Member Business Loans; Commercial Lending, 37897-37919 [2015-15466]

Agencies

• National Credit Union Administration

[Federal Register Volume 80, Number 126 (Wednesday, July 1, 2015)]
[Proposed Rules]
[Pages 37897-37919]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2015-15466]



[[Page 37897]]

Vol. 80

Wednesday,

No. 126

July 1, 2015

Part V





National Credit Union Administration





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





12 CFR Parts 701, 723, and 741





Member Business Loans; Commercial Lending; Proposed Rule

Federal Register / Vol. 80 , No. 126 / Wednesday, July 1, 2015 / 
Proposed Rules

[[Page 37898]]


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

NATIONAL CREDIT UNION ADMINISTRATION

12 CFR Parts 701, 723, and 741

RIN 3133-AE37


Member Business Loans; Commercial Lending

AGENCY: National Credit Union Administration (NCUA).

ACTION: Proposed rule.

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

SUMMARY:  As part of NCUA's Regulatory Modernization Initiative, the 
NCUA Board (Board) proposes to amend its member business loans (MBL) 
rule to provide federally insured credit unions with greater 
flexibility and individual autonomy in safely and soundly providing 
commercial and business loans to serve their members. The proposed 
amendments would modernize the regulatory requirements that govern 
credit union commercial lending activities by replacing the current 
rule's prescriptive requirements and limitations--such as collateral 
and security requirements, equity requirements, and loan limits--with a 
broad principles-based regulatory approach. As such, the amendments 
would also eliminate the current MBL waiver process, which is 
unnecessary under a principles-based rule. The Board emphasizes that 
the proposed rule represents a change in regulatory approach and 
supervisory expectations for safe and sound lending would change 
accordingly. With adoption of a final rule, NCUA would publish updated 
supervisory guidance to examiners, which would be shared with credit 
unions, to provide more extensive discussion of expectations in 
relation to the revised rule.

DATES: Comments must be received on or before August 31, 2015.

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. 
Follow the instructions for submitting comments.
     NCUA Web site: https://www.ncua.gov/RegulationsOpinionsLaws/proposed_regs/proposed_regs.html. Follow the 
instructions for submitting comments.
     Email: Address to regcomments@ncua.gov. Include ``[Your 
name]--Comments on Proposed Rulemaking for Part 723'' in the email 
subject line.
     Fax: (703) 518-6319. Use the subject line described above 
for email.
     Mail: Address to Gerard S. Poliquin, Secretary of the 
Board, National Credit Union Administration, 1775 Duke Street, 
Alexandria, Virginia 22314-3428.
     Hand Delivery/Courier: Same as mail address.

FOR FURTHER INFORMATION CONTACT:  Vincent Vieten, Member Business Loan 
Program Officer, or Lin Li, Credit Risk Program Officer, Office of 
Examination and Insurance, at the above address or telephone (703) 518-
6360 or Pamela Yu, Senior Staff Attorney, Office of General Counsel, at 
the above address or telephone (703) 518-6540.

SUPPLEMENTARY INFORMATION:

I. Background
    A. Intent and Purpose
    B. Key Changes to the Current MBL Rule
II. Summary of the Proposed Rule
    A. Overview
    B. Key Provisions of the Proposed Rule
    C. Amendments to the Loan Participation Rule
    D. Delayed Implementation
    E. Request for Public Comment
III. Regulatory Procedures
    A. Regulatory Flexibility Act
    B. Paperwork Reduction Act
    C. Executive Order 13132
    D. Assessment of Federal Regulations and Policies on Families

I. Background

    Part 723 of NCUA's regulations defines MBLs, establishes minimum 
standards for making MBLs, and implements various statutory limits 
pursuant to Section 107A of the Federal Credit Union Act (FCU Act).\1\ 
Under the current rule, an MBL is any loan, line of credit, or letter 
of credit, where the proceeds will be used for a commercial, corporate, 
other business investment property or venture, or agricultural 
purpose.\2\ There are several exceptions to this general definition.\3\
---------------------------------------------------------------------------

