[Federal Register Volume 87, Number 250 (Friday, December 30, 2022)]
[Proposed Rules]
[Pages 80479-80501]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2022-27607]


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NATIONAL CREDIT UNION ADMINISTRATION

12 CFR Parts 701 and 714

[NCUA-2022-0185]
RIN 3133-AF49, 3133-AE96


Financial Innovation: Loan Participations, Eligible Obligations, 
and Notes of Liquidating Credit Unions

AGENCY: National Credit Union Administration (NCUA).

ACTION: Proposed rule.

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SUMMARY: The NCUA Board (Board) is seeking comment on a proposed rule 
that would amend the NCUA's rules regarding the purchase of loan 
participations and the purchase, sale, and pledge of eligible 
obligations and other loans (including notes of liquidating credit 
unions). The proposed rule is intended to clarify the NCUA's current 
regulations and provide additional flexibility for federally insured 
credit unions (FICUs) to make use of advanced technologies and 
opportunities offered by the financial technology (fintech) sector. The 
proposal would also make conforming amendments to the NCUA's rule 
regarding loans to members and lines of credit to members by adding new 
provisions about indirect lending arrangements and indirect leasing 
arrangements. Finally, the proposal would make other conforming changes 
and technical amendments in other sections of the NCUA's regulations. 
The Board does not view these conforming and technical changes as 
substantive.

DATES: Comments must be received by February 28, 2023.

ADDRESSES: You may submit comments by any of the following methods 
(Please send comments by one method only):
     Federal eRulemaking Portal: https://www.regulations.gov. 
The docket number for this notice of proposed rulemaking is NCUA-2022-
0185. Follow the instructions for submitting comments.
     Mail: Address to Melane Conyers-Ausbrooks, Secretary of 
the Board, National Credit Union Administration, 1775 Duke Street, 
Alexandria, Virginia 22314-3428.
     Hand Delivery/Courier: Same as mail address.
    Public inspection: All public comments are available on the Federal 
eRulemaking Portal at: https://www.regulations.gov as submitted, except 
when impossible for technical reasons. Public comments will not be 
edited to remove any identifying or contact information.
    If you are unable to access public comments on the internet, you 
may contact the NCUA for alternative access by calling (703) 518-6540 
or emailing [email protected].

FOR FURTHER INFORMATION CONTACT: For policy questions: Laura Smith, 
Senior Credit Specialist, or Naghi Khaled, Director of Credit Markets, 
Office of Examination and Insurance, at (703) 518-6360; for legal 
questions: Frank Kressman, General Counsel, the Office of General 
Counsel, at (703) 518-6540; or by mail at National Credit Union 
Administration, 1775 Duke Street, Alexandria, VA 22314.

SUPPLEMENTARY INFORMATION:

I. Summary of the Proposed Rule

A. Background

    The Board is proposing to amend Sec. Sec.  701.21, 701.22, 701.23, 
and part 714 of the NCUA's regulations regarding the purchase of loan 
participations and the purchase, sale, and pledge of eligible 
obligations and other loans (including

[[Page 80480]]

notes of liquidating credit unions).\1\ The Board intends this proposal 
provide FICUs with additional flexibility to make use of advanced 
technologies and opportunities offered by the fintech sector. In 
addition, the proposed amendments are intended to clarify ambiguities 
related to loan participations and eligible obligations.
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    \1\ Note that the terms credit union, federal credit union, 
federally insured state-chartered credit union, corporate credit 
union, and FICU are used throughout the document and are not 
necessarily interchangeable. Specifically, while Sec.  701.23 
applies to FCUs only, Sec.  701.22 applies to all federally insured 
consumer credit unions, and Sec.  701.21 has provisions that apply 
to all federally insured credit unions.
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    Over the last several years, the NCUA has modernized and updated 
several of its regulations to shift from a prescriptive to a 
principles-based approach. As a result of this effort, many of the 
agency's regulations are now principles-based, meaning the regulations 
provide a framework for a credit union to determine how to structure 
its operations. The NCUA's principles-based approach to rulemaking is 
intended to apply a broad, well-defined, set of principles governing 
the regulated activity. This principles-based approach enables a credit 
union to establish and adjust its policies and procedures to reflect 
its board-established risk-tolerance levels, provided those policies 
and procedures continue to meet the principles outlined in the 
regulation, including safety and soundness and compliance 
considerations.
    The Board believes shifting to a more principles-based approach 
with respect to loan participations and eligible obligations is 
appropriate and will be beneficial to FICUs. By removing certain 
prescriptive limits and other qualifying conditions, and replacing them 
with risk-focused, principles-based requirements, the Board believes 
this proposal will advance the agency's efforts to strike an 
appropriate balance between mitigating risk to the National Credit 
Union Share Insurance Fund (Share Insurance Fund), protecting credit 
union members and fostering growth and stability in the credit union 
system. In addition, this shift would provide FICUs with flexibility to 
innovate how they manage their balance sheets while offering new or 
enhanced services to their members. The Board also believes the 
proposed changes would increase FICUs' ability to engage in lending 
arrangements with other financial institutions and third parties, 
including fintech companies providing lending services, expanding their 
access to diverse loan origination channels, new markets and potential 
new services to their members. Finally, the Board notes that this 
proposal would address part of one of the strategic objectives outlined 
in the 2022 NCUA Annual Performance Plan, which is to ensure NCUA 
policies and regulations appropriately address emerging and innovative 
financial technologies.

B. Overview of Proposed Changes

    The proposed rule would remove certain prescriptive limitations and 
other qualifying requirements relating to eligible obligations and 
provide credit unions with additional flexibility to purchase eligible 
obligations of their members. Removing the current prescriptive 
limitations and other qualifying requirements will allow federal credit 
unions (FCUs) additional flexibility to engage with the advanced 
technologies and other opportunities offered by the fintech sector. The 
greater flexibility and individual autonomy will also allow FCUs to 
establish their own risk tolerance limits and governance policies for 
these activities, while codifying due diligence, risk assessment, 
compliance and other management processes that are consistent with the 
Board's long-standing expectations for safe, sound, fair and affordable 
lending practices.
    The proposed rule would also provide credit unions with additional 
flexibility to participate in loans acquired through indirect lending 
arrangements, allowing FICUs to utilize advanced technologies and 
opportunities offered by the fintech sector.
    As discussed in greater detail in the section-by-section analysis, 
the Board is proposing to amend Sec.  701.21 of the NCUA's regulations 
to add new paragraph (c)(9) regarding indirect lending and indirect 
leasing arrangements. The new paragraph is intended to replace the 
language defining indirect lending and indirect leasing arrangements 
under current Sec.  701.23(b)(4)(iv), which would be removed under this 
proposal for the reasons explained below.
    The proposal would also amend Sec.  701.22 of the NCUA's 
regulations. In particular, the proposal requests comment on certain 
clarifying amendments to the introductory paragraph, and would codify 
NCUA Legal Opinion 15-0813, Loan Participations in Indirect Loans--
Originating Lender.\2\ Through the codification of Legal Opinion 15-
0813, this proposed rule would clarify that a FICU engaged in an 
indirect lending relationship can meet the definition of ``eligible 
organization'' under Sec.  701.22 of the NCUA's regulations, provided 
the FICU meets certain conditions. Specifically, under this proposal, 
for purposes of Sec.  701.22, a FICU would be considered the 
originating lender and meet the definition of an ``eligible 
organization'' if the FICU makes the final underwriting decision 
regarding the loan, and the loan is assigned to the purchaser very soon 
after the inception of the obligation to extend credit.
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    \2\ NCUA Legal Op. 15-0813 (Aug. 10, 2015) available at https://www.ncua.gov/regulation-supervision/legal-opinions/2015/loan-participations-indirect-loans-originating-lenders.
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    The Board notes that it intends the codification of the 
aforementioned legal opinion to clarify that a FICU can meet the 
definition of ``originating lender'' in certain transactions where the 
FICU is engaging in indirect lending arrangements with fintech 
companies and other third-party loan acquisition channels, such as 
Credit Union Service Organizations (CUSOs) and other loan-originating 
retailers.
    In addition, this proposed rule would amend Sec.  701.23 of the 
NCUA's current regulations as follows:
     Proposing certain clarifying and conforming amendments to 
the introductory paragraph to Sec.  701.23.
     Removing the CAMELS ratings and well-capitalized 
requirements under Sec.  701.23(b)(2) for FCU purchases of certain non-
member loans from FICUs.
     Narrowing the application of the 5-percent limit on the 
purchase of eligible obligations to notes of a liquidating credit 
union.
     Adding safety and soundness requirements to section Sec.  
701.23(b)(6)(i)-(vi) concerning the purchase of eligible obligations, 
to offset risks associated with removing the CAMELS and well-
capitalized requirements from Sec.  701.23(b)(2), and narrowing the 
application of the 5-percent limit to notes of liquidating credit 
unions. Safety and soundness and compliance requirements would apply to 
all FCUs engaged in the purchase of eligible obligations and notes from 
a liquidating credit union. In particular, the proposed rule would 
require an FCU purchasing eligible obligations or notes from a 
liquidating credit union to:
    [cir] establish written, board-approved policies, risk assessments, 
and risk management process requirements that are commensurate with the 
size, scope, type, complexity, and level of risk posed by the planned 
purchase activities. These policies would include underwriting 
standards for the loans, ongoing performance and risk monitoring, 
including compliance risk, tailored to the types of loans purchased and 
the sellers as applicable, and

[[Page 80481]]

portfolio concentration limits by loan types and risk categories in 
relation to net worth;
    [cir] conduct due diligence on a seller prior to the purchase; and
    [cir] require the written loan purchase agreements to contain 
certain contract language and provisions (similar to the standards 
currently established for loan participation agreements under Sec.  
701.22 of the NCUA's regulations);
    [cir] provide for a legal review and assessment of applicable loan 
purchase agreements or contracts to protect the FCU's legal and 
business interests from undue risk.
     Revising the definition of an eligible obligation under 
Sec.  701.23(a)(1) to clarify the distinction between transactions 
treated as loan participations and those treated as eligible 
obligations.
     Revising the applicability of the 5-percent limit, 
discussed in more detail later in this document, from covering the 
purchase of most eligible obligations to only ``notes'' purchased by an 
FCU from a liquidating credit union.
     Revising the ``grandfathered purchases'' section of the 
current rule to include eligible obligation purchases that were 
executed before the effective date of this proposed rule (if adopted) 
and complied with Sec.  701.23 at the time the transaction was 
executed, subject to safety and soundness and compliance 
considerations.
     Adding safety and soundness requirements to Sec.  
701.23(c) concerning the sale of eligible obligations, requiring the 
selling FCU to do the following:
    [cir] obtain a legal review and assessment of all applicable loan 
sale agreements or contracts to protect the FCU's legal and business 
interests; and
    [cir] identify the specific loan(s) being sold either directly in 
the written loan sale agreement or through a document that is 
incorporated by reference into the loan sale agreement.
    The Board is also proposing to amend Sec.  714.9 of the NCUA's 
regulations to make certain conforming amendments related to proposed 
changes to Sec.  701.23(b)(4).
    Finally, the proposal would make certain other conforming changes 
and technical amendments in other sections of the NCUA's regulations. 
The Board does not view these additional conforming technical changes 
as substantive.

II. Legal Authority

    Section 120(a) \3\ of the Federal Credit Union Act (FCU Act or Act) 
authorizes the Board to prescribe rules and regulations for the 
administration of the Act.\4\ Similarly, section 209 \5\ of the FCU Act 
authorizes the Board to prescribe such rules and regulations as it may 
deem necessary or appropriate to carry out the share insurance 
provisions of subchapter II of the Act. In addition, section 206 of the 
FCU Act provides the Board with broad authority to take enforcement 
action against a FICU or an ``institution-affiliated party'' \6\ that 
is engaging or has engaged, or the Board has reasonable cause to 
believe that is about to engage, in an unsafe or unsound practice in 
conducting the business of such credit union.\7\ Congress chose not to 
define ``unsafe or unsound practices'' in the FCU Act, leaving 
determinations regarding which actions are unsafe or unsound to the 
Board.
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    \3\ 12 U.S.C. 1766(a) (The Board may prescribe rules and 
regulations for the administration of 12 U.S.C. chapter 14 
(including, but not by way of limitation, the merger, consolidation, 
and dissolution of corporations organized under the chapter). Any 
central credit union chartered by the Board shall be subject to such 
rules, regulations, and orders as the Board deems appropriate and, 
except as otherwise specifically provided in such rules, 
regulations, or orders, shall be vested with or subject to the same 
rights, privileges, duties, restrictions, penalties, liabilities, 
conditions, and limitations that would apply to all Federal credit 
unions under the chapter.).
    \4\ Sections 1751-1795k.
    \5\ Section 1789(11) (providing in relevant part as follows: 
``In carrying out the purposes of this subchapter, the Board may--[. 
. .] prescribe such rules and regulations as it may deem necessary 
or appropriate to carry out the provisions of [12 U.S.C. 1781-
1790e].'').
    \6\ See section 1786(r) (providing that for purposes of the FCU 
Act, the term ``institution-affiliated party'' means--(1) any 
committee member, director, officer, or employee of, or agent for, 
an insured credit union; (2) any consultant, joint venture partner, 
and any other person as determined by the Board (by regulation or on 
a case-by-case basis) who participates in the conduct of the affairs 
of an insured credit union; and (3) any independent contractor 
(including any attorney, appraiser, or accountant) who knowingly or 
recklessly participates in--(A) any violation of any law or 
regulation; (B) any breach of fiduciary duty; or (C) any unsafe or 
unsound practice, which caused or is likely to cause more than a 
minimal financial loss to, or a significant adverse effect on, the 
insured credit union.).
    \7\ Section 1786.
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    Section 107(5)(E) of the FCU Act authorizes FCUs to engage in 
participation lending with other credit unions, credit union 
organizations, or financial organizations in accordance with written 
policies of the board of directors.\8\ Section 107(5)(E) also provides 
that a credit union that originates a loan for which participation 
arrangements are made in accordance with this subsection shall retain 
an interest of at least 10 per centum of the face amount of the 
loan.\9\
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    \8\ Section 1757(5)(e).
    \9\ Id.
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    Section 107(13) of the FCU Act authorizes FCUs, in accordance with 
rules and regulations prescribed by the Board, to purchase, sell, 
pledge, or discount or otherwise receive or dispose of, in whole or in 
part, any eligible obligation (as defined by the Board) of its 
members.\10\ In addition, section 107(13) authorizes FCUs, in 
accordance with rules and regulations prescribed by the Board, to 
purchase from any liquidating credit union notes made by individual 
members of the liquidating credit union at such prices as may be agreed 
upon by the board of directors of the liquidating credit union and the 
board of directors of the purchasing credit union, but no purchase may 
be made under authority of this paragraph if, upon the making of that 
purchase, the aggregate of the unpaid balances of notes purchased under 
authority of this paragraph would exceed 5 per centum of the unimpaired 
capital and surplus of the credit union.\11\
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    \10\ Section 1757(13).
    \11\ Id.
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    Section 107(14) of the FCU Act authorizes FCUs, subject to 
regulations of the Board, to sell all or a part of its assets to 
another credit union, to purchase all or part of the assets of another 
credit union, and to assume the liabilities of the selling credit union 
and those of its members.\12\
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    \12\ Section 1757(14).
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III. Section-By-Section Analysis

A. Part 701 Organization and Operation of Federal Credit Unions

    As discussed in more detail below, this proposal would make several 
changes to sections in part 701 of the NCUA's regulations. The Board 
requests comment on all aspects of the proposal and on specific 
questions and issues mentioned below. These changes are intended to 
clarify numerous provisions regarding loans to members and lines of 
credit to members under Sec.  701.21; loan participations under Sec.  
701.22; and the purchase, sale, and pledge of eligible obligations 
under Sec.  701.23. In addition, the proposal would amend the NCUA's 
current regulatory requirements under Sec. Sec.  701.22 and 701.23. The 
amended requirements would provide FICUs authority and autonomy to 
innovate and transact business with fintech companies and other 
institutions that provide services associated with the origination and 
sale of loans made to members of FICUs.

Section 701.21 Loans to Members and Lines of Credit to Members

    As discussed in more detail below, this proposal would, as a 
conforming amendment, add new provisions to Sec.  701.21 regarding 
indirect lending

[[Page 80482]]

arrangements and indirect leasing arrangements. The new provisions are 
intended to take the place of a provision in current Sec.  701.23, 
which would be removed under the proposal. No other changes to Sec.  
701.21 are proposed.

Section 701.21(c) General Rules

New Sec.  701.21(c)(9) Indirect Lending and Indirect Leasing Agreements

    For reasons discussed in the preamble discussion on current Sec.  
701.23(b)(4), the NCUA is proposing to delete paragraph (b)(4)(iv) 
regarding indirect lending from Sec.  701.23. Current Sec.  
701.23(b)(4)(iv) excludes certain loans acquired through indirect 
lending arrangements and indirect leasing arrangements from the 5-
percent limit on the aggregate of the unpaid balance of certain loans 
purchased under Sec.  701.23. While the language excluding loans and 
leases acquired through indirect lending and indirect leasing 
arrangements would no longer be needed in Sec.  701.23(b)(4), the 
definition of such arrangements is still relevant for purposes of other 
provisions in the NCUA's regulations. Under current paragraph (b)(4), 
and NCUA's long-standing interpretation,\13\ loans acquired by an FCU 
pursuant to an indirect lending arrangement are considered loans made 
by the FCU under Sec.  701.21, rather than loans purchased under Sec.  
701.23. Accordingly, the Board is proposing to add to Sec.  701.21 new 
paragraph (c)(9) regarding indirect lending and indirect leasing 
arrangements. The new paragraph is intended to replace the language 
defining indirect lending and indirect leasing arrangements under 
current Sec.  701.23(b)(4)(iv).
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    \13\ See, e.g., NCUA Legal Op. 97-0546 (Aug. 6, 1997), available 
at https://www.ncua.gov/regulation-supervision/legal-opinions/1997/indirect-lending.
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New Sec.  701.21(c)(9)(i) Definitions

    Proposed new Sec.  701.21(c)(9)(i) would define the terms 
``indirect leasing arrangement'' and ``indirect lending arrangement'' 
for purposes of the NCUA's regulations. Current Sec.  701.23(b)(4)(iv) 
provides that an indirect lending or indirect leasing arrangement that 
is classified as a loan and not the purchase of an eligible obligation 
because the FCU makes the final underwriting decision, and the sales or 
lease contract is assigned to the FCU very soon after it is signed by 
the member and the dealer or leasing company, is excluded in 
calculating the 5-percent limit. The NCUA believes splitting the 
provision in paragraph (b)(4)(iv) into two definitions will help 
clarify the existing requirements. Accordingly, proposed new Sec.  
701.21(c)(9)(i) would provide that the term indirect leasing 
arrangement means a written agreement to purchase leases from the 
leasing company where the purchaser makes the final underwriting 
decision, and the lease agreement is assigned to the purchaser very 
soon after it is signed by the member and the leasing company. Proposed 
new paragraph (c)(9)(i) would provide further that the term indirect 
lending arrangement means a written agreement to purchase loans from 
the loan originator where the purchaser makes the final underwriting 
decision regarding making the loan, and the loan is assigned to the 
purchaser very soon after the inception of the obligation to extend 
credit.
    Both proposed new definitions would use language that is generally 
similar, but not identical, to the language in current Sec.  
701.23(b)(4)(iv). The NCUA is proposing to revise the language used in 
current paragraph (b)(4)(iv) to clarify the different requirements that 
apply to indirect leasing arrangements and indirect lending 
arrangements. The proposed changes are intended to clarify but not 
change the current meaning of both terms.
    The Board specifically requests comment on whether proposed 
paragraph (c)(9) would have a material impact on credit unions' 
existing and future indirect lending arrangements, indirect leasing 
arrangements, or both.

