
     Its past due status is less than 90 days and the credit 
union expects repayment of the remaining contractual principal and 
interest within a reasonable period;
     It otherwise becomes both well secured and in the 
process of collection; or
     The asset is a purchased impaired loan and it meets the 
criteria under GAAP for accrual of interest income under the 
accretable yield method. See ASC 310-30.
    In restoring all loans to accrual status, if the credit union 
applied any interest payments received while the loan was in 
nonaccrual status to reduce the recorded investment in the loan, the 
credit union must not reverse the application of these payments to 
the loan's recorded investment (and must not credit interest 
income). Likewise, a credit union cannot restore the accrued but 
uncollected interest reversed or charged-off at the point the loan 
was placed on nonaccrual status to accrual; it can only be 
recognized as income if collected in cash or cash equivalents from 
the member.

Restoration to Accrual Status on Commercial and Member Business Loan 
Workouts \13\
---------------------------------------------------------------------------

    \13\ This policy is derived from the ``Interagency Policy 
Statement on Prudent Commercial Real Estate Loan Workouts'' the NCUA 
and the other financial regulators issued on October 30, 2009.
---------------------------------------------------------------------------

    A formally restructured commercial or member business loan 
workout need not be maintained in nonaccrual status, provided the 
restructuring and any charge-off taken on the loan are supported by 
a current, well-documented credit evaluation of the borrower's 
financial condition and prospects for repayment under the revised 
terms. Otherwise, the restructured loan must remain in nonaccrual 
status.
    The credit union's evaluation must include consideration of the 
borrower's sustained historical repayment performance for a 
reasonable period prior to the date on which the loan is returned to 
accrual status. A sustained period of repayment performance is a 
minimum of six consecutive payments, and includes timely payments 
under the restructured loan's terms of principal and interest in 
cash or cash equivalents. In returning the commercial or member 
business workout loan to accrual status, a credit union may consider 
sustained historical repayment performance for a reasonable time 
prior to the restructuring. Such a restructuring must improve the 
collectability of the loan in accordance with a reasonable repayment 
schedule and does not relieve the credit union from the 
responsibility to promptly charge off all identified losses.
    The following graph provides an example of a schedule of 
repayment performance to demonstrate a determination of six 
consecutive payments. If the original loan terms required a monthly 
payment of $1,500, and the credit union lowered the borrower's 
payment to $1,000 through formal commercial or member business loan 
restructure, then based on the first row of the graph, the 
``sustained historical repayment performance for a reasonable time 
prior to the restructuring'' would encompass five of the pre-workout 
consecutive payments that were at least $1,000 (months 1 through 5). 
In total, the six consecutive repayment burden would be met by the 
first month post workout (month 6).
    In the second row, only one of the pre-workout payments would 
count toward the six consecutive repayment requirement (month 5), 
because it is the first month in which the borrower made a payment 
of at least $1,000 after failing to pay at least that amount. 
Therefore, the loan would remain on nonaccrual for at least five 
post-workout consecutive payments (months 6 through 10) provided the 
borrower continues to make payments consistent with the restructured 
terms.

--------------------------------------------------------------------------------------------------------------------------------------------------------
                                 Pre-workout                                                                  Post-workout
--------------------------------------------------------------------------------------------------------------------------------------------------------
    Month 1         Month 2         Month 3         Month 4        Month 5        Month 6        Month 7        Month 8        Month 9        Month 10
--------------------------------------------------------------------------------------------------------------------------------------------------------
     $1,500          $1,200          $1,200          $1,000          $1,000         $1,000         $1,000         $1,000         $1,000         $1,000
      1,500           1,200             900             875           1,000          1,000          1,000          1,000          1,000          1,000
--------------------------------------------------------------------------------------------------------------------------------------------------------

    After a formal restructure of a commercial or member business 
loan, if the restructured loan has been returned to accrual status, 
the loan otherwise remains subject to the nonaccrual standards of 
this policy. If any interest payments received while the commercial 
or member business loan was in nonaccrual status were applied to 
reduce the recorded investment in the loan the application of these 
payments to the loan's recorded investment must not be reversed (and 
interest income must not be credited). Likewise, accrued but 
uncollected interest reversed or charged-off at the point the 
commercial or member business workout loan was placed on nonaccrual 
status cannot be restored to accrual; it can only be recognized as 
income if collected in cash or cash equivalents from the member.
    The following tables summarize nonaccrual and restoration to 
accrual requirements previously discussed:

                                          Table 1--Nonaccrual Criteria
----------------------------------------------------------------------------------------------------------------
                Action                            Condition identified                Additional consideration
----------------------------------------------------------------------------------------------------------------
Nonaccrual on All Loans..............  90 days or more past due unless loan is     See Glossary definitions for
                                        both well-secured and in the process of     ``well secured'' and ``in
                                        collection; or                              the process of collection.''
                                       The loan is maintained on the Cash basis
                                        because there is a deterioration in the
                                        financial condition of the borrower, or
                                        for which payment in full of principal or
                                        interest is not expected.
Nonaccrual on Commercial or Member     Continue on nonaccrual at workout point     See Table 2--Restore to
 Business Loan Workouts.                and until restore to accrual criteria are   Accrual.
                                        met.
----------------------------------------------------------------------------------------------------------------


[[Page 34620]]


                                           Table 2--Restore to Accrual
----------------------------------------------------------------------------------------------------------------
                Action                            Condition identified                Additional consideration
----------------------------------------------------------------------------------------------------------------
Restore to Accrual on All Loans        When a loan is less than 90 days past due   See Glossary definitions for
 except Commercial or Member Business   and the credit union expects repayment of   ``well secured'' and ``in
 Loan Workouts.                         the remaining contractual principal and     the process of collection.''
                                        interest within a reasonable period, or     Interest payments received
                                       When it otherwise becomes both ``well        while the loan was in
                                        secured'' and ``in the process of           nonaccrual status and
                                        collection''; or                            applied to reduce the
                                       The asset is a purchased impaired loan and   recorded investment in the
                                        it meets the criteria under GAAP (see ASC   loan must not be reversed
                                        310-30) for accrual of interest income      and income credited.
                                        under the accretable yield method.          Likewise, accrued but
                                                                                    uncollected interest
                                                                                    reversed or charged-off at
                                                                                    the point the loan was
                                                                                    placed on nonaccrual status
                                                                                    cannot be restored to
                                                                                    accrual.
Restore to Accrual on Commercial or    Formal restructure with a current, well     The evaluation must include
 Member Business Loan Workouts.         documented credit evaluation of the         consideration of the
                                        borrower's financial condition and          borrower's sustained
                                        prospects for repayment under the revised   historical repayment
                                        terms.                                      performance for a minimum of
                                                                                    six timely consecutive
                                                                                    payments comprised of
                                                                                    principal and interest. In
                                                                                    returning a loan to accrual
                                                                                    status, a credit union may
                                                                                    take into account sustained
                                                                                    historical repayment
                                                                                    performance for a reasonable
                                                                                    time prior to the
                                                                                    restructured terms. Interest
                                                                                    payments received while the
                                                                                    commercial or member
                                                                                    business loan was in
                                                                                    nonaccrual status and
                                                                                    applied to reduce the
                                                                                    recorded investment in the
                                                                                    loan must not be reversed
                                                                                    and income credited.
                                                                                   Accrued but uncollected
                                                                                    interest reversed or charged-
                                                                                    off at the point the
                                                                                    commercial or member
                                                                                    business loan was placed on
                                                                                    nonaccrual status cannot be
                                                                                    restored to accrual.
----------------------------------------------------------------------------------------------------------------

Glossary 14

    ``Capitalization of Interest'' constitutes the addition of 
accrued but unpaid interest to the principal balance of a loan.
---------------------------------------------------------------------------

    \14\ Terms defined in the Glossary will be italicized on their 
first use in the body of this guidance.
---------------------------------------------------------------------------

    ``Cash Basis'' method of income recognition is set forth in GAAP 
and means while a loan is in nonaccrual status, some or all of the 
cash interest payments received may be treated as interest income on 
a cash basis provided no doubt exists about the collectability of 
the remaining recorded investment in the loan.\15\
---------------------------------------------------------------------------