    \1\ 12 U.S.C. 1757a.
    \2\ 12 CFR 723.1(a).
    \3\ Under the current rule, the following are not member 
business loans: (1) A loan fully secured by a lien on a 1 to 4 
family dwelling that is the member's primary residence; (2) A loan 
fully secured by shares in the credit union making the extension of 
credit or deposits in other financial institutions; (3) Loan(s) to a 
member or an associated member which, when the net member business 
loan balances are added together, are equal to less than $50,000; 
(4) A loan where a federal or state agency (or its political 
subdivision) fully insures repayment, or fully guarantees repayment, 
or provides an advance commitment to purchase in full; or (5) A loan 
granted by a corporate credit union to another credit union. 12 CFR 
723.1(b).
---------------------------------------------------------------------------

    The current rule, however, does not distinguish between commercial 
loans and MBLs. MBLs are defined by the FCU Act and the current MBL 
rule, but commercial loans are not. As a result, the safety and 
soundness risk management requirements contained in the MBL rule have 
not always been consistently applied to commercial loans that are not 
MBLs.

A. Intent and Purpose

    In 2011, Chairman Matz announced NCUA's Regulatory Modernization 
Initiative, consistent with President Obama's Executive Order 13579. 
NCUA remains committed to regulatory modernization, including 
modifying, streamlining, refining, or repealing outdated regulations. 
In addition to making regulatory changes as the need arises, the Board 
has a policy of continually reviewing NCUA's regulations to ``update, 
clarify and simplify existing regulations and eliminate redundant and 
unnecessary provisions.'' \4\ To carry out this policy, NCUA identifies 
one-third of its existing regulations for review each year and provides 
notice of this review so the public may comment. In 2013, NCUA reviewed 
its MBL rule as part of this process. Public comments on the rule 
included general requests for regulatory relief and more flexibility in 
the MBL rule. Specific requests for relief focused on provisions 
regarding the loan-to-value (LTV) ratio requirement, the personal 
guarantee requirement, vehicle lending, and construction and 
development lending. Commenters also requested changes to streamline 
the waiver process. Other commenters broadly called for NCUA to 
eliminate from the MBL rule any prescriptive requirements that are not 
specifically required by the FCU Act.
---------------------------------------------------------------------------

    \4\ NCUA Interpretive Ruling and Policy Statement (IRPS) 87-2, 
Developing and Reviewing Government Regulations, (Sept. 18, 1987), 
as amended by IRPS 03-2 (May 29, 2003) and 13-1 (Jan. 18, 2013).
---------------------------------------------------------------------------

    Credit unions are an important source of credit for small 
businesses, as reflected in the average member business loan balance of 
$217,000, and they continued to lend during the 2008-2009 recession. 
Over the last ten years, credit unions' business loan portfolios have 
experienced significant growth.\5\ Total business loans including 
unfunded commitments at federally insured credit unions grew from $13.4 
billion in 2004 to $51.7 billion in 2014, an annualized growth rate of 
14 percent. Business loans have also become a larger share of credit 
unions' loans and assets. During the same time period, business loans 
outstanding as a percentage of total assets grew from 1.9 percent to 
4.3 percent, and business loans as a percentage of total loans grew 
from 3.0 percent to 6.8 percent. The percentage of credit unions 
offering business loans also increased significantly. Once an ancillary 
product offered by a small number of credit

[[Page 37899]]

unions, business lending is now becoming a core service offered by many 
credit unions as they strive to meet the expanding needs of their small 
business members.
---------------------------------------------------------------------------

    \5\ Unless otherwise specified, all call report based data is as 
of December 31, 2014, and other data (such as CAMEL ratings) is as 
of February 24, 2015.

           Percent of Credit Unions That Offer Business Loans
------------------------------------------------------------------------
             Credit unions with total assets               2004    2014
------------------------------------------------------------------------
Below $100 million......................................      13      21
Between $100 and $500 million...........................      53      77
Greater than $500 million...............................      72      93
Total Throughout Industry...............................      19      36
------------------------------------------------------------------------

    The majority of business loans are held by larger credit unions.

------------------------------------------------------------------------
                                                          2014
                                               -------------------------
                                                   Total      Percent of
        Credit unions with total assets           business      total
                                                 loans  (in    business
                                                 millions)      loans
------------------------------------------------------------------------
Below $100 million............................        1,855           4%
Between $100 and $500 million.................       10,571          20%
Greater than $500 million.....................       39,316          76%
                                               -------------------------
    Total Throughout Industry.................       51,741         100%
------------------------------------------------------------------------