New Sec.  701.21(c)(9)(ii) Indirect Lending

    Proposed new Sec.  701.21(c)(9)(ii), consistent with current Sec.  
701.23(b)(4)(iv), would clarify the difference between loans made 
pursuant to indirect lending arrangements under Sec.  701.21 and loans 
purchased under Sec.  701.23. Current Sec.  701.23(b)(4)(iv) excludes 
loans acquired pursuant to certain indirect lending arrangements from 
the 5-percent limit under current paragraph (b)(4). Paragraph 
(b)(4)(iv) provides that an indirect lending or indirect leasing 
arrangement that is classified as a loan and not the purchase of an 
eligible obligation because the FCU makes the final underwriting 
decision, and the sales or lease contract is assigned to the FCU very 
soon after it is signed by the member and the dealer or leasing 
company, is excluded from calculating the 5-percent limit.\14\ As 
previously mentioned, current Sec.  701.23(b)(4)(iv) would be removed 
under this proposal. Accordingly, proposed new Sec.  701.21(c)(9)(ii) 
would provide that a loan acquired pursuant to an indirect lending 
arrangement, and that meets the requirements of Sec.  701.21, is 
classified as a loan and not the purchase of a loan for purposes of the 
NCUA's regulations, which are codified in chapter VII of title 12 of 
the Code of Federal Regulations.
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    \14\ (emphasis added); see also, e.g., NCUA Legal Op. 97-0546 
(Aug. 6, 1997) (providing in relevant part: ``FCUs may participate 
in indirect lending arrangements under the authority to make loans 
to members, 12 U.S.C. 107(5); 12 CFR 701.21, rather than the 
authority to purchase eligible obligations, 12 U.S.C. 107(13); 12 
CFR 701.23, as long as two conditions are met. First, the FCU must 
make the final underwriting decision. That is, before the retailer 
and the member complete the loan or sales contract, the FCU must 
review the application and determine that the transaction conforms 
to its lending policies. This is because an FCU may not delegate its 
lending authority to a third party. Second, the retailer must assign 
the loan or sales contract to the FCU very soon after it is 
completed. Assignment close in time to the making of the loan allows 
the retailer to function as the facilitator of the loan while the 
FCU remains the true lender. As the time between completion and 
assignment of the loan lengthens, the FCU's payment to the retailer 
becomes the purchase of the loan rather than part of the processing 
of the loan.'').
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New Sec.  701.21(c)(9)(iii) Indirect Leasing

    Proposed new Sec.  701.21(c)(9)(iii), consistent with current 
Sec. Sec.  701.23(b)(4)(iv) and 714.9, would clarify the difference 
between leases made pursuant to indirect leasing arrangements under 
Sec.  714.2(b) \15\ and leases purchased under Sec.  701.23. Current 
Sec.  701.23(b)(4)(iv) excludes leases acquired pursuant to certain 
indirect leasing arrangements from the 5-percent limit under current 
paragraph (b)(4). Paragraph (b)(4)(iv) provides that an indirect 
lending or indirect leasing arrangement that is classified as a loan 
and not the purchase of an eligible obligation because the FCU makes 
the final underwriting decision, and the sales or lease contract is 
assigned to the FCU very soon after it is signed by the member and the 
dealer or leasing company, is excluded in calculating the 5-percent 
limitation.\16\ Similarly,

[[Page 80483]]

current Sec.  714.9 provides that an FCU's indirect leasing 
arrangements are not subject to the eligible obligation limit if they 
satisfy the provisions of Sec.  701.23(b)(3)(iv) that require that an 
FCU make the final underwriting decision and that the lease contract is 
assigned to the FCU very soon after it is signed by the member and the 
dealer or leasing company. Accordingly, proposed new Sec.  
701.21(c)(9)(iii) would provide that a lease acquired pursuant to an 
indirect leasing arrangement, and that meets the requirements of part 
714 of the NCUA's regulations, is classified as a lease and not the 
purchase of a lease for purposes of the NCUA's regulations, which are 
codified in chapter VII of title 12 of the Code of Federal Regulations.
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    \15\ (Providing: ``[An FCU] may engage in indirect leasing. In 
indirect leasing, a third party leases property to [the FCU's] 
member and [the FCU] then purchases that lease from the third party 
for the purpose of leasing the property to [the FCU's] member. [The 
FCU does] not have to purchase the leased property if [it complies] 
with the requirements of Sec.  714.3.'').
    \16\ Id. (emphasis added); see also 12 CFR 714.2(b) & 714.9; and 
NCUA Legal Op. 00-0811 (Nov. 2000) (providing in part: ``NCUA's 
leasing regulation recognizes that FCUs may engage in the leasing of 
personal property and does not distinguish between consumer and 
business leasing. 12 CFR part 714. The authority of FCUs to engage 
in secured lending is the basis for their authority to engage in 
leasing. Therefore, FCU leasing generally must comply with the 
statutory and regulatory requirements applicable to secured lending, 
including the member business loan rule. 12 CFR part 723. Our 
leasing regulation, however, notes exceptions from certain 
provisions of the lending rules that are not pertinent to leasing; 
for example, the interest rate ceilings. 12 CFR 714.10, 
701.21(c)(7). In a lease, the lessee's payments are periodic rental 
payments, not the repayment of principal and interest as in a 
loan.'').
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Section 701.22 Loan Participations

    As discussed in more detail below, the proposal would make several 
clarifying amendments to Sec.  701.22. These changes are primarily 
intended to clarify FCUs' authority to purchase loan participations and 
the requirements applicable to the purchase of loan participations by 
federally insured, state-chartered credit unions (FISCUs).

701.22 Introductory Paragraph

    The introductory paragraph to current Sec.  701.22 sets forth the 
scope and limitations of the section. The NCUA Board added the 
introductory paragraph to Sec.  701.22 as part of a final rule it 
approved in 2013 (2013 Final Rule).\17\ The introductory paragraph was 
intended to clarify several issues related to the scope and 
applicability of Sec.  701.22. In particular, the 2013 Final Rule 
explained as follows in the remainder of this paragraph. The 
introductory text clarified the scope of the rule and helps distinguish 
a loan participation under Sec.  701.22 from an eligible obligation 
under Sec.  701.23. Further, it clarified that the rule applies to a 
natural person FICU's purchase of a loan participation where the 
borrower is not a member of that credit union. Generally, an FCU's 
purchase, in whole or in part, of its member's loan is covered by 
NCUA's eligible obligations rule at Sec.  701.23. Additionally, by a 
cross-reference to Part 741 of NCUA's regulations, the rule also was 
made applicable to natural person FISCUs. The Board noted that 
corporate credit unions are subject to the loan participation 
requirements set forth in Part 704 and, therefore, are not subject to 
Sec.  701.22 of NCUA's regulations. \18\
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    \17\ 78 FR 37946 (June 25, 2013) (footnote omitted).
    \18\ Id. at 37948.
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    The introductory paragraph has seven separate substantive 
provisions. First, the paragraph provides that this section applies 
only to loan participations as defined in the section. Second, it 
provides that the section does not apply to the purchase of an 
investment interest in a pool of loans. Third, it provides that the 
section establishes the requirements a FICU must satisfy to purchase a 
loan participation. Fourth, it provides that the section applies to a 
FICU's purchase of a loan participation only where the borrower is not 
a member of the purchasing FICU and where a continuing contractual 
obligation between the seller and purchaser is contemplated. Fifth, it 
provides that Sec.  701.23 generally applies to an FCU's purchase of 
all or part of a loan made to one of its members. Sixth, it provides 
that Sec.  741.225 requires FISCUs to comply with the requirements of 
Sec. Sec.  701.22 through 741.225 provides that FISCUs are exempt from 
the borrower membership requirement in current Sec.  701.22(b)(4). 
Seventh, the paragraph provides that the section does not apply to 
corporate credit unions as defined in part 704.
    In the 2013 Final Rule, the Board added a similar introductory 
paragraph to Sec.  701.23 regarding the purchase, sale, and pledge of 
eligible obligations to clarify the scope of that section and 
distinguish loan participations from eligible obligations. The 
provisions included in that introductory paragraph are discussed in 
detail later in the part of the preamble on the introductory paragraph 
to Sec.  701.23.
    Since adopting the prefatory language in both sections, the NCUA 
has received inquiries from NCUA examiners, FICUs, fintech companies, 
and other parties who have expressed confusion about how to interpret 
many of these provisions. This confusion has led to inconsistent 
reporting of loan interests by FICUs and uncertainty about which of the 
two sections, Sec.  701.22 or Sec.  701.23, to apply to certain 
transactions, particularly innovative programs that have been designed 
by FICUs after 2013. In addition, the Board is concerned that continued 
confusion about lines of authority in this area could discourage FICUs 
from entering into certain safe, sound and compliant loan 
participation, purchase, or sale agreements that are within their 
statutory authority.
    One significant issue with the current introductory paragraph to 
Sec.  701.22 that parties have raised is when a FICU's partial loan 
purchase is subject to that section. In particular, parties have cited 
the continuing contractual obligation qualifier as a source of 
confusion. The third sentence in the introductory paragraph to current 
Sec.  701.22 provides that the section applies only to a FICU's 
purchase of a loan participation where the borrower is not a member of 
that credit union and where a continuing contractual obligation between 
the seller and purchaser is contemplated.\19\ The fourth sentence in 
the paragraph provides further that, generally, an FCU's purchase of 
all or part of a loan made to one of its own members, subject to a 
limited exception for certain well-capitalized FCUs in Sec.  
701.23(b)(2), where no continuing contractual obligation between the 
seller and purchaser is contemplated, is governed by Sec.  701.23 of 
this part.\20\ Similarly, the introductory paragraph to Sec.  701.23 
provides that Sec.  701.23 governs an FCU's purchase, sale, or pledge 
of all or part of a loan to one of its own members, subject to a 
limited exception for certain well-capitalized FCUs, where no 
continuing contractual obligation between the seller and purchaser is 
contemplated.\21\
---------------------------------------------------------------------------

    \19\ Emphasis added.
    \20\ Emphasis added.
    \21\ Emphasis added.
---------------------------------------------------------------------------

    In practice, however, purchase agreements, regardless of whether 
the transactions involve the purchase of an eligible obligation or a 
loan participation, frequently contain some form of continuing 
contractual obligation between the buyer and the seller, including 
representations and warranties regarding the loans and loan repurchase 
agreements, servicing agreements, and other similar types of ongoing 
obligations set forth under the agreements. The Board believes the 
continuing contractual obligation clauses in the third and fourth 
sentences in the introductory paragraphs to current Sec.  701.22 are 
unnecessary when determining whether a loan purchase agreement 
qualifies as either a loan participation or an eligible obligation.
    In addition to the concerns explained above, the clause where the 
borrower is not a member of that credit union in the first part of the 
third sentence of the introductory paragraph conflicts with another 
provision in Sec.  701.22. This language could be misinterpreted to 
suggest that Sec.  701.22 does not apply to a partial loan purchase 
where the borrower is a member of the purchasing credit union, even 
when the transaction otherwise meets the definition of a loan 
participation under Sec.  701.22. This clause directly conflicts with 
the more specific requirement in Sec.  701.22(b)(4),

[[Page 80484]]

which provides that the borrower must become a member of one of the 
participating credit unions before the purchasing FICU purchases a 
participation interest in the loan. The NCUA has long interpreted the 
more specific language in paragraph (b)(4) as controlling and has 
applied the requirements of Sec.  701.22 to partial loan purchases 
where the purchase meets the definition of a loan participation and the 
borrower is a member of the purchasing FICU.
    Accordingly, the NCUA believes the removal of this clause will 
serve to clarify and reduce confusion when Sec.  701.22 applies to 
certain transactions. As part of this proposal, the Board requests 
comment on whether deleting the fourth and fifth sentences in the 
introductory paragraph to current Sec.  701.22 would clarify when the 
section applies to certain transactions. After considering any public 
comments received on this issue, the Board may adopt these amendments 
in a final rule based on this proposal.
    The NCUA recognizes that whether the purchase of a partial loan is 
a loan participation under Sec.  701.22 or a loan purchase under Sec.  
701.23 may still be uncertain in some instances even if these sentences 
are removed. The NCUA believes, however, that other provisions in Sec.  
701.22, such as the definition of loan participation and the conditions 
outlined in paragraph (b), make clear which transactions are subject to 
the requirements of Sec.  701.22.
    As discussed in more detail in the part of the preamble below 
regarding Sec.  701.23, the Board is also considering deleting the 
continuing contractual obligations sentence in current Sec.  701.23, 
subject to comments received on this proposal. The Board intends this 
change to work in conjunction with the proposed changes to the 
introductory paragraph to current Sec.  701.22.
    The Board is proposing no other changes to the introductory 
paragraph to current Sec.  701.22. Another provision in the 
introductory paragraph that is often misread, however, is the sentence 
providing that Sec.  701.22 does not apply to the purchase of an 
investment interest in a pool of loans. That sentence is intended to 
clarify that the purchase of such investment interests, to the extent 
they are permitted, are governed by part 703 of the NCUA's regulations 
for FCUs (and under part 741 of the NCUA's regulations and as 
authorized under state law for FISCUs) and not Sec.  701.22. This 
continues to be the case under this proposal. The NCUA notes further 
that this qualification to the section makes clear that Sec.  701.22 
neither applies to nor authorizes FICU investments in either asset-
backed securities or the purchase of other similar investment interests 
in pools of loans.\22\ The requirements of Sec.  701.22 apply to each 
individual loan a FICU purchases a loan participation interest in.\23\
---------------------------------------------------------------------------

    \22\ Emphasis added.
    \23\ See, e.g., NCUA Legal Op. 18-0133 (March 2018), available 
at https://www.ncua.gov/regulation-supervision/legal-opinions/2018/loan-participations.
---------------------------------------------------------------------------

    If all the changes proposed above are adopted in a final rule, the 
introductory text of Sec.  701.22 would provide the section applies 
only to loan participations as defined in paragraph (a). It does not 
apply to the purchase of an investment interest in a pool of loans. The 
section establishes the requirements a federally insured credit union 
must satisfy to purchase a participation in a loan. Federally insured 
state-chartered credit unions are required by Sec.  741.225 to comply 
with the loan participation requirements of the section. The section 
does not apply to corporate credit unions, as that term is defined in 
Sec.  704.2.

Section 701.22(a)

    The proposed rule would add a second sentence to the current 
definition of ``originating lender'' in Sec.  701.22(a) to codify and 
further clarify a 2015 NCUA legal opinion (2015 Opinion) regarding loan 
participations in indirect loans.\24\ The NCUA's 2013 Final Rule 
amended the loan participation regulation to, among other things, 
clarify that the originating lender must participate in the loan 
throughout the life of the loan.\25\ In the 2013 Final Rule, the NCUA 
explained that this requirement derives from sections 107(5) and (5)(E) 
of the FCU Act.\26\ Section 107(5) provides in relevant part that an 
FCU shall have power to participate with other credit unions, credit 
union organizations, or financial organizations in making loans to 
credit union members.\27\ Section 107(5)(E) requires further that 
participation loans with other credit unions, credit union 
organizations, or financial organizations shall be in accordance with 
written policies of the credit union's board of directors, provided 
that a credit union which originates a loan for which participation 
arrangements are made in accordance with this subsection shall retain 
an interest of at least 10 per centum of the face amount of the 
loan.\28\ While the statutory requirements of section 107(5)(E) 
primarily pertain to FCUs involved in loan participations, the Board 
chose, for safety and soundness reasons, to extend most of the 
requirements in Sec.  701.22 to cover all FICUs as part of the 2013 
Final Rule.\29\
---------------------------------------------------------------------------

    \24\ NCUA Legal Op. 15-0813 (Aug. 10, 2015) available at https://www.ncua.gov/regulation-supervision/legal-opinions/2015/loan-participations-indirect-loans-originating-lenders.
    \25\ 78 FR 37946, 37949 (June 25, 2013) (providing verbatim: The 
proposed rule revised the definitions of ``originating lender'' and 
``loan participation'' to clarify that the originating lender must 
participate in the loan throughout the life of the loan.''); see 
also Sec.  701.22(a) (providing in relevant part that: Loan 
participation means a loan where one or more eligible organizations 
participate pursuant to a written agreement with the originating 
lender, and the written agreement requires the originating lender's 
continuing participation throughout the life of the loan. (emphasis 
added)).
    \26\ See 76 FR 79548, 79549 (Dec. 22, 2011); and 78 FR 37946, 
37949 (June 25, 2013) (providing that: The requirement that credit 
unions only participate with the originating lender derives from the 
FCU Act's requirement for originating FCUs to retain at least a 10 
percent interest in the face amount of all loans they participate 
out. Moreover, the Board interprets the authority in the FCU Act for 
credit unions to participate in loans ``with'' other lenders to 
contemplate a shared, continuing lending arrangement. Simply put, 
the rule requires an originating lender to remain part of the 
participation arrangement and to retain a continuing interest in the 
loan in order to be a true participant. Otherwise, the transaction 
is not a loan participation but more akin to the sale of an eligible 
obligation.).
    \27\ 12 U.S.C. 1757(5) (emphasis added).
    \28\ Section 1757(5)(E) (emphasis added).
    \29\ See 76 FR 79548, 79548 (Dec. 22, 2011) (Explaining in part 
that: [L]oan participations [. . .] create more systemic risk to the 
share insurance fund (NCUSIF) due to the resulting interconnection 
between participants. For example, large volumes of participated 
loans in the system tied to a single originator, borrower, or 
industry or serviced by a single entity have the potential to impact 
multiple credit unions if a problem arises. Additionally, as both 
federal credit unions (FCUs) and federally insured state-chartered 
credit unions (FISCUs) actively engage in loan participations, it is 
important to the safety and soundness of the NCUSIF that all 
federally insured credit unions (FICUs) adhere to the same minimum 
standards for engaging in loan participations. The Board believes 
such standards are necessary to ensure the NCUSIF consistently 
recognizes and accounts for the risks associated with the purchase 
of loan participations. Finally, during examinations and other FICU 
contacts, the agency has encountered confusion concerning the 
application of the current loan participation rule regarding the 
entities and transactions subject to the rule.); and 78 FR 37946, 
37947 & 37955 (June 25, 2013); and Sec.  741.225.
---------------------------------------------------------------------------