    \15\ Acceptable accounting practices include allocating 
contractual interest payments among interest income, reduction of 
the recorded investment in the asset, and recovery of prior charge-
offs. If this method is used, the amount of income that is 
recognized would be equal to that which would have been accrued on 
the loan's remaining recorded investment at the contractual rate; 
and, accounting for the contractual interest in its entirety either 
as income, reduction of the recorded investment in the asset, or 
recovery of prior charge-offs, depending on the condition of the 
asset, consistent with its accounting policies for other financial 
reporting purposes.
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    ``Charge-off'' means a direct reduction (credit) to the carrying 
amount of a loan carried at amortized cost resulting from 
uncollectability with a corresponding reduction (debit) of the ALLL. 
Recoveries of loans previously charged off must be recorded when 
received.
    ``Commercial Loan'' is defined consistent with Section 723.2 of 
the NCUA's MEMBER BUSINESS LOANS; COMMERCIAL LENDING Rule, 12 CFR 
723.2.
    ``Generally accepted accounting principles (GAAP)'' means 
official pronouncements of the FASB as memorialized in the FASB 
Accounting Standards Codification[supreg] as the source of 
authoritative principles and standards recognized to be applied in 
the preparation of financial statements by federally insured credit 
unions in the United States with assets of $10 million or more.
    ``In the process of collection'' means collection of the loan is 
proceeding in due course either:
    (1) Through legal action, including judgment enforcement 
procedures, or
    (2) In appropriate circumstances, through collection efforts not 
involving legal action which are reasonably expected to result in 
repayment of the debt or in its restoration to a current status in 
the near future, i.e., generally within the next 90 days.
    ``Member Business Loan'' is defined consistent with Sec.  723.8 
of the NCUA's MEMBER BUSINESS LOANS; COMMERCIAL LENDING Rule, 12 CFR 
723.8.
    ``New Loan'' means the terms of the revised loan are at least as 
favorable to the credit union (i.e., terms are market-based, and 
profit driven) as the terms for comparable loans to other customers 
with similar collection risks who are not refinancing or 
restructuring a loan with the credit union, and the revisions to the 
original debt are more than minor.
    ``Past Due'' means a loan is determined to be delinquent in 
relation to its contractual repayment terms including formal 
restructures, and must consider the time value of money. Credit 
unions may use the following method to recognize partial payments on 
``consumer credit,'' i.e., credit extended to individuals for 
household, family, and other personal expenditures, including credit 
cards, and loans to individuals secured by their personal residence, 
including home equity and home improvement loans. A payment 
equivalent to 90 percent or more of the contractual payment may be 
considered a full payment in computing past due status.
    ``Recorded Investment in a Loan'' means the loan balance 
adjusted for any unamortized premium or discount and unamortized 
loan fees or costs, less any amount previously charged off, plus 
recorded accrued interest.
    ``Troubled Debt Restructuring'' is as defined in GAAP and means 
a restructuring in which a credit union, for economic or legal 
reasons related to a member borrower's financial difficulties, 
grants a concession to the borrower that it would not otherwise 
consider.\16\ The restructuring of a loan may include, but is not 
necessarily limited to:
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    \16\ FASB ASC 310-40, ``Troubled Debt Restructuring by 
Creditors.''
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    (1) The transfer from the borrower to the credit union of real 
estate, receivables from third parties, other assets, or an equity 
interest in the borrower in full or partial satisfaction of the 
loan,
    (2) A modification of the loan terms, such as a reduction of the 
stated interest rate, principal, or accrued interest or an extension 
of the maturity date at a stated interest rate lower than the 
current market rate for new debt with similar risk, or
    (3) A combination of the above.
    A loan extended or renewed at a stated interest rate equal to 
the current market interest rate for new debt with similar risk is 
not to be reported as a restructured troubled loan.
    ``Well secured'' means the loan is collateralized by: (1) A 
perfected security interest in, or pledges of, real or personal 
property, including securities with an estimable value, less cost to 
sell, sufficient to recover the recorded investment in the loan, as 
well as a reasonable return on that amount, or (2) by the guarantee 
of a financially responsible party.

[[Page 34621]]

    ``Workout Loan'' means a loan to a borrower in financial 
difficulty that has been formally restructured so as to be 
reasonably assured of repayment (of principal and interest) and of 
performance according to its restructured terms. A workout loan 
typically involves a re-aging, extension, deferral, renewal, or 
rewrite of a loan.\17\ For purposes of this policy statement, 
workouts do not include loans made to market rates and terms such as 
refinances, borrower retention actions, or new loans.\18\
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    \17\ ``Re-Age'' means returning a past due account to current 
status without collecting the total amount of principal, interest, 
and fees that are contractually due.
    \18\ There may be instances where a workout loan is not a TDR 
even though the borrower is experiencing financial hardship. For 
example, a workout loan would not be a TDR if the fair value of cash 
or other assets accepted by a credit union from a borrower in full 
satisfaction of its receivable is at least equal to the credit 
union's recorded investment in the loan, e.g., due to charge-offs.
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    ``Extension'' means extending monthly payments on a closed-end 
loan and rolling back the maturity by the number of months extended. 
The account is shown current upon granting the extension. If 
extension fees are assessed, they must be collected at the time of 
the extension and not added to the balance of the loan.
    ``Deferral'' means deferring a contractually due payment on a 
closed-end loan without affecting the other terms, including 
maturity, of the loan. The account is shown current upon granting 
the deferral.
    ``Renewal'' means underwriting a matured, closed-end loan 
generally at its outstanding principal amount and on similar terms.
    ``Rewrite'' means significantly changing the terms of an 
existing loan, including payment amounts, interest rates, 
amortization schedules, or its final maturity.

[FR Doc. 2021-13906 Filed 6-29-21; 8:45 am]
BILLING CODE 7535-01-P