    As the economy has recovered from the recent recession, the 
performance of credit unions' business lending has improved. The 
delinquency and charge-off rates of business loans continue to decrease 
and revert to pre-recession levels. Delinquency and net charge-off 
rates in 2014 dropped to 85bps and 28bps respectively, from 406bps and 
81bps in 2010. For credit unions that have business loans at the end of 
2014, 98 percent are well-capitalized. In addition, a significant 
majority of the credit unions with business loans have strong CAMEL 
ratings. At the end of 2014, 81 percent of credit unions with business 
loans had an overall CAMEL rating of 1 or 2, compared to 69 percent for 
those without business loans. Generally, credit unions have conducted 
business lending safely and served their small business members' needs 
well. However, there have been instances where some credit unions have 
failed to adequately manage the risks of their business lending 
activities and this has led to their failure and, in some cases, losses 
to the National Credit Union Share Insurance Fund. Poorly managed 
business lending activities were a contributing factor in the failure 
of at least five credit unions since 2010. They account for roughly 
$141 million, or 25 percent of total share insurance fund losses over 
the last five years.
    The Board recognizes that credit unions generally have conducted 
business lending safely, and that the supervision process has been 
largely successful in addressing most of those credit unions that did 
not perform as well. Accordingly, to modernize the MBL rule and provide 
reasonable regulatory relief to federally insured credit unions, the 
Board is proposing to alter its overall approach to regulating 
commercial lending, by shifting from a prescriptive rule to a 
principles-based rule. Specifically, the proposed rule eliminates 
detailed collateral criteria and portfolio limits and instead focuses 
on broad yet well-defined principles that clarify regulatory 
expectations for federally insured credit unions engaged in commercial 
lending activities. As discussed further below, the proposed rule also 
distinguishes between the broad commercial lending activities in which 
a credit union is authorized to engage, and the more narrowly defined 
category of MBLs subject to the statutory aggregate limits in the FCU 
Act. The proposed new approach will eliminate some unintended 
consequences of the prescriptive approach, such as causing credit 
unions to manage their lending practices to regulatory restrictions 
instead of focusing on sound risk management practices. The uniform 
regulatory prescriptions also inhibit credit unions from considering 
all relevant risk-mitigating factors in certain borrowing 
relationships. The current waiver process originally was intended to 
address case-by-case situations. However, navigating and administering 
that process requires significant time and resources from both credit 
unions and NCUA, and can lead to delays in acting on the borrower's 
application. There are currently over 1,000 active MBL-related waivers. 
In 2014 alone, NCUA approved 115 MBL waivers.
    The industry has gained valuable experience as the level of 
commercial loan activity has increased and credit unions navigated a 
deep recession. The Board now believes the principles-based regulatory 
approach that is reflected in this proposal is preferable to the 
prescriptive approach in the current rule. Under the proposed approach, 
NCUA supervision will focus on the effectiveness of the credit union's 
risk management process, which will allow credit unions greater 
autonomy and flexibility to soundly administer, underwrite, and service 
commercial loans in a manner that is consistent with regulatory 
objectives and accepted risk management practices. The Board expects 
credit unions to perform the necessary risk assessments to ensure sound 
lending practices. Through sound business lending, credit unions are 
able to manage risk and benefit their members by offering financing 
tailored to members' specific circumstances, needs, and financial 
capacity. For the principles-based regulatory approach to be effective, 
it is essential there be a clear set of supervisory expectations. The 
Board understands that providing more flexibility to credit unions to 
manage their business lending risks must be predicated on the notion 
that credit unions will carefully adhere to sound practices. Moreover, 
the Board believes credit unions should be expressly guided by the 
principle that their business loans will be designed to meet the needs 
of the members while at the same time ensuring credit union capital is 
adequately protected from unnecessary risk. Credit unions that make 
business loans will best meet this standard by ensuring they have the 
right risk management processes and staff to maintain a comprehensive 
understanding of the member-borrower's business operations and 
financial capacity. These processes need to be ongoing for the life of 
the loans. Credit unions that maintain a strong risk management process 
in their commercial lending activities will be more successful 
transitioning from the current rule to the proposed approach. Credit 
unions with less sophisticated processes or a tendency to manage risk 
through strict adherence to regulatory restrictions may need to update 
staff experience and risk management methodologies to safely manage 
business loan portfolios in the future.