    In the 2013 Final Rule, the Board noted two specific safety and 
soundness concerns as reasons for adopting the current definition of 
``originating lender,'' explaining in relevant part as follows:
    The 2013 Final Rule requires an originating lender to remain part 
of the participation arrangement and to retain a continuing interest in 
the loan in order to be a true participant. Otherwise, the transaction 
is not a loan participation but more akin to the sale of an eligible 
obligation. As the Board noted in 1991, permitting the sale of 
participation interests in eligible obligations will blur the 
distinction between loan participations and loan purchases and

[[Page 80485]]

sales, arguably circumventing the purpose of the loan participation and 
eligible obligations rules. Additionally, the Board believes the 
continued participation of the lender that initially originated the 
loan is integral to a safe and sound participation arrangement. In 
1991, the Board expressed its concern that a lender may have a 
decreased interest in properly underwriting a loan if they know they 
can later reduce their risk by selling participation interests in it. 
The requirement for the originating lender's continued participation in 
a loan participation arrangement is intended to address this safety and 
soundness concern.\30\
---------------------------------------------------------------------------

    \30\ 78 FR 37946, 37948 & 37949 (emphasis added) (providing also 
that: In granting [loan participation authority to FCUs], Congress 
expressed its intent to enhance the ability of FCUs to serve their 
members' loan demands. Congress also expressed, however, that 
originating FCUs must maintain discipline in the origination 
process. [. . . T]he loan participation authority must not be so 
broad that loan participations may be originated from any source. [. 
. .]); 56 FR 15034, 15034-15035 (April 15, 1991) (providing that: 
NCUA has interpreted the term ``participation loan'' to mean 
arrangements made prior to disbursements of the loan proceeds. In 
the preamble to the proposed rule, the Board stated that this 
interpretation may be too restrictive and proposed deleting it. [. . 
.] One commenter noted that this change will blur the distinction 
between loan participations and loan purchases and sales. [. . .] 
There are two basic safety and soundness concerns with the proposed 
change. FCUs may have a decreased interest in properly underwriting 
a loan if they know they can later reduce their risk by selling 
participation interests in it. Alternatively, FCUs interested in 
obtaining a participation after the loan is made may not properly 
investigate the loan and may instead rely on the original 
participants to have properly underwritten the loan. FCUs may jump 
in without a proper due diligence review. [. . .] Accordingly, the 
NCUA Board declines to adopt the proposed change and will continue 
to require a written commitment to participate in a loan precede 
final disbursement.); see also 68 FR 39866, 39867 (July 3, 2003); 68 
FR 75110 (Dec. 30, 2003); and H.R. Rep. No. 95-23, at 12 (1977), 
reprinted in 1977 U.S.C.C.A.N. 115.
---------------------------------------------------------------------------

    As explained in more detail below, these concerns are fully 
accounted for under the 2015 Opinion and this proposal by limiting the 
interpretation to indirect loans and requiring that such loans meet the 
same general requirements applicable to indirect loans made by FCUs 
under current Sec.  701.23(b)(4)(iv).
    The 2013 Final Rule responded to concerns raised by commenters 
regarding the proposed definition of ``originating lender'' and its 
application in situations where a CUSO underwrites and processes a 
loan, but the FICU funds the loan. In response to this feedback the 
Board provided the following explanation.
    These commenters observed that a CUSO often serves as an originator 
in name only and, thus, is not the most appropriate party to regard as 
the originating lender for the purposes of the rule. For example, loans 
may be underwritten and processed by a CUSO, but funded by its owner 
credit union. The Board acknowledged that this CUSO model is not 
uncommon within the industry and permissible under Sec.  712.5. For 
purposes of this final rule, it was the Board's intent that the 
originating lender is the entity with which the borrower initially or 
originally contracts for the loan.\31\
---------------------------------------------------------------------------

    \31\ 78 FR 37949-37950 (emphasis added).
---------------------------------------------------------------------------

    As noted above, the Board's responses to commenters in the 2013 
Final Rule regarding the definition of originating lender were limited 
to situations in which a FICU purchased a loan from a CUSO that had 
underwritten the loan. The Board did not discuss the application of the 
definition of originating lender to CUSOs or other entities in the 
context of indirect lending arrangements in which a purchasing FICU 
underwrites the loan and makes the final underwriting decision. 
Accordingly, the application of the definition of originating lender to 
CUSOs or other entities in the context of indirect lending arrangements 
was left unaddressed in the 2013 Final Rule and open to later 
interpretation by the NCUA, which is what it did two years later in the 
2015 Opinion discussed in more detail in the following paragraphs.
    The NCUA has long used the act of underwriting a loan as a feature 
to distinguish between transactions where a FICU makes a loan and 
transactions where a FICU purchases a loan.\32\ In particular, in a 
1997 legal opinion the NCUA explained:
---------------------------------------------------------------------------

    \32\ See, e.g., NCUA Legal Op. 92-1203 (Jan. 5, 1993); NCUA 
Legal Op. 92-1203 (May 11, 1993); NCUA Legal Op. 97-0546 (Aug. 6, 
1997), available at https://ncua.gov/regulation-supervision/legal-opinions; and Sec.  701.23(b)(4)(iv).

    FCUs may participate in indirect lending arrangements under the 
authority to make loans to members, 12 U.S.C. 107(5); 12 CFR 701.21, 
rather than the authority to purchase eligible obligations, 12 
U.S.C. 107(13); 12 CFR 701.23, as long as two conditions are met. 
First, the FCU must make the final underwriting decision. That is, 
before the retailer and the member complete the loan or sales 
contract, the FCU must review the application and determine that the 
transaction conforms to its lending policies. This is because an FCU 
may not delegate its lending authority to a third party. Second, the 
retailer must assign the loan or sales contract to the FCU very soon 
after it is completed. Assignment close in time to the making of the 
loan allows the retailer to function as the facilitator of the loan 
while the FCU remains the true lender. As the time between 
completion and assignment of the loan lengthens, the FCU's payment 
to the retailer becomes the purchase of the loan rather than part of 
the processing of the loan.\33\
---------------------------------------------------------------------------

    \33\ NCUA Legal Op. 97-0546 (emphasis added).

    By requiring the purchasing credit union to make the final 
underwriting decision in an indirect lending transaction, the NCUA 
ensured that the purchasing credit union was not relying on the due 
diligence of the loan seller who might otherwise have had a decreased 
interest in properly underwriting the loan knowing it would later be 
sold. Moreover, under the NCUA's loan participation regulation, the 
originating lender is required to retain at least a 5-percent interest 
in any participation interest for the life of the loan.\34\ 
Accordingly, where an eligible organization makes a loan through an 
indirect lending arrangement there is no greater risk of incentives for 
lax or improper underwriting for purposes of Sec.  701.22 than if the 
eligible organization had processed and funded the loan itself.
---------------------------------------------------------------------------

    \34\ Sec.  701.22(d)(4)(ii) (``The interest that the originating 
lender will retain in the loan to be participated. If the 
originating lender is a federal credit union, the retained interest 
must be at least 10 percent of the outstanding balance of the loan 
through the life of the loan. If the originating lender is any other 
type of eligible organization, the retained interest must be at 
least 5 percent of the outstanding balance of the loan through the 
life of the loan, unless a higher percentage is required under state 
law.'').
---------------------------------------------------------------------------

    Furthermore, as discussed in the 1997 legal opinion quoted above, 
the NCUA has long distinguished between indirect loans, made under 
section 107(5) of the FCU Act and 12 CFR 701.21, and eligible 
obligations purchased under section 107(13) of the FCU Act and 12 CFR 
701.23.\35\ For over 25 years the NCUA has treated indirect loans--as 
defined under current Sec.  701.23(b)(4)(iv)--made by a credit union to 
be separate and distinct from eligible obligations. Accordingly, while 
permitting the sale of participation interests in eligible obligations 
might blur the distinction between loan participations and loan 
purchases and sales and circumvent the purpose of the loan 
participation and eligible obligations rules, allowing the sale of 
participation interests in indirect loans presents no such risk.
---------------------------------------------------------------------------

    \35\ NCUA Legal Op. 97-0546.
---------------------------------------------------------------------------

    Working within the regulatory and interpretative history discussed 
above, the NCUA determined in the 2015 Opinion that an ``eligible 
organization'' \36\ may be considered the ``originating lender'' for 
purposes of Sec.  701.22 where the eligible organization generated the 
loan through an ``indirect

[[Page 80486]]

lending arrangement'' \37\ with a retailer such as an auto dealer.\38\ 
Current Sec.  701.22(a) defines the term ``originating lender'' as 
``the participant with which the borrower initially or originally 
contracts for a loan and who, thereafter or concurrently with the 
funding of the loan, sells participations to other lenders.'' \39\ The 
2015 Opinion explained that, in indirect lending arrangements with a 
retailer such as an auto dealer, the retailer is acting as an agent of 
the eligible organization, and is simply performing as an 
administrative functionary processing a loan for the eligible 
organization, and the retailer's activities are part and parcel of, and 
an extension of, the eligible organization's lending operations. In 
this context, the 2015 Opinion concluded, the retailer is not acting as 
a separate lender generating loans for itself and then selling those 
loans to an eligible organization. Rather, the retailer is a 
facilitator that is part of the eligible organization's loan processing 
mechanism, and the eligible organization is the de facto originating 
lender and, therefore, the originating lender for purposes of the 
NCUA's loan participation rule.
---------------------------------------------------------------------------

    \36\ Id. (providing in relevant part as follows: ``Eligible 
organization means a credit union, credit union organization, or 
financial organization.'').
    \37\ See Sec.  701.23(b)(4)(iv) (``An indirect lending or 
indirect leasing arrangement that is classified as a loan and not 
the purchase of an eligible obligation because the Federal credit 
union makes the final underwriting decision and the sales or lease 
contract is assigned to the Federal credit union very soon after it 
is signed by the member and the dealer or leasing company.'') 
(emphasis added).
    \38\ NCUA Legal Op. 15-0813.
    \39\ Id. (providing in relevant part: ``Originating lender means 
the participant with which the borrower initially or originally 
contracts for a loan and who, thereafter or concurrently with the 
funding of the loan, sells participations to other lenders.'').
---------------------------------------------------------------------------

    The 2015 Opinion explained further that a loan purchased by an 
eligible organization must satisfy two conditions to be classified as 
an ``indirect loan'' and not the purchase of a loan.\40\ First, the 
eligible organization must make the final underwriting decision 
regarding the loan. In other words, a loan must be underwritten by the 
purchasing eligible organization before completion of the loan or sales 
contract.\41\ An eligible organization may use an automated credit 
scoring system to make its final underwriting decision as long as the 
``score'' obtained from the automated system is the sole determinant 
for granting credit.\42\ When an eligible organization establishes the 
qualifying criteria for the automated scoring system, it is effectively 
making an advance decision on a particular application.\43\ So long as 
the party entering the borrower's application information does not 
exercise any judgment regarding that information, the score will be 
deemed to reflect the FCU's lending policies.\44\
---------------------------------------------------------------------------

    \40\ See Sec.  701.22(b)(4)(iv); see also NCUA Legal Op. 15-
0813; and 78 FR 37946, 37949 (explaining that ``a lender `may have a 
decreased interest in properly underwriting a loan if they know they 
can later reduce their risk by selling participation interests in 
it.' '').
    \41\ See id.
    \42\ See NCUA Legal Op. 97-0546.
    \43\ See id.
    \44\ See id.
---------------------------------------------------------------------------

    Second, the sales contract must be assigned to the eligible 
organization very soon after it is signed by the borrower and the 
dealer.\45\ As explained in a separate NCUA legal opinion, assignment 
close in time to the making of the loan allows the retailer to function 
as the facilitator of the loan while the eligible organization remains 
the true lender.\46\ The length of time that satisfies ``very soon 
after'' depends on the nature of the loan and the practical realities 
of assigning certain kinds of loans in the current marketplace and in 
accordance with prevailing industry standards.\47\ While ``very soon 
after'' is generally determined on a case-by-case basis by loan type 
and in accordance with commercial reasonableness, the longer the time 
between the formation of the contract and its assignment, the more 
likely the program will be viewed as involving the purchase of an 
eligible obligation rather than the making of a loan.\48\
---------------------------------------------------------------------------

    \45\ Emphasis added.
    \46\ See NCUA Legal Op. 97-0546.
    \47\ The preamble to the 1998 proposal to amend the eligible 
obligations rule requested public comment on whether the NCUA should 
specify a certain number of days as constituting ``very soon.'' 63 
FR 41976, 41977 (Aug. 6, 1998). After considering the comments, 
however, the NCUA Board determined not to specifically define it 
because it wanted to provide FCUs with flexibility under various 
circumstances. The NCUA Board also clarified that assignment of the 
loan means acceptance of the loan and not necessarily the physical 
receipt of the loan documentation, recognizing that acceptance and 
payment are often done electronically. However, physical receipt of 
the loan documents by the FCU should occur within a reasonable time 
following acceptance of the loan. 63 FR 70997, 70998 (Dec. 23, 
1998); see also NCUA Legal Op. 97-0546 (Aug. 6, 1997) (Concluding 
that an indirect lending arrangement where the retailer made a loan 
and assigned it to the purchasing credit union within one business 
day met the ``very soon after'' timing requirement.).
    \48\ 63 FR 41976, 41977 (Aug. 6, 1998).
---------------------------------------------------------------------------

    The Board believes that codifying the 2015 Opinion will clarify the 
loan participations rule and facilitate further growth in credit 
unions' purchase and sale of indirect loan participations. Industry 
data shows significant growth in credit unions engaging in indirect 
lending programs, which have become an important channel for credit 
unions to extend services to their members and provide a viable source 
of income to support their growth.
    Since 2015, FICUs have experienced large growth in indirect lending 
programs as reflected in Table 1. The $299 billion outstanding balance 
of indirect loans as of June 30, 2022, more than doubled the 2015 year-
end loan balance.\49\
---------------------------------------------------------------------------

    \49\ NCUA call report data for all federal insured credit unions 
from the 4th quarter of 2015 through the 2nd quarter of 2022.
---------------------------------------------------------------------------

    During the past seven years, FICUs' indirect lending activities had 
double-digit increases (ranging from 14 percent to 21 percent) year 
over year between 2016 and 2018, and a low single-digit increase in 
2019 and 2020.\50\ The speed of growth went back to double digits in 
2021, with FICUs reporting an aggregate 16.26 percent increase as of 
June 30, 2022, from year-end 2021.\51\ The share of indirect loans 
outstanding in FICUs' total loan portfolio increased from 17.35 percent 
in 2015 to 21.22 percent in 2018, and reached 21.56 percent as of June 
30, 2022, after maintaining at 20 percent for the past three years.\52\
---------------------------------------------------------------------------

    \50\ NCUA call report data for all federally insured credit 
unions from the 4th quarter of 2015 through the 4th quarter of 2021.
    \51\ NCUA Call Report data for all federally insured credit 
unions from the 4th quarter of 2015 through the 2nd quarter of 2022.
    \52\ Id.
---------------------------------------------------------------------------

    Furthermore, between December 31, 2015, and June 30, 2022, the 
delinquency rate on the indirect lending program was relatively stable, 
ranging from 0.77 percent to 0.47 percent, while the net charge-off 
percent decreased from 0.7 percent in 2017 to 0.24 percent in 2021 and 
0.21 percent in June 2022.\53\
---------------------------------------------------------------------------

    \53\ Id.
    \54\ Id.
    \55\ Period as of June 30, all other periods were as of December 
31.

                                 Table 1--FICU Indirect Lending Activities \54\
----------------------------------------------------------------------------------------------------------------
                                                                                                          2022
         (In $ million)             2015      2016      2017      2018      2019      2020      2021      \55\
----------------------------------------------------------------------------------------------------------------
Total Outstanding Indirect Loans   136,583   165,171   194,016   221,477   228,559   233,161   257,271   299,106
% Year over Year Growth.........  ........     20.93     17.46     14.15      3.20      2.01     10.34     16.26

[[Page 80487]]

 
% Indirect Loans Outstanding/        17.35     19.00     20.27     21.22     20.63     20.05     20.50     21.56
 Total Loans....................
Total Del. Indirect Loans (> =         988     1,264     1,391     1,494     1,513     1,291     1,198     1,537
 60 Days).......................
% Loans Delinquent > = 60 Days/       0.72      0.77      0.72      0.67      0.66      0.55      0.47      0.51
 Total Indirect Loans...........
Net Indirect Loan Charge-Offs...       782       997     1,264     1,318     1,354     1,129       594       288
% Net Charge-Offs/Avg Indirect        0.63      0.66      0.70      0.63      0.60      0.49      0.24      0.21
 Loans..........................
----------------------------------------------------------------------------------------------------------------

    For the reasons discussed previously, and consistent with sections 
107(5) and 107(5)(E) of the FCU Act and the 2015 Opinion, the Board is 
proposing to codify into the NCUA's regulations its interpretation that 
an eligible organization may be considered an ``originating lender'' 
for purposes of Sec.  701.22 where the eligible organization generates 
a loan through an indirect lending arrangement. Moreover, the Board 
proposes to further clarify in the regulation that any ``eligible 
organization''--as that term is defined under Sec.  701.22(a)--that 
acquires a loan through an indirect lending arrangement acts as the 
originating lender for purposes of Sec.  701.22, provided the eligible 
organization made the final underwriting decision regarding making the 
loan and was assigned the loan or sales contract very soon after the 
inception of the obligation to extend credit. In such cases, the Board 
considers the third party processing the loan to be an agent of the 
eligible organization that performs as an administrative functionary 
processing the loan for the eligible organization, and the third 
party's activities are part and parcel, and an extension, of the 
eligible organization's lending operations.
    Where an indirect loan is underwritten by the purchasing eligible 
organization before the loan is made and the loan is transferred to the 
eligible organization very soon after the inception of the obligation 
to extend credit, the Board believes there is little risk the loan will 
not be properly underwritten. Accordingly, proposed Sec.  701.22(a) 
would add to the end of the definition of ``originating lender'' a 
second clarifying sentence providing that originating lender includes a 
participant that acquires a loan through an indirect lending 
arrangement as defined under Sec.  701.21(c)(9). Proposed paragraph 
(c)(9) provides, in part, that indirect lending arrangement means a 
written agreement to purchase loans from the loan originator where the 
purchaser makes the final underwriting decision regarding making the 
loan, and the loan is assigned to the purchaser very soon after the 
inception of the obligation to extend credit.
    The Board specifically requests comment on whether there are 
certain types of transactions that should be excluded from the 
interpretation above. In particular, are there transactions in which 
eligible organizations acquire loans through indirect lending 
arrangements, but the third parties making the loans do not act as 
administrative functionaries processing the loan on behalf of the 
eligible organizations, and the third parties' activities are not part 
and parcel, and an extension, of the eligible organizations' lending 
operations? If there are transactions of this type, please explain why 
they should be excluded and provide information about the transactions 
and the specific activities undertaken by the parties.
    In addition, the Board requests comment on whether there are other 
factors, changes, safety and soundness, or compliance implications the 
NCUA should consider related to the proposed amendments to the 
definition of ``originating lender.'' If there are, please explain them 
in detail and provide supporting data and information. Should the Board 
consider providing additional clarity such as adding some parameters 
around the meaning of ``very soon after'' for the assignment of the 
loan or contract to the credit union? Examples could be within seven 
days of the borrower executing the loan or contract, or assignment 
prior to the first loan payment.
    The Board also invites comments on what it means for the credit 
union to make the final underwriting decision regarding making the loan 
in an indirect lending arrangement. For example, should the Board 
specify in the rule that a credit union in an indirect lending 
arrangement must be involved or consulted at the time of the extension 
of credit? Or, can the credit union simply provide its underwriting 
standards to the other party in the indirect lending arrangement and 
clarify in the indirect lending agreement that only those loans meeting 
the credit union's underwriting standards will be accepted for funding? 
Would a credit union still be making the final underwriting decision if 
a third party includes significantly more underwriting criteria that 
are more restrictive, for example, than the credit union requires?
    Also, should the Board establish an indirect lending rule? And if 
so, what specifically should the Board consider in any future indirect 
lending rulemaking? Should a credit union be considered the originating 
lender in cases where an intermediary is added to a loan transaction 
between the initial party extending credit and a credit union, 
including a third party facilitating the loan transaction? The NCUA 
received several inquiries from the credit union system related to 
CUSOs that work with other lenders to extend credit. The CUSOs in those 
cases then either receive an immediate assignment of the loans and/or 
act as a facilitator in immediately assigning loans further to credit 
unions, where the loans meet the credit unions' underwriting criteria.
    Are there structural, safety and soundness, or compliance concerns 
that would warrant considering that the addition of intermediaries in 
loan origination transactions, including CUSOs, precludes a credit 
union assignee from being considered the originating lender under the 
revised definition in the proposed rule?
    Are there any additional safety and soundness or compliance 
implications concerning the proposed definition of ``originating 
lender'' that the Board should consider?
    Should the Board consider defining the term ``an investment in a 
pool of loans'' in a future rulemaking? If so, how should it be defined 
and why?

Section 701.22(e) Temporary Regulatory Relief in Response to COVID-19

    Current Sec.  701.22(e) provides that notwithstanding paragraph 
(b)(5)(ii) of Sec.  701.22, during the period commencing on April 21, 
2020, and concluding on December 31, 2022, the aggregate amount of loan 
participations that may be purchased from any one originating lender 
shall not exceed the greater of $5,000,000 or 200 percent of the FICU's 
net worth.\56\ The Board approved Sec.  701.22(e) to help ensure that 
FICUs remained operational and had sufficient

[[Page 80488]]

liquidity during the COVID-19 pandemic.\57\ The Board concluded, at the 
time, that the amendments would provide FICUs with the necessary 
flexibility in a manner consistent with the NCUA's responsibility to 
maintain the safety and soundness of the credit union system.\58\ As 
provided in current paragraph (e), the temporary regulatory relief 
provided under the paragraph will expire on December 31, 2022. 
Accordingly, the Board is proposing to remove this paragraph as part of 
any final rule amending Sec.  701.22 issued after December 31, 2022.
---------------------------------------------------------------------------

    \56\ Emphasis added.
    \57\ See 85 FR 22010 (April 21, 2020); 85 FR 83405 (Dec. 22, 
2020) (extending paragraph (e) through Dec. 31, 2021); and 86 FR 
72517 (Dec. 22, 2021) (extending paragraph (e) through Dec. 31, 
2022).
    \58\ 85 FR 22010, 22010 (April 21, 2020).
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    The Board welcomes comments on the impact, if any, that was 
experienced due to the flexibilities provided in the temporary rule. 
Did the temporary rule have any effect on the participation markets? 
Are there any safety and soundness or compliance implications related 
to the expiration of the flexibilities?
    Finally, the Board invites comment on what other recommendations it 
should consider in the loan participation rule. For example, should the 
Board consider replacing prescriptive limits with principles-based 
requirements? Should the Board consider removing the limit on the 
amount of loan participations that could be purchased from any one 
originating lender under current Sec.  701.22(b)(5)(ii)?

Section 701.23 Purchase, Sale, and Pledge of Loans

    As discussed in more detail in this portion of the preamble, this 
proposal would make several changes to current Sec.  701.23 of the 
NCUA's regulations. These changes are intended to clarify numerous 
provisions regarding the purchase, sale, and pledge of eligible 
obligations. The proposal would also amend the NCUA's current 
regulatory requirements under current Sec.  701.23 to provide FCUs 
expanded authority and autonomy to innovate and transact business with 
fintech companies and other institutions that provide services 
associated with the origination and sale of loans made to members of 
FCUs.

Section 701.23 Introductory Paragraph

    The introductory paragraph to current Sec.  701.23 sets forth the 
scope and limitations of the section. The Board added the introductory 
paragraph to Sec.  701.23 as part of the 2013 Final Rule.\59\ The 
introductory paragraph was added to clarify several issues related to 
the scope and applicability of Sec.  701.23. In particular, the 2013 
Final Rule explained in five sentences as follows: The proposal added 
introductory text to Sec.  701.23 to clarify the scope of Sec.  701.23 
and to distinguish transactions under Sec.  701.23 from transactions 
covered by Sec.  701.22. The final rule adopts the additional language 
substantially as proposed, but with some amendments to conform it to a 
2012 final rule promulgated by NCUA eliminating the Regulatory 
Flexibility Program (RegFlex).\60\ The final rule regarding RegFlex 
provides a limited exception to the general requirement that an FCU's 
purchase, sale, or pledge of all or part of a loan must be to one of 
its own members.\61\ Specifically, the exception permits FCUs that meet 
the well capitalized standard to buy loans from other FICUs without 
regard to whether the loans are eligible obligations of the purchasing 
FCU's members or the members of a liquidating credit union. The final 
rule also makes a parallel conforming amendment to the introductory 
text to Sec.  701.22 in this regard.\62\
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    \59\ 78 FR 37946 (June 25, 2013).
    \60\ 77 FR 31981 (May 31, 2012).
    \61\ 12 CFR 701.23(b)(2).
    \62\ 78 FR 37954-37955.
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    The introductory paragraph to current Sec.  701.23 has three 
separate substantive provisions. First, the paragraph provides that the 
section governs an FCU's purchase, sale, or pledge of all or part of a 
loan to one of its own members where no continuing contractual 
obligation is contemplated between the seller and the purchaser. The 
first provision also notes that there is a limited exception to the 
membership requirement for certain well-capitalized FCUs. Second, the 
paragraph elaborates on the membership requirement by providing that 
the borrower must be a member of the purchasing FCU before the purchase 
is made, except as provided in current Sec.  701.23(b)(2). Third, the 
paragraph provides broadly that an FCU may not purchase a non-member 
loan to hold in its portfolio.
    Since amending Sec.  701.23 as part of the 2013 Final Rule, the 
NCUA has received numerous inquiries from NCUA examiners, FCUs, fintech 
companies, and other parties who have expressed confusion about how to 
interpret these provisions. This confusion has led to inconsistent 
reporting of loan interests by FCUs and uncertainty regarding which of 
the two sections, Sec.  701.22 or Sec.  701.23, applies to certain 
transactions, particularly innovative programs that have been designed 
by FICUs after 2013. In addition, the Board is concerned that continued 
confusion about when a borrower is required to be a member under Sec.  
701.23 could discourage FCUs from entering into certain safe and sound 
loan purchase, sale, and pledge agreements that are within their 
statutory authority.
    The clause in the first sentence of the introductory paragraph to 
current Sec.  701.23 that provides ``where no continuing contractual 
obligation between the seller and purchaser is contemplated'' continues 
to be a source of confusion for examiners and the credit union system. 
As mentioned above, in practice loan purchase agreements, regardless of 
whether the transactions involve the purchase of an eligible obligation 
or a loan participation, frequently contain some form of continuing 
contractual obligation between the buyer and the seller, including 
representations and warranties regarding the loans and loan repurchase 
agreements, servicing agreements, and other similar types of ongoing 
obligations. Accordingly, the Board requests comments on deleting the 
continuing contractual obligations clause in current Sec.  701.23. The 
Board intends this potential change to work in conjunction with the 
proposed changes to the introductory paragraph to current Sec.  701.22.
    In the introductory paragraph to Sec.  701.23, the Board is 
considering two other changes in conjunction with amendments made 
elsewhere in this proposal, which are described in more detail below. 
First, the Board requests comments on removing the clause referring to 
the limited exception for well-capitalized FCUs. As discussed in more 
detail below in the part of the preamble on Sec.  701.23(b)(2), the 
Board is proposing to remove the well-capitalized requirements for FCU 
purchases of certain non-member loans from FICUs. Accordingly, the 
Board believes that deleting the clause referring to the limited 
exception for well-capitalized FCUs is a necessary conforming 
amendment.
    Second, the Board is proposing to remove the third sentence in the 
introductory paragraph to current Sec.  701.23 to clarify the broad 
prohibition on holding non-member loans in the portfolio. This 
prohibition appears to have originally been intended to address FCU 
purchases of non-member loans to complete pools of loans for resale, as 
authorized for real estate-secured loans and federally guaranteed 
student loans under current Sec.  701.23(b)(1)(iii) and (iv). The 
prohibition on retaining the non-member loans in portfolio goes 
together with the authority in paragraphs (b)(1)(iii) and (iv) because 
those provisions allow an FCU to buy such

[[Page 80489]]

non-member loans solely to complete a pool of loans for resale.
    Moreover, the second sentence in current Sec.  701.23(b)(1)(iv) 
further confirms this relationship by providing that a pool must 
include a substantial portion of the credit union's members' loans and 
must be sold promptly.\63\ For other purchases of non-member loans 
under current Sec.  701.23, the authority is not tied to a plan or 
requirement to resell the loans being purchased. Prohibiting the FCU 
from retaining the loans in portfolio, as the current wording in the 
undesignated introductory paragraph implies, unnecessarily restricts 
FCUs' authority to purchase and hold non-member loans from FICUs under 
current Sec.  701.23(b)(1)(ii) \64\ and (b)(2). Accordingly, the Board 
requests comment on deleting the third sentence in the introductory 
paragraph to Sec.  701.23, providing that an FCU may not purchase a 
non-member loan to hold in its portfolio.
---------------------------------------------------------------------------

    \63\ Emphasis added.
    \64\ Authorizing FCUs to purchase eligible obligations of a 
liquidating credit union's individual members, from the liquidating 
credit union.
---------------------------------------------------------------------------

    The Board is considering one other change to the introductory 
paragraph. The second paragraph provides that for purchases of eligible 
obligations, except as described in paragraph (b)(2) of the section, 
the borrower must be a member of the purchasing FCU before the purchase 
is made. As discussed above, there are express exceptions to the 
membership requirement under paragraph (b)(1) as well as in paragraph 
(b)(2). For example, paragraphs (b)(1)(iii) and (iv) authorize FCUs to 
buy non-member loans to complete a pool of loans for resale. 
Accordingly, the Board requests comment on amending the second sentence 
in the introductory paragraph to current Sec.  701.23 to provide that 
for purchases of eligible obligations, except as described under 
paragraph (b) of the section, the borrower must be a member of the 
purchasing FCU before the purchase is made.
    If the changes proposed above are adopted in a final rule, the 
introductory text of Sec.  701.23 would provide that the section 
governs an FCU's purchase, sale, or pledge of all or part of a loan to 
one of its own members, subject to certain exceptions. The introductory 
paragraph would provide further that for purchases of eligible 
obligations, except as otherwise described under paragraph (b) of Sec.  
701.23, the borrower must be a member of the purchasing FCU before the 
purchase is made.

Section 701.23(a) Definitions

    The proposed rule would, among other changes discussed below, amend 
current Sec.  701.23(a) to add the heading ``Definitions'' to the 
paragraph and remove the numbering from the individual definitions 
under paragraph (a). This change is intended to avoid errors and 
confusion when definitions in paragraph (a), which may be cross 
referenced elsewhere in the NCUA's regulations, are added or removed. 
Accordingly, the individual definitions included under proposed Sec.  
701.23(a) will be listed in alphabetic order but will not be numbered 
individually.
    Eligible obligation. Proposed Sec.  701.23(a) would amend the 
definition of ``eligible obligation'' to clearly distinguish between an 
eligible obligation and a note held by a liquidating credit union. 
Current Sec.  701.23(a) defines the term eligible obligation broadly to 
mean a loan or group of loans, which includes the notes of a 
liquidating credit union.\65\ As explained in the part of the preamble 
on Sec.  701.23(b)(4), under this proposal the statutory 5-percent 
limitation on the aggregate of the unpaid balance of notes purchased 
under Sec.  701.23 would apply to only notes of liquidating credit 
unions and not to eligible obligations as that term is generally used 
under section 107(13) \66\ of the FCU Act. Accordingly, the proposal 
would amend the current definition of eligible obligation to clarify 
that the term does not include a note held by a liquidating credit 
union.
---------------------------------------------------------------------------

    \65\ See, e.g., Sec. Sec.  701.23(b)(1)(ii), (b)(2)(ii), and 
(b)(4).
    \66\ Section 1757(13) (authorizing FCUs by providing that: [I]n 
accordance with rules and regulations prescribed by the Board, to 
purchase, sell, pledge, or discount or otherwise receive or dispose 
of, in whole or in part, any eligible obligations (as defined by the 
Board) of its members and to purchase from any liquidating credit 
union notes made by individual members of the liquidating credit 
union at such prices as may be agreed upon by the board of directors 
of the liquidating credit union and the board of directors of the 
purchasing credit union, but no purchase may be made under authority 
of this paragraph if, upon the making of that purchase, the 
aggregate of the unpaid balances of notes purchased under authority 
of this paragraph would exceed 5 per centum of the unimpaired 
capital and surplus of the credit union[.]).
---------------------------------------------------------------------------

    The proposal would also amend the definition of ``eligible 
obligation'' to clarify that the term includes a whole loan or part of 
a loan. The NCUA has long held the position that the term eligible 
obligation includes loans, in whole or in part, provided the loan does 
not meet the definition of a loan participation under Sec.  
701.22(a).\67\ The Board believes that the amended definition of an 
eligible obligation would provide clarity and reduce confusion in the 
credit union system concerning when a transaction involving a loan 
purchased in part (partial loan) meets the regulatory definition of an 
eligible obligation. It has come to the Board's attention that many 
credit union officials find the eligible obligations rule unclear, 
specifically when attempting to determine which rule applies to a loan 
purchased in part. The amended definition will allow FCU officials to 
differentiate between a transaction involving a partial loan that meets 
the definition of an eligible obligation under Sec.  701.23 and a 
transaction involving a partial loan that meets the definition of a 
loan participation under Sec.  701.22.
---------------------------------------------------------------------------

    \67\ See 78 FR 37946, 37948 (June 25, 2013) (providing in part: 
``[The introductory paragraph to Sec.  701.22] clarifies that the 
[section] applies to a natural person FICU's purchase of a loan 
participation where the borrower is not a member of that credit 
union. Generally, an FCU's purchase, in whole or in part, of its 
member's loan is covered by NCUA's eligible obligations rule at 
Sec.  701.23.'' The 2013 final rule also notes in FN 2 that there is 
also ``a limited exception for certain well capitalized federal 
credit unions to purchase, subject to certain conditions, non-member 
eligible obligations from a FICU. 12 CFR 701.23(b)(2).''); see also, 
12 U.S.C. 1757(13) (providing in part: An FCU shall have power, ``in 
accordance with rules and regulations prescribed by the Board, to 
purchase, sell, pledge, or discount or otherwise receive or dispose 
of, in whole or in part, any eligible obligations (as defined by the 
Board) of its members.'' (emphasis added)).
---------------------------------------------------------------------------

    Current Sec.  701.22(a) provides that loan participation means a 
loan where one or more eligible organizations participate pursuant to a 
written agreement with the originating lender, and the written 
agreement requires the originating lender's continuing participation 
throughout the life of the loan. For example, if an FCU purchases a 
partial loan that does not meet the definition of loan participation 
under proposed Sec.  701.22(a), then the transaction may still be 
permissible provided it meets the definition of an ``eligible 
obligation'' under proposed Sec.  701.23(a) and meets the requirements 
under that section.
    Finally, the proposal would amend the definition of ``eligible 
obligation'' to remove the words ``group of loans.'' The words are 
redundant because the term eligible obligation is used in its plural 
form, eligible obligations, throughout proposed and current Sec.  
701.23 to indicate where the section authorizes or applies to the 
purchase of one or more loans. The Board believes removing the phrase 
``group of loans,'' in conjunction with the other changes discussed in 
this proposal, will clarify the definition of eligible obligation. 
Accordingly, for all the reasons discussed above, proposed Sec.  
701.23(a) would provide that eligible

[[Page 80490]]

obligation means a whole loan or part of a loan (other than a note held 
by a liquidating credit union) that does not meet the definition of a 
loan participation under Sec.  701.22(a).
    Liquidating credit union. Proposed Sec.  701.23(a) would define the 
term ``liquidating credit union'' to specify the point in time when a 
credit union meets the definition of a liquidating credit union for 
purposes of applying the 5-percent limitation in proposed Sec.  
701.23(b)(4). The term liquidating credit union is used but not defined 
in current Sec.  701.23 because the section does not distinguish 
between eligible obligations and notes of liquidating credit unions for 
purposes of calculating the 5-percent limitation on the aggregate of 
the unpaid balance of loans purchased under current Sec.  701.23(b)(1) 
and (b)(2)(ii). As explained in more detail later in the part of the 
preamble on proposed Sec.  701.23(b)(4), under this proposal, the 5-
percent limitation would apply only to notes purchased from liquidating 
credit unions, making it necessary for the NCUA to specify the point in 
time when a credit union meets the definition of a liquidating credit 
union. Consistent with Congress' use of the broad term ``credit union'' 
in section 107(13) of the FCU Act, the definition of liquidating credit 
union would include both liquidating FICUs and liquidating credit 
unions not insured by the NCUA.\68\
---------------------------------------------------------------------------

    \68\ See Section 1757(13) (providing in relevant part: ``to 
purchase from any liquidating credit union notes made by individual 
members of the liquidating credit union at such prices as may be 
agreed upon by the board of directors of the liquidating credit 
union and the board of directors of the purchasing credit union, but 
no purchase may be made under authority of this paragraph if, upon 
the making of that purchase, the aggregate of the unpaid balances of 
notes purchased under authority of this paragraph would exceed 5 per 
centum of the unimpaired capital and surplus of the credit union;'' 
(emphasis added).).
---------------------------------------------------------------------------

    Accordingly, the Board proposes to define the term liquidating 
credit union as follows: Liquidating credit union means: (1) in the 
case of a voluntary liquidation, a credit union is a liquidating credit 
union as of the date the members vote to approve liquidation; and (2) 
in the case of an involuntary liquidation, a credit union is a 
liquidating credit union as of the date the board of directors is 
served an order of liquidation issued by either the NCUA or the state 
supervisory authority.
    The Board specifically requests comment on whether the Board should 
provide any additional clarity regarding the definitions of the terms 
``eligible obligation'' and ``loan participation.'' If so, what further 
clarification should be provided?
    Also, should the Board consider defining the term ``empowered to 
grant'' in a future rulemaking? Are there any other terms used in Sec.  
701.23 that the Board should consider defining or further clarifying 
through a future rulemaking?

Section 701.23(b) Purchase of Loans

    Current Sec.  701.23(b) would be amended, as discussed in more 
detail later in this preamble, to make certain substantive changes and 
to implement clarifying and conforming changes. Proposed Sec.  
701.23(b) would amend the current paragraph heading to current 
paragraph (b) to clarify which transactions are covered under the 
paragraph. The current heading for paragraph (b) is ``Purchase.'' The 
Board believes that this would result in only a minor technical change 
to current Sec.  701.23(b). The amended rule would only add the two 
words ``of loans'' to the current rule text to better clarify the type 
of eligible obligation transactions for which this section would apply, 
that being the purchase of loans. Accordingly, the paragraph heading 
for proposed Sec.  701.23(b) would be revised to read ``Purchase of 
loans.''

Section 701.23(b)(1)

Section 701.23(b)(1)(ii)

    Current Sec.  701.23(b)(1)(ii) authorizes FCUs to purchase certain 
eligible obligations of a liquidating credit union's individual members 
from the liquidating credit union. As explained previously in the part 
of the preamble on Sec.  701.23(a) regarding the definition of eligible 
obligation, under this proposal, notes of liquidating credit unions 
would no longer be included within the definition of ``eligible 
obligations.'' Accordingly, subject to the 5-percent limitation, this 
proposal would amend current Sec.  701.23(b)(1)(ii) to remove the 
references to eligible obligations and authorize FCUs to purchase notes 
of a liquidating credit union's individual members from the liquidating 
credit union.

Section 701.23(b)(1)(iv)

    The word ``mortgage'' is misspelled in the first sentence of 
current Sec.  701.23(b)(1)(iv). Proposed Sec.  701.23(b)(1)(iv) would 
revise the current rule to correct that misspelling. No substantive 
changes would be made to current paragraph (b)(1)(iv).

Section 701.23(b)(2) Purchase of Obligations From a FICU

    Proposed Sec.  701.23(b)(2) would revise the current rule to remove 
the CAMELS rating requirement and the capital classification 
requirements in the introductory paragraph. Current Sec.  701.23(b)(2) 
provides that an FCU that received a composite CAMELS rating of ``1'' 
or ``2'' for the last two (2) full examinations and maintained a 
capital classification of ``well capitalized'' under part 702 of the 
chapter for the six (6) immediately preceding quarters may purchase and 
hold certain obligations, provided that it would be empowered to grant 
them.
    The Board is proposing to simplify the rule and provide FCUs 
additional authority to purchase loans. This includes removing limits 
on eligible obligations of a credit union's members and removing the 
CAMELS rating and capital classification requirements.
    The CAMELS rating and capital classification requirements were 
added to the NCUA's regulations as part of a 2001 final rule regarding 
the NCUA's RegFlex program.\69\ The 2001 final rule explained, in two 
sentences responding to commenters suggestions that the requirements be 
removed, as follows: The Board continues to believe that CAMEL ratings 
and net worth ratios are the best measures of how well a credit union 
is managed and how much risk it presents to the NCUSIF and the credit 
union system. That is, consistent with safety and soundness concerns, 
credit unions with advanced levels of net worth and consistently strong 
supervisory examination ratings have earned exemptions from certain 
NCUA Regulations.\70\
---------------------------------------------------------------------------

    \69\ 66 FR 58656 (Nov. 23, 2001).
    \70\ 66 FR 58656.
---------------------------------------------------------------------------

    FCUs have generally managed their loan purchase, sale, and pledge 
activity well since the addition of the CAMELS and capital requirements 
and continue to do so. Approximately 10 percent of FCUs were engaged in 
the purchase, sale, or pledge of loans during the first half of 
2022.\71\
---------------------------------------------------------------------------

    \71\ NCUA Call Report data for all FCUs as of the 2nd quarter of 
2022.
---------------------------------------------------------------------------

    Additionally, the Board notes that this purchase authority is 
limited to only purchases from a FICU. Therefore, the loans able to be 
purchased under this authority are already in the credit union system. 
Moving the obligation from one FICU to another FICU generally is not 
expected to result in a significant increase to the Share Insurance 
Fund's risk exposure.
    Further, the current CAMELS and net worth restrictions are only 
applicable to a limited segment of the credit union system given that 
the vast majority of FCUs have a CAMELS composite rating

[[Page 80491]]

of 1 or 2 and are well-capitalized.\72\ Expansion of this authority 
would allow slightly more FCUs to purchase obligations from a FICU, 
potentially creating additional revenue and capital for the purchaser 
and providing an additional outlet for selling FICUs, creating 
additional liquidity channels in the credit union system.
---------------------------------------------------------------------------

    \72\ As of June 30, 2022, 78 percent of FCUs were rated a CAMELS 
composite 1 or 2 and were classified as ``well capitalized.'' These 
FCUs account for 96 percent of total FCU assets. There were only 614 
FCUs with a CAMELS composite rating of 3, 4, or 5, and only 166 FCUs 
not classified as ``well capitalized.''
---------------------------------------------------------------------------

    Lastly, the NCUA believes any increased risk associated with 
removing the CAMELS rating and capital classification requirements in 
current Sec.  701.23 would also be minimized by the addition of the 
proposed principles-based due diligence, risk assessment, and risk 
management requirements.
    Accordingly, the introductory paragraph to proposed Sec.  
701.23(b)(2) would provide that an FCU may purchase and hold certain 
obligations if it would be empowered to grant them.

Section 701.23(b)(2)(ii) Notes of a Liquidating Credit Union

    Current Sec.  701.23(b)(2)(ii) authorizes FCUs to purchase certain 
eligible obligations of a liquidating credit union without regard to 
whether they are obligations of the liquidating credit union's 
individual members. As explained earlier in the part of the preamble on 
Sec.  701.23(a) regarding the definition of eligible obligation, under 
this proposal notes of liquidating credit unions would no longer be 
included within the definition of ``eligible obligation.'' Accordingly, 
this proposal would amend current Sec.  701.23(b)(2)(ii) to remove the 
words ``eligible obligations'' and ``obligations'' and authorize FCUs 
to purchase notes of a liquidating credit union without regard to 
whether they are notes of the liquidating credit union's individual 
members.

Section 701.23(b)(3) Introductory Text and (b)(3)(ii)

    Proposed Sec.  701.23(b)(3)(ii) would revise the current 
requirement that written agreements and schedules of loans be retained 
by the purchaser. Current Sec.  701.23(b)(3)(ii) provides that a 
written agreement and a schedule of the eligible obligations covered by 
the agreement are retained in the purchaser's office. Under the 
proposed rule, the purchasing FCU would still be required to retain the 
written loan purchase agreement and a schedule of the eligible 
obligations covered by the agreement, but the proposal would eliminate 
the requirement for it to be retained in the purchaser's office.
    The Board acknowledges the requirement for the FCU to retain the 
written loan purchase agreement and schedule of the eligible 
obligations in the purchaser's office could imply that the written loan 
purchase agreement and schedule be retained in a hard-copy format, 
which is outdated given the current digital environment. An FCU might 
choose to store its records in electronic format, in the cloud, or 
housed in off-site servers or databases. The Board intends, with this 
proposed change, that the FCU make the written loan purchase agreement 
and schedule of the eligible obligations covered by the agreement 
available upon request.\73\ Credit unions that have some or all of 
their records maintained by an off-site data processor are considered 
to be in compliance for the storage of those records if the service 
agreement specifies the data processor safeguards against the 
simultaneous destruction of production and back-up information.\74\ 
Accordingly, proposed Sec.  701.23(b)(3)(ii) would provide that a 
written agreement and a schedule of the eligible obligations covered by 
the agreement are retained by the purchaser.
---------------------------------------------------------------------------

    \73\ See Sec.  749.2.
    \74\ See appendix A to part 749.
---------------------------------------------------------------------------

    This proposed change would align this requirement with the NCUA's 
regulations and guidelines for FICUs on records preservation programs. 
Under part 749, the NCUA does not require or recommend a particular 
format for record retention. If the credit union stores records on 
microfilm, microfiche, or in an electronic format, the stored records 
must be accurate, reproducible, and accessible to an NCUA examiner.\75\ 
If records are stored on the credit union premises, they should be 
immediately accessible upon the examiner's request; if records are 
stored by a third party or off site, then they should be made available 
to the examiner within a reasonable time after the examiner's request. 
The credit union must maintain the necessary equipment or software to 
permit an examiner to review and reproduce stored records upon request. 
The credit union should also ensure that the reproduction is acceptable 
for submission as evidence in a legal proceeding.\76\
---------------------------------------------------------------------------

    \75\ See 12 CFR 749.5.
    \76\ See generally part 749; and NCUA Legal Op. 07-0812 (Jan. 
2008), available at https://www.ncua.gov/regulation-supervision/legal-opinions/2008/electronic-retention-records.
---------------------------------------------------------------------------

Section 701.23(b)(4)

    This proposal would amend current Sec.  701.23(b)(4), which limits 
the aggregate unpaid balance of certain eligible obligations purchased 
by an FCU to a maximum of 5 percent of the FCU's unimpaired capital and 
surplus. Under this proposed rule, the 5-percent limitation would apply 
solely to notes of a liquidating credit union's members purchased by an 
FCU from the liquidating credit union. As discussed in the following 
paragraphs, the Board has determined this change would remove a 
regulatory limit to the purchase of eligible obligations that the FCU 
Act does not require. The Board believes adequate safety and soundness 
of eligible obligations purchases can be accomplished through 
principles-based regulation rather than a once-size-fits-all 
limitation.
    Section 701.23 provides both the regulatory authority for purchases 
of eligible obligations by an FCU and the limitations. Currently, the 
5-percent limitation applies to eligible obligations purchased by an 
FCU under Sec.  701.23(b)(1) and (b)(2)(ii). In general, paragraph 
(b)(1) authorizes an FCU to purchase (1) eligible obligations of its 
members; (2) eligible obligations of a liquidating credit union's 
members from the liquidating credit union; and (3) student loans and 
real estate-secured loans from any source to facilitate the purchasing 
FCU's packaging of a pool of such loans to be sold or pledged on the 
secondary market. Paragraph (b)(2)(ii), which is on purchases from 
FICUs, authorizes an FCU to purchase the ``eligible obligations of a 
liquidating credit union without regard to whether they are obligations 
of the liquidating credit union's members.''
    The statutory source of the 5-percent limitation is section 107(13) 
of the FCU Act.\77\ Section 107 generally enumerates the powers of 
FCUs, and paragraph (13) authorizes an FCU to make certain loan 
purchases. Specifically, paragraph (13) provides verbatim as follows: 
in accordance with rules and regulations prescribed by the Board, to 
purchase, sell, pledge, or discount or otherwise receive or dispose of, 
in whole or in part, any eligible obligations (as defined by the Board) 
of its members and to purchase from any liquidating credit union notes 
made by individual members of the liquidating credit union at such 
prices as may be agreed upon by the board of directors of the 
liquidating credit union and the board of directors of the purchasing 
credit union, but no purchase may be made under authority

[[Page 80492]]

of this paragraph if, upon the making of that purchase, the aggregate 
of the unpaid balances of notes purchased under authority of this 
paragraph would exceed 5 per centum of the unimpaired capital and 
surplus of the credit union.\78\
---------------------------------------------------------------------------

    \77\ 12 U.S.C. 1757(13).
    \78\ Id. (emphasis added).
---------------------------------------------------------------------------

    Section 107(13) applies to the purchase of two mutually exclusive 
categories of loans--``eligible obligations'' (as that term may be 
defined by the Board) of the purchasing FCU's members and the ``notes'' 
of a liquidating credit union made to the liquidating credit union's 
members. The 5-percent limitation, however, applies solely to the 
second category of loans, that is, the notes of a liquidating credit 
union to its members. The statutory language specifies that ``no 
purchase may be made . . . if, upon the making of that purchase, the 
aggregate of the unpaid balances of notes purchased under authority of 
this paragraph would exceed 5 per centum of the unimpaired capital and 
surplus of the credit union.'' \79\ The 5-percent limitation is 
specific to the ``aggregate unpaid balances of notes'' \80\ purchased 
``under authority of this paragraph'' (that is, paragraph (13) of 
section 107). As italicized in the preceding quotes, the only notes 
authorized to be purchased pursuant to section 107(13) are those of a 
liquidating credit union to its members. Notwithstanding the ambiguity 
introduced by the reference to the entire ``paragraph'' (13) in the 
context of the 5-percent limitation, the following term ``notes'' 
narrows the required scope of its application to purchases from a 
liquidating credit union.
---------------------------------------------------------------------------

    \79\ Emphasis added.
    \80\ Emphasis added.
---------------------------------------------------------------------------

    Despite the statutory wording, the NCUA's implementing regulation 
at 12 CFR 701.23 does not distinguish between eligible obligations and 
notes. Section 107(13) of the FCU Act empowers the NCUA to define the 
term ``eligible obligation.'' The NCUA has exercised this discretion by 
opting to jointly treat notes and other eligible obligations as the 
same type of instrument under its regulations. Both are encompassed in 
the regulatory definition of the term ``eligible obligation,'' which is 
defined to be ``a loan or group of loans.'' \81\ The proposed rule 
would amend current Sec.  701.23 to more closely follow the statutory 
language. Under the proposed rule, the 5-percent limitation would apply 
solely to the purchase by an FCU of the notes made by a liquidating 
credit union to the liquidating credit union's members. The limitation 
would not apply to other loans purchased by an FCU under the authority 
of section 107(13).
---------------------------------------------------------------------------

    \81\ 12 CFR 701.23(a).
---------------------------------------------------------------------------

    The proposed rule would also amend the definition of ``eligible 
obligations'' to reflect the revised scope of the 5-percent limitation. 
Under the proposed rule, the term ``eligible obligation'' would be 
revised to mean ``a whole loan or part of a loan (other than a note 
held by a liquidating credit union) that does not meet the definition 
of a loan participation under Sec.  701.22(a).'' \82\
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    \82\ Under the current definition of ``eligible obligation'', 
there may be instances where the notes of the liquidating credit 
union members are also eligible obligations of the members of the 
purchasing FCU. The 5-percent limitation would apply to these loans 
as they fall within the more specific category of ``eligible 
obligations'' purchased from a liquidating credit union.
---------------------------------------------------------------------------

    The Board acknowledges that the current scope of the 5-percent 
limitation reflects or implies an alternate legal reading of the 
statutory language, which the Board recognizes as a plausible reading. 
The alternate reading hinges on the language providing that ``no 
purchase may be made under authority of this paragraph.'' The term 
``this paragraph'' encompasses paragraph (13) of section 107 in its 
entirety. This reading applies the 5-percent limitation to all 
instruments (eligible obligations and notes) purchased pursuant to 
paragraph (13). The current regulation reflects such an interpretation, 
and the Board has made past statements in support of this reading.\83\ 
This proposed rule constitutes a reconsideration of the NCUA's prior 
position. As noted, the NCUA has determined that the proposed 
regulatory change is more consistent with the language of the FCU Act 
and is more aligned with the different safety and soundness 
considerations with respect to eligible obligations in general and 
notes purchased from a liquidating credit union.
---------------------------------------------------------------------------

    \83\ For example, the preamble to the 1979 final rule 
implementing the NCUA's eligible obligations authority contained the 
following statement: ``The Administration feels that the language of 
Section 107(13) is clear, and that the best interpretation is that 
adopted in the proposed rule'' (that is, the currently codified 
regulatory text). 44 FR 27068, 27070 (May 9, 1979).
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    The proposed reading is better supported by accepted canons of 
statutory construction. The statutory construction canon of 
``consistent usage'' logically presumes that different words denote 
different ideas.\84\ Accordingly, the use of the terms ``eligible 
obligations'' and ``notes'' is intended to distinguish between two 
mutually exclusive categories of loans. Further, the canon holds that 
``a word or phrase is presumed to bear the same meaning throughout a 
text.'' \85\ The use of the word ``notes'' in paragraph 107(13) is 
appropriately interpreted consistently and exclusively to reference 
only notes made by a liquidating credit union to its members.
---------------------------------------------------------------------------

    \84\ Antonin Scalia & Bryan A. Garner, Reading Law: The 
Interpretation of Legal Texts, 148 (2012).
    \85\ Id.
---------------------------------------------------------------------------

    The proposed reading also aligns with the ``surplusage'' canon of 
statutory interpretation. Under this canon, ``every word and every 
provision is to be given effect if possible.'' \86\ ``No word should be 
ignored. None should needlessly be given an interpretation that causes 
it to duplicate another provision or have no consequence.'' \87\ The 
proposed interpretation accounts for language subsequent to ``under 
authority of this paragraph'' that modifies the clause's scope. This 
subsequent language specifies that the prohibition applies only ``if, 
upon the making of that purchase, the aggregate of the unpaid balances 
of notes purchased under authority of this paragraph would exceed 5 per 
centum of the unimpaired capital and surplus of the credit union.'' 
Thus, the limit's application is required only with respect to the 
purchase of ``notes,'' which, as stated previously, is appropriately 
narrowed to solely cover loans made by liquidating credit unions to 
their members. Reading the statute to require application of the 5-
percent limitation to ``eligible obligations'' conflates the terms 
``notes'' and ``eligible obligations,'' despite the different 
terminology Congress enacted. The effect of treating the terms as 
duplicative is to effectively ignore the use of the term ``notes,'' 
which should be separately considered under the surplusage canon.
---------------------------------------------------------------------------

    \86\ Id. at 145.
    \87\ Id.
---------------------------------------------------------------------------

    It also bears noting that the stated rationale for original 
enactment of the 5-percent limitation does not apply to the purchase of 
eligible obligations. The 5-percent limitation language in section 
107(13) of the FCU Act was added by Congress in 1968 and referred 
solely to notes of liquidating credit unions at that time because that 
statute did not refer to purchases of eligible obligations.\88\ That

[[Page 80493]]

language is identical to the current version of the statutory text and 
continues to refer solely to ``notes'' of liquidating credit unions. 
Prior to the amendment, FCUs lacked express statutory authority to 
purchase the loans of liquidating credit unions. As a result, 
liquidating credit unions were hampered in their efforts to dispose of 
their assets to repay their members. The Senate report accompanying the 
legislation explained that the change would ``greatly increase the 
market for the notes of liquidating credit unions and will prevent 
liquidating credit unions from having to go outside the credit union 
movement to liquidate their assets.'' \89\ However, Congress was also 
mindful of the risks that might be posed in purchasing the loans of 
credit unions compelled to liquidate due to poor management 
decisions.\90\ As a result, it opted to limit the ability of an FCU to 
purchase notes of liquidating credit unions to 5 percent of its 
unimpaired capital and surplus.\91\
---------------------------------------------------------------------------

    \88\ Public Law 90-375 (approved July 5, 1968) (Providing that: 
in accordance with rules and regulations prescribed by the Director, 
to purchase from any liquidating credit union notes made by 
individual members of the liquidating credit union at such prices as 
may be agreed upon by the board of directors of the liquidating 
credit union and the board of directors of the purchasing credit 
union, but no purchase may be made under authority of this paragraph 
if, upon the making of that purchase, the aggregate of the unpaid 
balances of notes purchased under authority of this paragraph would 
exceed 5 per centum of the unimpaired capital and surplus of the 
credit union. (emphasis added)).
    \89\ S. Rep. No. 1265, 90th Cong., 2d Sess., at 2 (June 18, 
1968).
    \90\ Statement of J. Deane Gannon, Director, Bureau of Federal 
Credit Unions, Social Security Administration, Department of Health, 
Education and Welfare, FCU Act Amendments, Subcommittee on Financial 
Institutions of the Comm. on Banking and Currency, at 11-12 (May 24, 
1968).
    \91\ H.R. Rep. No. 1372 (May 9, 1968).
---------------------------------------------------------------------------

    The express authority to purchase eligible obligations was later 
added to the text of section 107(13) in 1977.\92\ The legislative 
history from that time shows the amendment was intended to provide FCUs 
with flexibility to use secondary market facilities to enhance 
liquidity, especially in relation to real estate loans.\93\ The 
purchase by an FCU of loans made to its own members is not analogous 
to, and does not pose the same inherent risk that, purchasing the notes 
of a liquidating credit union does. Accordingly, it is reasonable that 
Congress would elect not to mandate a limit on the ability of an FCU to 
make such purchases. This supposition is supported by Congress' 
decision to use the new term ``eligible obligations'' (and in granting 
the NCUA broad authority to define this term), rather than simply 
revising the existing scope of the term ``notes'' to include member 
loans. Further, the legislative history accompanying enactment of the 
1977 amendments does not make any mention of the 5-percent limitation 
being applicable to eligible obligations.
---------------------------------------------------------------------------

    \92\ Public Law 95-22 (approved Apr. 19, 1977).
    \93\ H.R. Rep. No. 95-23, at 16 (Feb. 22, 1977).
---------------------------------------------------------------------------

    The 1977 legislative history in several instances also refers to 
the amendment granting FCUs the ability to purchase the ``notes'' of 
its members. One could infer from this that the term ``eligible 
obligations'' was intended to be read synonymously with ``notes.'' \94\ 
This reading appears at least plausible because the broad category of 
``notes'' could be seen to encompass various debt instruments, 
including notes or written documents evidencing a member's eligible 
obligations. Such a reading, however, is not required and is inferior 
to the interpretation the Board is proposing in this rule for two 
reasons. First, Congress ultimately opted to use the term ``eligible 
obligations'' in the statutory amendment that was enacted. The codified 
text supersedes non-binding statements in the legislative record.\95\ 
Secondly, and as discussed earlier, accepted canons of statutory 
construction favor an interpretation that provides individual terms 
with their own individual meaning.
---------------------------------------------------------------------------

    \94\ See, for example, 123 Cong. Rec. H 1521-32, at H-1524 
(Daily ed. March 1, 1977) (Describing the amendment as providing for 
the ``Purchase and sale of notes of members.''); H.R. Rep. No. 95-
23, at 16 (Feb. 22, 1977) (also describing amendment as pertaining 
to the ``Purchase and sale of notes''); and Statement of C. Austin 
Montgomery, Administrator, National Credit Union Administration 
Before the Subcommittee on Financial Institutions Supervision, 
Regulation and Insurance Committee on Banking, Finance, and Urban 
Affairs, House of Representatives, 95th Cong. 27 (1977) (``Temporary 
liquidity problems experienced by credit unions might be resolved by 
selling or pledging notes'').
    \95\ Scalia & Garner, supra note 7 at 64 (``[T]he purpose must 
be derived from the text, not from extrinsic sources such as 
legislative history or an assumption about the legal drafter's 
desires'').
---------------------------------------------------------------------------

    For the preceding reasons, the NCUA has determined that the 
proposed regulatory change is more consistent with the language of the 
FCU Act. The NCUA also has determined that the amendment will not pose 
a safety and soundness risk due to the addition of principles-based 
risk management requirements. By amending the current rule to narrow 
the application of the 5-percent limitation to the aggregate of the 
unpaid balances of loans purchased from any source to instead apply to 
only the ``notes'' of a liquidating credit union, the Board intends to 
allow FCUs greater capacity, flexibility, and individual autonomy to 
establish their own risk tolerance limits for the amount of the loans 
of its members that can be purchased from any source other than a 
liquidating credit union. This includes other financial institutions, 
fintech companies, third-party loan acquisition channels such as CUSOs, 
and other loan-originating retailers.
    While the narrower interpretation of section 107(13) of the FCU Act 
would remove the existing limit on the amount of eligible obligations 
that an FCU could purchase, establishing risk management expectations 
will minimize potential risk to the Share Insurance Fund while allowing 
FCUs more flexibility in how they manage their eligible obligation 
purchase activities. Proposed new Sec.  701.23(b)(6), which is 
discussed in detail later in the part of the preamble on paragraph 
(b)(6), would outline minimum risk management standards that must be 
included in the written loan purchase policy for any FCU that plans to 
purchase eligible obligations. The Board believes these risk management 
standards should be part of the normal business practices at well-run 
FCUs that engage in the purchase of eligible obligations, and as such, 
should not represent an additional burden. It is the Board's view that 
the proposed changes would allow well-run FCUs more autonomy and 
flexibility in how they conduct their business. Provided the FCU can 
demonstrate and document that its loan purchase activity does not 
present a material risk to the viability or solvency of the FCU through 
the standards established in Sec.  701.23(b)(6), the FCU should be able 
to establish its own internal standards to meet its business needs and 
the needs of its members.
    The proposed rule would amend current Sec.  701.23(b)(4) to remove 
the exclusions provided in paragraphs (b)(4)(i) through (iv) and revise 
the current language to apply the 5-percent limit to only notes 
purchased from liquidating credit unions. While the narrower 
interpretation of section 107(13) of the FCU Act would remove the 
existing restriction on the amount of eligible obligations an FCU could 
purchase, the new risk management requirements will minimize the 
potential increase in risk to the Share Insurance Fund, while allowing 
FCUs more flexibility in how they manage their loan purchase 
activities. Accordingly, proposed Sec.  701.23(b)(4) would provide that 
the aggregate of the unpaid balance of notes purchased under paragraphs 
(b)(1)(ii) and (b)(2)(ii) of Sec.  701.23 shall not exceed 5 percent of 
the unimpaired capital and surplus of the purchaser.
    The Board invites comments concerning the proposed rule narrowing 
the application of the 5-percent limitation to only apply to the 
aggregate amount of ``notes'' that can be purchased by an FCU from a 
liquidating credit union. Should the Board consider defining the term 
``notes'' as used to calculate the 5-percent limitation for the 
aggregate of the unpaid balances of notes an FCU could purchase from a 
liquidating credit union? If so, how should it be defined?

[[Page 80494]]

    Are there additional changes to this rule that the Board should 
consider in the future that would further facilitate credit union 
engagement with fintech companies and other third parties in a safe and 
sound manner?

Section 701.23(b)(5) Grandfathered Purchases

    Proposed Sec.  701.23(b)(5) would amend the current rule to broaden 
the grandfathering provision in current paragraph (b)(5). Current Sec.  
701.23(b)(5) provides that, subject to safety and soundness 
considerations, an FCU may hold any of the loans described in paragraph 
(b)(2) of this section provided it was authorized to purchase the loan 
and purchased the loan before July 2, 2012. The Board believes the 
proposed revisions to the current grandfathering provision would avoid 
placing undue burden on FCUs that were operating in compliance with the 
existing rule and avoid disrupting the existing eligible obligations 
market by forcing widespread divestments of the eligible obligations 
currently held in FCU loan portfolios. While the proposed 
grandfathering provision would allow FCUs to continue to hold eligible 
obligations that were purchased prior to the effective date of this 
rule, it does not exempt FCUs from conducting and updating risk 
assessments, establishing concentration limits, or monitoring the 
ongoing condition of the FCU's eligible obligation loan portfolio.
    Accordingly, proposed Sec.  701.23(b)(5) would provide that, 
subject to safety and soundness considerations, an FCU may hold any of 
the loans described in paragraph (b) of this section that were acquired 
before the effective date of the final rule approved by the Board; 
provided the transaction was in compliance with Sec.  701.23 at the 
time the transaction was executed.

New Sec.  701.23(b)(6)

    The proposal would add a new paragraph (b)(6) to Sec.  701.23, 
which would set forth basic due diligence, risk assessment, and 
management requirements that must be addressed in an FCU's internal 
written purchase policies.\96\ An FCU's board of directors is 
responsible for planning, directing, and controlling the FCU's 
activities. To fulfill these duties, the board of directors must 
establish adequate policies. The introductory paragraph to proposed 
Sec.  701.23(b)(6) would provide that the purchases of eligible 
obligations and notes of liquidating credit unions must comply with the 
purchasing FCU's internal written purchase policies, which must contain 
certain provisions.
---------------------------------------------------------------------------

    \96\ A credit union's written loan purchase policies may be 
incorporated into the written lending policies required under Sec.  
741.3(b)(2).
---------------------------------------------------------------------------

    The specific policy requirements, which are discussed in detail 
below, are part of the basic fiduciary responsibilities and duties 
required of boards of directors.\97\ The requirements in the proposed 
rule address the basic elements necessary to administer a safe and 
sound loan purchase program.
---------------------------------------------------------------------------

    \97\ See Sec. Sec.  701.4(b)(4), 701.21(c)(2), and 741.3(b)(2).
---------------------------------------------------------------------------

    As discussed previously, the Board is proposing that these 
requirements be added to mitigate the risk of removing certain 
regulatory limits on the purchase of loans by FCUs. The new 
requirements proposed under Sec.  701.23(b)(6) are crafted to encourage 
credit discipline and promote safe and sound loan purchase programs, 
which are intended to protect the Share Insurance Fund. These 
requirements continue the Board's long-standing expectations for FCUs 
that purchase loans to appropriately identify and mitigate undue risk, 
while also providing FCUs greater flexibility to establish their own 
risk tolerance limits. These principles eliminate some unintended 
consequences of the prescriptive requirements in current Sec.  
701.23(b)(2) that, in some cases, resulted in FCUs managing their 
lending practices and balance sheets to regulatory restrictions instead 
of broader considerations for safe and sound lending practices.
    The proposed framework would provide credit unions with expanded 
flexibility to develop loan purchase policies that are commensurate 
with the size, scope, type, complexity, and level of risk posed by the 
planned loan purchase activities. The proposed changes are intended to 
provide principles-based requirements that are useful for credit unions 
of any size or complexity to implement the appropriate level of due 
diligence, risk assessment, and management.
    When determining whether to start a loan purchase program and 
developing related written policies, credit unions should consider 
whether the proposed loan purchase activities are consistent with the 
FCU's overall business strategy and risk tolerances, and financial and 
operational capabilities. Loan purchase, sale, or pledge activities 
that are inconsistent with the FCU's risk tolerance levels or beyond 
management's ability to manage can pose material risks to an FCU's 
financial or operational condition.
    The risk management expectations that are outlined in this proposal 
reflect the key components of long-standing supervisory expectations as 
communicated to credit unions through NCUA Letters to Credit Unions 
(LCU), Supervisory Letters, and the Examiner's Guide. The NCUA 
specifically requests comment on the written purchase policy 
requirements being proposed in paragraph (b)(6) of the rule. Are the 
principles-based due diligence, risk assessment, and management 
requirements proposed sufficient to offset the risk associated with 
removing the CAMELS rating and ``well capitalized'' requirements for a 
credit union to purchase and hold eligible obligations from a FICU? Are 
there other principles-based safety and soundness or compliance 
criteria the Board should consider that would mitigate the risk of 
removing certain prescriptive requirements from the rule?

New Sec.  701.23(b)(6)(i)

    Proposed new Sec.  701.23(b)(6)(i) would require FCUs to perform 
due diligence on the seller, and any applicable counterparties, before 
purchasing an eligible obligation. Conducting due diligence on third 
parties is a long-standing expectation for credit unions engaging in 
third-party relationships and when introducing new loan programs and 
products, as noted in NCUA LCU 01-CU-20 (November 2001), NCUA LCU 08-
CU-26 (November 2008), and NCUA LCU 10-CU-03 (March 2010).\98\
---------------------------------------------------------------------------

    \98\ Available at https://ncua.gov/regulation-supervision/letters-credit-unions-other-guidance.
---------------------------------------------------------------------------

    Third-party relationships with credit unions have resulted in 
financial stress due to unexpected costs, legal disputes, and asset 
losses on several occasions. Due diligence reviews are important 
because they assist credit unions in risk identification and mitigation 
when engaging in a new loan program and when partnering with outside 
parties to enhance services to members. Failure to complete adequate 
due diligence can result in the acquisition of loan volumes that exceed 
the board's risk appetite, loan types that go beyond management's 
ability to manage, or loan types or volume that exceed the capabilities 
of current loan processing and management information systems. The use 
of third parties can add complexity and additional risk to a credit 
union's activities and may also expose the credit union to consumer 
compliance and other legal risks. For example, failure to conduct 
adequate due diligence could lead to an FCU entering into agreements 
with a third party that may discontinue services in the future. This 
could lead to disruptions in member service, uncollected payments on 
loans, and potential losses if the third party fails to

[[Page 80495]]

remit funds that are due to the purchasing FCU.
    The responsibility to perform appropriate due diligence remains 
with the FCU's board of directors and management and cannot be 
outsourced. Overreliance on the due diligence information provided by a 
third party without independent review by the FCU's board and 
management could result in unsafe and unsound practices.
    The proposed rule allows FCUs the flexibility to determine the 
level and depth of due diligence reviews that are necessary based on 
the level of risk posed by the loans being purchased and the third-
party relationships. Several factors may be considered when determining 
the appropriate nature of due diligence for third-party loan purchases 
and programs, including:
     the transaction's complexity;
     the purchasing FCU's internal lending policies and 
procedures;
     the transaction's size relative to the FCU's existing loan 
portfolio, concentrations, and net worth level; and
     the purchasing FCU's management and staff expertise 
regarding the types of loans being purchased.
    Additionally, FCUs can take a tiered approach when establishing 
their due diligence processes in their loan purchase policies. For 
example, when conducting background checks the FCU can determine how 
best to assess a third party's business reputation, potential conflicts 
of interest, experience, and compliance with federal and state laws, 
rules, and regulations based on the type of relationship with the third 
party and its risk exposure.
    Accordingly, proposed Sec.  701.23(b)(6)(i) would provide that the 
purchasing FCU's written purchase policy must require that the 
purchasing FCU conduct due diligence on the seller of the loans and 
other counterparties to the transaction prior to the purchase.

New Sec.  701.23(b)(6)(ii)

    Proposed new Sec.  701.23(b)(6)(ii) would require FCUs to establish 
risk assessment and risk management processes for purchase activities. 
Conducting risk assessments and implementing risk management processes 
reflect the NCUA's long-standing expectation that credit unions 
incorporate these activities in relationships with third parties as 
outlined in NCUA LCU 07-CU-13 (April 2008), Evaluating Third-Party 
Relationships; NCUA LCU 22-CU-05 (March 2022), CAMELS Rating System; 
and NCUA Letter to FCUs 02-FCU-09 (March 2002), Risk-Focused 
Examination Program.\99\ The purchase of loans can provide an FCU with 
a wide range of benefits, including achieving strategic loan growth, 
managing liquidity, adjusting risk exposures, and enhancing the 
services provided to members. However, an FCU that starts a new lending 
program, including the purchase or sale of loans, or engages with third 
parties without fully understanding the associated risks, may expose 
itself to credit, interest rate, liquidity, transaction, compliance, 
strategic, or reputation risk. Risk assessments allow credit unions to 
better understand the risk involved in new products and services to 
ensure the board has effective processes in place to control the risk. 
Not understanding these associated risks may result in the FCU 
operating outside of the board's risk appetite and can result in 
elevated risk to the Share Insurance Fund. FCUs are ultimately 
responsible for safeguarding member assets and ensuring sound 
operations.
---------------------------------------------------------------------------

    \99\ Available at https://ncua.gov/regulation-supervision/letters-credit-unions-other-guidance.
---------------------------------------------------------------------------

    Adequate risk management processes include ongoing monitoring and 
oversight of the loan purchase program. This includes formal reporting 
to the board of directors and the FCU's senior management, which will 
ensure the board is able to fulfill its duties. An FCU's management 
reporting should be timely and commensurate with the size, complexity, 
and risk exposure of the FCU. For example, the board of directors 
should be informed when targets are met or exceeded, or limits 
breached. Reports should also consist of appropriate information that 
the board of directors and management could use to make informed 
decisions and take timely corrective action when warranted. For 
effective governance, an FCU's board of directors and management must 
understand the nature and level of risk associated with the FCU's 
purchased loan portfolio and program and receive periodic updates and 
reports on the performance of the purchased loan portfolio.
    The proposed rule provides FCUs the flexibility to tailor their 
risk assessment and management processes to fit within their governance 
framework and other operations, while providing a basic framework to 
follow when developing their initial and ongoing risk assessment and 
management processes. Accordingly, proposed Sec.  701.23(b)(6)(ii) 
would provide that the purchasing FCU's internal written purchase 
policies must establish risk assessment and risk management process 
requirements that are commensurate with the size, scope, type, 
complexity, and level of risk posed by the planned loan purchase 
activities.

New Sec.  701.23(b)(6)(iii)

    Proposed new Sec.  701.23(b)(6)(iii) would require FCUs to 
establish certain internal underwriting and ongoing monitoring 
standards for eligible obligation purchase activities. Underwriting is 
the foundation of lending. Without ensuring that underwriting standards 
are in place that adequately address how to analyze a borrower's 
ability to repay their debt, the board will not be able to fulfill its 
responsibilities for the safety and soundness of the FCU's lending 
activities. By this same logic, the board must also monitor the level 
of credit risk within the credit union's loan portfolio. Changing 
economic conditions at the local, regional, or national level can 
materially impact the likelihood that the credit union's outstanding 
loans are repaid. For example, the closure of a local business that is 
a large employer of the credit union's members could significantly 
change the risk profile of the credit union's loan portfolio. Changing 
levels of credit risk within the FCU's existing loan portfolio 
(including eligible obligations) may necessitate strategic changes or 
mitigating actions. If the level of credit risk begins to exceed the 
board's risk appetite, then risk exposures may need to be adjusted. 
Depending on the circumstances, this could include, but is not limited 
to, restricting the purchase of new eligible obligations, implementing 
more conservative underwriting standards, or potentially divesting 
parts of the existing loan portfolio.
    The FCU's internal policies must address the level of underwriting 
to be performed for the purchase of loans. Underwriting should identify 
all risks that could materially influence the purchasing FCU's decision 
to proceed with a loan purchase. Appropriate underwriting standards 
that adequately address how to analyze a borrower's ability to repay 
their loan and the support provided by collateral are a basic tenet of 
lending and help ensure that the FCU will be repaid, which protects its 
members and the Share Insurance Fund. Without appropriate underwriting 
standards, an FCU will not be able to accurately assess its risk of 
credit loss. Originating or purchasing loans to high credit risk 
borrowers without appropriately understanding and planning for that 
risk can result in unexpectedly high loss rates that negatively impact 
earnings and net worth, which may impair the viability of the credit 
union and pose a risk to the Share Insurance Fund. A lack of

[[Page 80496]]

adequate underwriting standards can also result in adverse risk 
selection, whereby high credit risk borrowers are only able to obtain 
loans from institutions with lax underwriting, resulting in the FCU 
attracting borrowers with a much higher risk of default.
    An FCU engaging in loan purchases should conduct an independent 
credit analysis and assessment of the borrower's creditworthiness and 
ability-to-repay, the support provided by collateral if relied on as 
part of the credit decision, and changes to the risk profile of the 
purchased loans. A purchasing FCU should not rely on the underwriting 
and analysis performed by the seller, or work performed by other third-
party underwriters on behalf of a seller. To do so is an unsafe and 
unsound practice.
    An FCU can leverage its current internal underwriting policies for 
similar loan types when developing its loan purchase policies. 
Performing credit and collateral analysis as if it were the originator 
should result in purchased loans that are consistent with the board of 
director's overall business strategy, risk tolerances, and credit 
quality standards. To the extent a purchasing FCU relies on a third 
party's credit models for credit decisions, the purchasing FCU should 
perform due diligence on the credit model. An FCU is not prohibited 
from relying on a qualified and independent third party to perform 
model validation. However, the purchasing FCU should review the model 
validation to determine if it is sufficient.
    The purchasing FCU's internal loan purchase policies should outline 
and identify the loan types that are acceptable for purchase. For 
example, acceptable loan types could include residential real estate 
(1-4 family or multi-family first lien and/or junior lien), solar 
loans, automobile loans, student loans, unsecured loans, out-of-
territory loans, commercial loans, or government guaranteed loans 
(guaranteed and/or unguaranteed portion).
    The loan purchase policy should address the level and depth of the 
underwriting and analysis that is required for each loan type permitted 
to be purchased based on the specific loan category, type, size, 
complexity, and risk profile of the borrower. The proposed rule allows 
flexibility to establish those parameters, while providing a basic 
framework for FCUs to follow when developing their policies.
    Accordingly, proposed Sec.  701.23(b)(6)(iii) would provide that 
the purchasing FCU's internal written purchase policies must establish 
internal underwriting and ongoing monitoring standards that are 
commensurate with the size, scope, type, complexity, and level of risk 
posed by the loan purchase activities. Proposed paragraph (b)(6)(iii) 
would provide further that underwriting and ongoing monitoring 
standards must address the borrower's creditworthiness and ability to 
repay, and the support provided by collateral if the collateral was 
used as part of the credit decision.

New Sec.  701.23(b)(6)(iv)

    Proposed new Sec.  701.23(b)(6)(iv) would provide that the 
purchasing FCU's internal written purchase policy must require that the 
written purchase agreements include certain language. A well-written 
loan purchase agreement can minimize conflicts between the FCU and 
other parties to the agreement. The Board believes that any written 
loan purchase agreement must clearly delineate the roles, duties, and 
obligations of the seller, the purchasing FCU, servicer, and any other 
parties associated with the agreement, as applicable. The proposed rule 
establishes minimum provisions that any well-written loan purchase 
agreement must address.
    The written loan purchase agreement is a critical component of any 
third-party relationship. In addition to establishing the rights and 
obligations of each party to the loan agreement, it should clearly 
address how the relationship operates. The written loan purchase 
agreement should fully describe the roles and responsibilities of all 
parties to the agreement, including any subcontractors. A well-written 
loan purchase agreement should address dispute resolution, requirements 
for any ongoing credit information if necessary for the loan type, 
remedies upon loan default and bankruptcy, identify which party bears 
the costs of collateral disposition, whether there are recourse 
arrangements for early pay-off, and if there is an obligation for the 
purchasing FCU to make any additional purchases or credit advances.
    The purchasing FCU's board of directors and management should 
understand that it may have limited control over credit decisions for 
loans purchased in part, including limitations on the ability of the 
purchasing FCU to participate in loan modifications, act on defaulted 
loans, or decline to make additional advances if the purchasing FCU 
deems such advances are not prudent in relation to the loan quality. 
The written loan agreement must address these circumstances, and other 
conditions under which the parties to the agreement may replace the 
servicer if services are not performed in accordance with the terms of 
the written loan purchase agreement. The purchasing FCU must also know 
the location and custodian for the original loan documents if the 
original loan documents are not required to be transferred to the 
purchasing FCU as part of the loan purchase transaction. The purchasing 
FCU could be required to provide the original loan documents to various 
parties involved in the administration and collection of the purchased 
loans. The purchasing FCU would therefore need to know where the 
original documents were located and which party to contact should the 
purchasing FCU need to obtain the original loan documents.
    The written loan purchase agreement must, prior to the loan 
purchase transaction, identify the specific loan or loans being 
purchased, and the interest being purchased. A loan purchase 
transaction may involve a single loan or multiple loans, purchased in 
whole or in part. The documentation, for example, can be as simple as 
an addendum or schedule identifying each loan, provided the addendum or 
schedule is incorporated by reference into the loan purchase agreement. 
This provision clarifies in the existing rule that the loan purchase 
transaction involves the purchase of individual loans, and it is not 
the purchase of an investment interest in a pool of loans. Accordingly, 
for all the reasons outlined above, proposed Sec.  701.23(b)(6)(iv) 
would provide that the purchasing FCU's internal written purchase 
policy must require that the written purchase agreement include: the 
specific loans being purchased (either directly in the agreement or 
through a document that is incorporated by reference into the 
agreement); the location and custodian for the original loan documents; 
an explanation of the duties and responsibilities of the seller, 
servicer, and all parties with respect to all aspects of the loans 
being purchased, including servicing, default, foreclosure, collection, 
and other matters involving the ongoing administration of the loans, if 
applicable; and the circumstances and conditions under which the 
parties to the agreement may replace the servicer when the seller 
retains the servicing rights for the loans being purchased, if 
applicable.

New Sec.  701.23(b)(6)(v)

    Proposed new Sec.  701.23(b)(6)(v) would require that FCUs 
establish certain portfolio concentration limits. Excessive 
concentration risk can severely impact the financial condition of an 
FCU. High

[[Page 80497]]

concentrations in areas experiencing economic distress could result in 
significant losses exceeding an FCU's net worth. An FCU's board of 
directors and management have the responsibility to identify, manage, 
monitor, and control the risks facing the FCU, including concentration 
risk. FCU management must know what their concentration risks are and 
be able to demonstrate appropriate risk management and mitigation 
practices to minimize the risk of significant financial condition 
decline. Accordingly, proposed Sec.  701.23(b)(6)(v) would provide that 
a purchasing FCU's internal written purchase policies must establish 
portfolio concentration limits by loan type and risk category in 
relation to net worth that are commensurate with the size, scope, and 
complexity of the credit union's loan purchases. Paragraph (b)(6)(v) 
would provide further that the policy limits must take into account the 
potential impact of loan concentrations on the purchasing credit 
union's earnings, loan loss reserves, and net worth.
    An FCU's loan purchase policy should establish credit underwriting 
and administration requirements that address the risks and 
characteristics unique to the loan types permitted for purchase. An 
FCU's loan purchase policy concentration limits should be considered 
for the aggregate amount of total purchased loans, for each loan type, 
risk factor, or category permitted. For example, concentration limits 
can be set by loan or collateral type but may also be set by associated 
borrower, origination channel, geographic area, or other risk category 
as applicable.
    An FCU's board of directors should establish concentration risk 
limits commensurate with its net worth levels and consider how the 
limits fit into the overall strategic plan of the FCU. When credit 
union loan portfolios are concentrated in a small number of loan 
products that are significantly exposed to similar or correlated risk 
factors, a single event can impact a large portion of the loan 
portfolio and result in elevated losses that, if not managed 
appropriately, can lead to the credit union's failure. Since the year 
2000, more than 50 percent of the NCUA's postmortems and material loss 
reviews have cited concentration risk as a central component of credit 
union failures. An FCU's board of directors should use a comprehensive 
perspective when developing loan purchase concentration policy limits, 
including identifying outside forces (such as economic or housing price 
uncertainty) that would affect the ability to manage concentration 
risk. The parameters set by the board of directors should be specific 
to each portfolio and should include limits on loan types and third-
party relationship exposure, at a minimum. The concentration risk 
limits should correlate to the FCU's overall growth objectives, 
financial targets, and net worth plan. The concentration risk limits 
set forth in the FCU's policy should be closely linked to those 
codified in related policies, including, but not limited to, real 
estate loans, member business loans, asset/liability management (ALM), 
and investment policies. Concentrations that exceed net worth must be 
monitored carefully, and the board of directors should document an 
adequate rationale for undertaking that level of risk.\100\
---------------------------------------------------------------------------

    \100\ See attachment to NCUA Letter to FICUs 10-CU-03 (March 
2010) available at https://www.ncua.gov/files/letters-credit-unions/LCU2010-03Encl.pdf.
---------------------------------------------------------------------------

New Sec.  701.23(b)(6)(vi)

    Proposed new Sec.  701.23(b)(6)(vi) would address when a legal 
review of agreements or contracts would be required. The written loan 
purchase agreement is a critical component of any third-party 
relationship and, as such, the requirement for a legal review is a key 
element in the overall risk mitigation and management process. By 
obtaining legal advice regarding third-party contracts, an FCU can 
ensure its legal and business interests are appropriately protected, 
and the board of directors and management understand the risks, rights, 
and responsibilities of each party to the written loan purchase 
agreement. Accordingly, proposed Sec.  701.23(b)(6)(vi) would provide 
that an FCU's internal written purchase policy must address when a 
legal review of agreements or contracts will be performed to ensure 
that the legal and business interests of the credit union are protected 
against undue risk.
    A legal review of the written loan purchase agreements and 
contracts will help an FCU ensure that the board of directors and 
management understand the rights and responsibilities of each party. 
For example, the review could identify which party bears the costs of 
collateral disposition, whether there are recourse arrangements, or 
whether the agreement includes a commitment for the purchasing FCU to 
make additional loan purchases and describe the interest being 
purchased. A legal review may also reduce a credit union's legal, 
compliance, or reputation risk by ensuring that the written loan 
purchase agreement complies with all applicable state and federal laws.
    Further, an FCU should understand what actions it may take if the 
contract is breached, or services are not performed as expected. For 
example, the legal review could determine if the written loan purchase 
agreements include recourse language that requires a seller to buy back 
loans with missing documents, made outside of policy, or otherwise not 
in conformance with representations and warranties. The written loan 
purchase agreement is a critical component of any third-party 
relationship and, as such, a legal review is a key element in the 
overall risk mitigation and management process.

Section 701.23(c) Sale

    The proposal would make a non-substantive conforming change to 
current Sec.  701.23(c)(1). In addition, the proposal would make 
certain substantive changes to paragraph (c)(2) and add new paragraphs 
(c)(3) and (4), which are discussed in more detail in the following 
paragraphs. No changes would be made in the introductory sentence to 
current Sec.  701.23(c).

Section 701.23(c)(1)

    As required by the changes discussed below, proposed Sec.  
701.23(c)(1) would make a conforming amendment to current Sec.  
701.23(c)(1). The conforming amendment would remove the ``and'' at the 
end of the provision to allow for an additional provision to be added 
under Sec.  701.23(c)(2). No substantive change to this provision is 
intended.

Section 701.23(c)(2)

    The proposal would amend current Sec.  701.23(c)(2) to change the 
retention requirements for the written agreement and schedule of 
eligible obligations sold by an FCU. The Board believes that this would 
result in only a minor technical change to current Sec.  701.23(c)(2). 
Under the proposed rule, the FCU selling the eligible obligations would 
still be required to retain the written loan sales agreement and a 
schedule of the eligible obligations covered by the agreement. The 
Board acknowledges the requirement for the FCU to retain the written 
loan sales agreement and schedule of the eligible obligations in the 
seller's office could imply that the written loan sales agreement and 
schedule be retained in a hard-copy format, which is outdated given the 
current digital environment. An FCU might choose to store its records 
in electronic format, in the cloud, or housed in off-site servers or 
databases.
    This proposed change would align this requirement with the NCUA's 
regulations and guidelines for FICUs on records preservation programs. 
Under

[[Page 80498]]

part 749, the NCUA does not require or recommend a particular format 
for record retention. If the credit union stores records on microfilm, 
microfiche, or in an electronic format, the stored records must be 
accurate, reproducible, and accessible to an NCUA examiner.\101\ If 
records are stored on the credit union premises, they should be 
immediately accessible upon the examiner's request; if records are 
stored by a third party or off site, then they should be made available 
to the examiner within a reasonable time after the examiner's request. 
The credit union must maintain the necessary equipment or software to 
permit an examiner to review and reproduce stored records upon request. 
The credit union should also ensure that the reproduction is acceptable 
for submission as evidence in a legal proceeding.\102\ Accordingly, 
proposed Sec.  701.23(c)(2) would provide that a written agreement, and 
a schedule of the eligible obligations covered by the agreement, is 
retained by the selling credit union that identifies the specific loans 
being sold either directly in the agreement or through a document that 
is incorporated by reference into the agreement.
---------------------------------------------------------------------------

    \101\ See 12 CFR 749.5.
    \102\ See generally part 749; and NCUA Legal Op. 07-0812 (Jan. 
2008), available at https://www.ncua.gov/regulation-supervision/legal-opinions/2008/electronic-retention-records.
---------------------------------------------------------------------------

New Sec.  701.23(c)(3)

    The proposal would add new paragraph (c)(3) to Sec.  701.23 to 
require a legal review of the written agreement to protect the legal 
and business interests of the selling FCU. A legal review of the 
written loan sales agreements and contracts will help an FCU ensure 
that the board of directors and management understand the rights and 
responsibilities of each party. For example, the legal review would 
make clear which party bears the costs of collateral disposition, 
whether there are recourse arrangements, whether the agreement includes 
a commitment for the purchasing credit union to make additional loan 
purchases, and whether it describes the interest being purchased. The 
legal review would also ensure that the written loan sales agreement 
complies with all applicable state and federal laws, helping to 
minimize a credit union's legal, compliance, and reputation risk. The 
legal review should address loan and collateral documentation and 
information that the selling party is required to share with the 
purchasing party, status reports on payments and interest accrual, exit 
strategies, procedures for modifying loan terms, notification of 
adverse loan events, and collection procedures if servicing rights are 
retained by the seller. Further, an FCU should understand what actions 
it may take if the contract is breached or services are not performed 
as expected. The written loan sales agreement is a critical component 
of any third-party relationship and, as such, the requirement for a 
legal review is a key element in the overall risk mitigation and 
management process.
    Accordingly, proposed Sec.  701.23(c)(3) would require a legal 
review of the written agreement is completed that includes the terms, 
recourse, and risk-sharing arrangements, and, as applicable, loan 
administration and controls, to ensure that the selling FCU's legal and 
business interests are protected from undue risks.

Section 701.23(d) Pledge

    The proposed rule would amend current Sec.  701.23(d)(1)(iii) to 
amend the retention requirements for agreements covering eligible 
obligations pledged by an FCU. The Board believes that this would 
result in only a minor technical change to current Sec.  
701.23(d)(1)(iii). Under the proposed rule, the FCU pledging the 
eligible obligations would still be required to retain the written 
agreement covering the pledging arrangement. The Board acknowledges the 
requirement for the FCU that pledges the eligible obligations to retain 
the written agreement in the office could imply that the written 
agreement should be retained in a hard-copy format, which is outdated 
given the current digital environment. An FCU might choose to store its 
records in electronic format, in the cloud, or housed in off-site 
servers or databases. The Board's intent is that the FCU that pledges 
the eligible obligations make the written agreement covering the 
pledging arrangement available upon request.\103\
---------------------------------------------------------------------------

    \103\ See Sec.  749.2.
---------------------------------------------------------------------------

    This proposed change would align this requirement with the NCUA's 
regulations and guidelines for FICUs on records preservation programs. 
Under part 749, the NCUA does not require or recommend a particular 
format for record retention. If the credit union stores records on 
microfilm, microfiche, or in an electronic format, the stored records 
must be accurate, reproducible, and accessible to an NCUA 
examiner.\104\ If records are stored on the credit union premises, they 
should be immediately accessible upon the examiner's request; if 
records are stored by a third party or off site, then they should be 
made available to the examiner within a reasonable time after the 
examiner's request. The credit union must maintain the necessary 
equipment or software to permit an examiner to review and reproduce 
stored records upon request. The credit union should also ensure that 
the reproduction is acceptable for submission as evidence in a legal 
proceeding.\105\
---------------------------------------------------------------------------

    \104\ See 12 CFR 749.5.
    \105\ See generally part 749; and NCUA Legal Op. 07-0812 (Jan. 
2008), available at https://www.ncua.gov/regulation-supervision/legal-opinions/2008/electronic-retention-records.
---------------------------------------------------------------------------

    Accordingly, proposed Sec.  701.23(d)(1)(iii) would require that a 
written agreement covering the pledging arrangement is retained by the 
credit union that pledges the eligible obligations.

Section 701.23(g) Payments and Compensation

    The proposed rule would amend current Sec.  701.23(g) by adding a 
paragraph heading. The Board believes that this would result in only a 
minor technical change to paragraph (g). The amended rule would add the 
three-word descriptive heading ``payments and compensation'' for this 
section of the rule, but does not add any additional requirements or 
make any other changes to this section of this rule. Accordingly, 
proposed Sec.  701.23(g) would have the paragraph heading ``payments 
and compensation.''

Section 701.23(i) Temporary Regulatory Relief in Response to COVID-19

    The proposed rule would not extend the regulatory relief in Sec.  
701.23(i) that the Board approved in April of 2020 in response to 
COVID-19. This temporary relief is set to sunset on December 31, 2022. 
Current paragraph (i) provides that: notwithstanding Sec.  701.23(b), 
during the period commencing on April 21, 2020, and concluding on 
December 31, 2022, an FCU may: purchase, in whole or in part, and 
within the limitations of the board of directors' written purchase 
policies, any eligible obligations pursuant to paragraph (b)(1)(i) and 
(b)(2)(i) without regard to whether they are loans the credit union is 
empowered to grant or are refinancing to ensure the obligations are 
ones the purchasing credit union is empowered to grant; and purchase 
and hold the obligations described in Sec.  701.23(b)(2)(i) through 
(iv) if the FCU's CAMELS composite rating is ``1,'' ``2,'' or 
``3''.\106\
---------------------------------------------------------------------------

    \106\ Emphasis added.
---------------------------------------------------------------------------

    As provided in current paragraph (i), the temporary regulatory 
relief provided under the paragraph expires on December 31, 2022. The 
Board temporarily modified certain regulatory

[[Page 80499]]

requirements to help ensure that FICUs remained operational and liquid 
during the COVID-19 pandemic. The Board concluded, at the time, that 
the amendments would provide FICUs with the necessary flexibility in a 
manner consistent with the NCUA's responsibility to maintain the safety 
and soundness of the credit union system. The Board provided this 
temporary regulatory relief to assist credit unions in navigating the 
national emergency resulting from the COVID-19 pandemic.\107\ Since the 
implementation of temporary regulatory relief, many credit unions have 
generally resumed normal, pre-pandemic operations. The majority of the 
COVID-19 pandemic health mitigation efforts imposed by states as well 
as the federal government have been lifted (non-essential business 
closures, social distancing requirements, and mask mandates).
---------------------------------------------------------------------------

    \107\ See 85 FR 22010 (April 21, 2020).
---------------------------------------------------------------------------

    The expiration date of the temporary final rule was initially 
extended through the close of December 31, 2021, by publishing the 
extension in the Federal Register on December 22, 2020.\108\ Due to the 
continued impact of COVID-19, the Board decided it was necessary to 
further extend the effective period of these temporary modifications 
until December 31, 2022, by publishing the extension in the Federal 
Register on December 22, 2021.\109\ The Board is proposing to remove 
current paragraph (i) from Sec.  701.23 as part of any final rule 
issued after December 31, 2022.
---------------------------------------------------------------------------

    \108\ See Id.
    \109\ 85 FR 22010.
---------------------------------------------------------------------------

B. Part 714--Leasing

Section 714.9 [Removed and Reserved]

    Current Sec.  714.9 provides that the indirect leasing arrangements 
of an FCU are not subject to the eligible obligation limit if they 
satisfy the provisions of Sec.  701.23(b)(3)(iv) that require that FCUs 
make the final underwriting decision and that the lease contract is 
assigned to the FCU very soon after it is signed by the member and the 
dealer or leasing company. The reference in current Sec.  714.9 cites 
to Sec.  701.23(b)(3)(iv), but there is no paragraph (b)(3)(iv) in that 
section. It is clear from the ``eligible obligations limit'' language 
in current Sec.  714.9, however, that the cross citation is intended to 
reference the exclusion from the 5-percent limitation in current Sec.  
701.23(b)(4)(iv). Because this proposal would amend Sec.  701.23(b)(4) 
to remove paragraph (b)(4)(iv) and would no longer apply the 5-percent 
limitation to any purchases of eligible obligations, as explained 
earlier in the preamble, current Sec.  714.9 would be rendered moot by 
this proposal. Accordingly, this proposal would remove the language in 
current Sec.  714.9 and reserve the blank section for future use.
    The Board seeks comments specifically on the placement of the 
definition of indirect leasing arrangement in the NCUA's regulations. 
The proposed definition would apply throughout the NCUA's regulations 
and is being proposed for inclusion in Sec.  701.21 alongside the 
related definition of indirect lending arrangement that the Board is 
proposing to add to new Sec.  701.21(c)(9)(i). The Board requests 
comments on whether stakeholders would find it clearer or more user-
friendly to codify this definition in part 714.

IV. Regulatory Procedures

Regulatory Flexibility Act

    The Regulatory Flexibility Act (RFA) generally requires that, in 
connection with a notice of proposed rulemaking, an agency prepare and 
make available for public comment an initial regulatory flexibility 
analysis that describes the impact of a proposed rule on small 
entities. A regulatory flexibility analysis is not required, however, 
if the agency certifies that the rule will not have a significant 
economic impact on a substantial number of small entities (defined for 
purposes of the RFA to include credit unions with assets less than $100 
million) \110\ and publishes its certification and a short, explanatory 
statement in the Federal Register together with the rule.
---------------------------------------------------------------------------

    \110\ See 80 FR 57512 (Sept. 24, 2015).
---------------------------------------------------------------------------

    The Board fully considered the potential economic impact of the 
proposed changes during the development of the proposed rule. As noted 
in the preamble, the proposed rules would clarify the NCUA's current 
regulations and provide additional flexibilities to FICUs, making it 
easier to take advantage of advanced technologies and opportunities 
offered by the fintech sector.
    The proposed rule would not impose any new significant burden on 
FICUs and may ease some existing requirements. Small FICUs are not 
obligated to buy and sell eligible obligations and loan participations. 
Additionally, while the proposed rule introduces risk management and 
due diligence policy expectations, FICUs have the flexibility to tailor 
required processes and policies to fit within their existing governance 
framework and commensurate with their size and complexity. Accordingly, 
the NCUA certifies that it would not have a significant economic impact 
on a substantial number of small FICUs.

Paperwork Reduction Act

    The Paperwork Reduction Act of 1995 (PRA) applies to rulemakings in 
which an agency by rule creates a new paperwork burden on regulated 
entities or modifies an existing burden.\111\ For purposes of the PRA, 
a paperwork burden may take the form of a reporting, disclosure, or 
recordkeeping requirement, each referred to as an information 
collection. The NCUA may not conduct or sponsor, and the respondent is 
not required to respond to, an information collection unless it 
displays a currently valid Office of Management and Budget (OMB) 
control number.
---------------------------------------------------------------------------

    \111\ 44 U.S.C. 3507(d).
---------------------------------------------------------------------------

    The rule as previously published contains an information collection 
in the form of a written policy requirement and a transaction 
documentation requirement, covered by OMB control numbers 3133-0127 and 
3133-0141. The proposed changes to part 701 would not result in a 
change in burden, and there are no new information collection 
requirements associated with this proposed rule.

Executive Order 13132

    Executive Order 13132 encourages independent regulatory agencies to 
consider the impact of their actions on state and local interests. The 
NCUA, an independent regulatory agency as defined in 44 U.S.C. 3502(5), 
voluntarily complies with the principles of the executive order to 
adhere to fundamental federalism principles. This proposed rule would 
reduce regulatory burdens on, and expand the authority of, federally 
insured credit unions, including federally insured, state-chartered 
natural-person credit unions to purchase certain loans and loan 
participations. It may have, to some degree, a direct effect on the 
states, on the relationship between the National Government and the 
states, or on the distribution of power and responsibilities among the 
various levels of government. It does not, however, rise to the level 
of material impact for purposed of Executive Order 13132.

Assessment of Federal Regulations and Policies on Families

    The NCUA has determined that this proposed rule will not affect 
family well-being within the meaning of section 654 of the Treasury and 
General Government Appropriations Act, 1999,

[[Page 80500]]

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

List of Subjects

12 CFR Part 701

    Advertising, Aged, Civil rights, Credit, Credit unions, Fair 
housing, Individuals with disabilities, Insurance, Marital status 
discrimination, Mortgages, Religious discrimination, Reporting and 
recordkeeping requirements, Sex discrimination, Signs and symbols, 
Surety bonds.

12 CFR Part 714

    Credit unions, Leasing, Reporting and recording keeping 
requirements.

    By the National Credit Union Administration Board on December 
15, 2022.
Melane Conyers-Ausbrooks,
Secretary of the Board.

    For the reasons discussed above, the Board proposes to amend 12 CFR 
parts 701 and 714 as follows:

PART 701--ORGANIZATION AND OPERATION OF FEDERAL CREDIT UNIONS

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

    Authority:  12 U.S.C. 1752(5), 1755, 1756, 1757, 1758, 1759, 
1761a, 1761b, 1766, 1767, 1782, 1784, 1785, 1786, 1787, 1788, 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
2. Amend Sec.  701.21 by adding paragraph (c)(9) to read as follows:


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

* * * * *
    (c) * * *
    (9) Indirect lending and indirect leasing arrangements--(i) 
Definitions. For purposes of this chapter, the following definitions 
apply:
    Indirect leasing arrangement means a written agreement to purchase 
leases from the leasing company where the purchaser makes the final 
underwriting decision, and the lease agreement is assigned to the 
purchaser very soon after it is signed by the member and the leasing 
company.
    Indirect lending arrangement means a written agreement to purchase 
loans from the loan originator where the purchaser makes the final 
underwriting decision regarding making the loan, and the loan is 
assigned to the purchaser very soon after the inception of the 
obligation to extend credit.
    (ii) Indirect lending. A loan acquired pursuant to an indirect 
lending arrangement, and that meets the requirements of this section, 
is classified as a loan and not the purchase of a loan for purposes of 
this chapter.
    (iii) Indirect leasing. A lease acquired pursuant to an indirect 
leasing arrangement, and that meets the requirements of part 714 of 
this chapter, is classified as a lease and not the purchase of a lease 
for purposes of this chapter.
* * * * *
0
3. Amend Sec.  701.22 by:
0
a. Revising the introductory text; and
0
b. Revising the definition of ``Originating lender'' in paragraph (a).
    The revisions read as follows:


Sec.  701.22   Loan participations.

    This section applies only to loan participations as defined in 
paragraph (a) of this section. It does not apply to the purchase of an 
investment interest in a pool of loans. This section establishes the 
requirements a federally insured credit union must satisfy to purchase 
a participation in a loan. Federally insured state-chartered credit 
unions are required by Sec.  741.225 of this chapter to comply with the 
loan participation requirements of this section. This section does not 
apply to corporate credit unions, as that term is defined in Sec.  
704.2 of this chapter.
    (a) * * *
    Originating lender means the participant with which the borrower 
initially or originally contracts for a loan and who, thereafter or 
concurrently with the funding of the loan, sells participations to 
other lenders. Originating lender includes a participant that acquires 
a loan through an indirect lending arrangement as defined under Sec.  
701.21(c)(9).
* * * * *
0
4. Amend Sec.  701.23 by:
0
a. Revising the introductory text, paragraph (a), the heading to 
paragraph (b), and paragraph (b)(1)(ii);
0
b. Removing the word ``mortage'' from the first sentence in paragraph 
(b)(1)(iv) and adding in its place the word ``mortgage'';
0
c. Revising paragraphs (b)(2) introductory text, (b)(2)(ii), 
(b)(3)(ii), and (b)(4) and (5);
0
d. Adding paragraph (b)(6);
0
e. Revising paragraphs (c)(1) and (2);
0
f. Adding paragraph (c)(3);
0
g. Revising paragraph (d)(1)(iii); and
0
h. Adding a heading to paragraph (g).
    The revisions and additions read as follows:


Sec.  701.23   Purchase, sale, and pledge of loans.

    This section governs a Federal credit union's purchase, sale, or 
pledge of all or part of a loan to one of its own members, subject to 
certain exceptions. For purchases of eligible obligations, except as 
otherwise described under paragraph (b) of this section, the borrower 
must be a member of the purchasing Federal credit union before the 
purchase is made.
    (a) Definitions. For purposes of this section:
    Eligible obligation means a whole loan or part of a loan (other 
than a note held by a liquidating credit union) that does not meet the 
definition of a loan participation under Sec.  701.22(a).
    Liquidating credit union means:
    (i) In the case of a voluntary liquidation, a credit union is a 
liquidating credit union as of the date the members vote to approve 
liquidation.
    (ii) In the case of an involuntary liquidation, a credit union is a 
liquidating credit union as of the date the board of directors is 
served an order of liquidation issued by either the NCUA or the state 
supervisory authority.
    Student loan means a loan granted to finance the borrower's 
attendance at an institution of higher education or at a vocational 
school, which is secured by and on which payment of the outstanding 
principal and interest has been deferred in accordance with the 
insurance or guarantee of the Federal Government, of a state 
government, or any agency of either.
    (b) Purchase of loans. (1) * * *
    (ii) Notes of a liquidating credit union's individual members, from 
the liquidating credit union;
* * * * *
    (2) Purchases of obligations from a FICU. A Federal credit union 
may purchase and hold the following obligations, provided that it would 
be empowered to grant them:
* * * * *
    (ii) Notes of a liquidating credit union. Notes of a liquidating 
credit union, without regard to whether they are notes of the 
liquidating credit union's members;
* * * * *
    (3) * * *
    (ii) A written agreement and a schedule of the eligible obligations 
covered by the agreement are retained by the purchaser; and
* * * * *
    (4) The aggregate of the unpaid balance of notes purchased under 
paragraphs (b)(1)(ii) and (b)(2)(ii) of this section shall not exceed 5 
percent of the unimpaired capital and surplus of the purchaser.
    (5) Subject to safety and soundness considerations, a Federal 
credit union

[[Page 80501]]

may hold any of the loans described in paragraph (b) of this section 
that were acquired before [EFFECTIVE DATE OF THE FINAL RULE]; provided 
the transaction was in compliance with this section at the time the 
transaction was executed.
    (6) Purchases of eligible obligations and notes of liquidating 
credit unions must comply with the purchasing Federal credit union's 
internal written purchase policies, which must:
    (i) Require that the purchasing Federal credit union conduct due 
diligence on the seller of the loans and other counterparties to the 
transaction prior to the purchase.
    (ii) Establish risk assessment and risk management process 
requirements that are commensurate with the size, scope, type, 
complexity, and level of risk posed by the planned loan purchase 
activities.
    (iii) Establish internal underwriting and ongoing monitoring 
standards that are commensurate with the size, scope, type, complexity, 
and level of risk posed by the loan purchase activities. Underwriting 
and ongoing monitoring standards must address the borrower's 
creditworthiness and ability to repay, and the support provided by 
collateral if the collateral was used as part of the credit decision.
    (iv) Require that the written purchase agreement include:
    (A) The specific loans being purchased (either directly in the 
agreement or through a document that is incorporated by reference into 
the agreement);
    (B) The location and custodian for the original loan documents;
    (C) An explanation of the duties and responsibilities of the 
seller, servicer, and all parties with respect to all aspects of the 
loans being purchased, including servicing, default, foreclosure, 
collection, and other matters involving the ongoing administration of 
the loans, if applicable; and
    (D) The circumstances and conditions under which the parties to the 
agreement may replace the servicer when the seller retains the 
servicing rights for the loans being purchased, if applicable.
    (v) Establish portfolio concentration limits by loan type and risk 
category in relation to net worth that are commensurate with the size, 
scope, and complexity of the credit union's loan purchases. The policy 
limits must take into account the potential impact of loan 
concentrations on the purchasing credit union's earnings, loan loss 
reserves, and net worth.
    (vi) Address when a legal review of agreements or contracts will be 
performed to ensure that the legal and business interests of the credit 
union are protected against undue risk.
    (c) * * *
    (1) The board of directors or investment committee approves the 
sale;
    (2) A written agreement, and a schedule of the eligible obligations 
covered by the agreement, is retained by the selling credit union that 
identifies the specific loans being sold either directly in the 
agreement or through a document that is incorporated by reference into 
the agreement; and
    (3) A legal review of the written agreement is completed that 
includes the terms, recourse, and risk-sharing arrangements, and, as 
applicable, loan administration and controls, to ensure that the 
selling Federal credit union's legal and business interests are 
protected from undue risks.
    (d) * * *
    (1) * * *
    (iii) A written agreement covering the pledging arrangement is 
retained by the credit union that pledges the eligible obligations.
* * * * *
    (g) Payments and compensation-- * * *
* * * * *

PART 714--LEASING

0
5. The authority citation for part 714 continues to read as follows:

    Authority: 12 U.S.C. 1756, 1757, 1766, 1785, 1789.


Sec.  714.9  [Removed and Reserved]

0
6. Remove and reserve Sec.  714.9.

[FR Doc. 2022-27607 Filed 12-29-22; 8:45 am]
BILLING CODE 7535-01-P