B. Key Changes to the Current MBL Rule

    As mentioned above, the proposed rule would significantly alter 
NCUA's overall approach to regulating and supervising credit union 
commercial lending activities. The proposal modernizes the regulatory 
requirements that govern credit union commercial lending by eliminating 
the current rule's prescriptive underwriting criteria and waiver 
requirements in favor of a principles-based approach to regulating 
commercial loans.
    The proposed rule distinguishes between the specific category of 
statutorily defined MBLs and the universe of commercial loans that a 
credit union may extend to a borrower for commercial, industrial, 
agricultural,

[[Page 37900]]

and professional purposes.\6\ Prudent risk assessment is necessary for 
all commercial loans, and this proposal focuses on the principles and 
supervisory expectations for safe and sound commercial lending. The 
proposed rule also adopts a broader, more practical approach to 
ensuring that credit unions have the pertinent staff expertise and 
organizational discipline necessary to support a safe and sound 
commercial loan program. It also reinforces the broad principle that a 
credit union's board of directors is responsible for the credit union's 
commercial loan risk, and that the board must establish adequate 
controls and provide sound governance for the credit union's commercial 
lending program.
---------------------------------------------------------------------------

    \6\ As discussed in further detail below, there are certain 
exceptions to the proposed definition of commercial loan.
---------------------------------------------------------------------------

II. Summary of the Proposed Rule

A. Overview

    The proposed rule would provide federally insured credit unions 
with greater flexibility and individual autonomy in safely and soundly 
making commercial and business loans to meet the needs of their 
membership. The proposed amendments modernize the regulatory 
requirements that govern credit union commercial lending activities by 
replacing the current rule's prescriptive requirements and limitations, 
such as collateral and security requirements, equity requirements, and 
loan limits, with broad principles to govern safe and sound commercial 
lending. The principles are predicated on NCUA's expectation that 
credit unions will maintain prudential risk management practices and 
sufficient capital commensurate with the risks associated with their 
commercial lending activities. The Board emphasizes that the proposed 
rule represents a change in regulatory approach and supervisory 
expectations will change accordingly. NCUA remains committed to 
rigorous and prudential supervision of credit union commercial lending 
activities. Oversight will focus on the effectiveness of the risk 
management process and the aggregate risk profile of the credit union's 
loan portfolio, as opposed to compliance with prescriptive measures. 
Responsible risk management and comprehensive due diligence remain 
crucial to safe and sound commercial lending, and it is expected that 
credit unions subscribe to these overarching principles in 
administering, underwriting, and servicing commercial loans.
    The key provisions of the proposed rule are discussed in more 
detail below.

B. Key Provisions of the Proposed Rule

Sec.  723.1--Purpose and Scope
    Section 723.1 of the proposed rule articulates and summarizes the 
rule's overall purpose. The Board intends for the rule to accomplish 
two broad objectives. First, it establishes policy and program 
responsibilities that a credit union must adopt and implement as part 
of a safe and sound commercial lending program. Second, it incorporates 
the statutory constraints in Section 107A of the FCU Act, which limits 
the aggregate amount of MBLs that a credit union may make to the lesser 
of 1.75 times the actual net worth of the credit union or 1.75 times 
the minimum net worth required under the FCU Act for a credit union to 
be well capitalized.\7\
---------------------------------------------------------------------------

    \7\ 12 U.S.C. 1757a(a).
---------------------------------------------------------------------------

    The Board recognizes that commercial lending is complex and 
involves different risks than consumer lending. Managing those risks 
entails substantially greater effort and attention than merely applying 
a strict limit on the aggregate amount a credit union is allowed to 
invest in MBLs. Accordingly, the proposed rule distinguishes between 
the safety and soundness objectives generally applicable to all loans 
for commercial, industrial, agricultural, and professional purposes and 
the statutory limitations affecting MBLs. The proposed rule is intended 
to clarify that prudential risk management is required for all 
commercial loans.
    Proposed Sec.  723.1 also describes which credit unions and loans 
are covered by Part 723, and which other regulations apply to 
commercial loans. Part 723 applies to commercial and member business 
loans made by federal natural-person credit unions and state-chartered, 
federally insured natural-person credit unions. The rule does not apply 
to (1) loans made by corporate credit unions; (2) loans made by one 
federally insured credit union to another federally insured credit 
union; (3) loans made by a federally insured credit union to a credit 
union service organization (CUSO); (4) loans fully secured by a lien on 
a 1- to 4- family residential property that is the borrower's primary 
residence; (5) any loan fully secured by shares in the credit union 
making the extension of credit or deposits in other financial 
institutions; and (6) any loan(s) to a borrower or an associated 
borrower, the aggregate balance of which is equal to less than $50,000.
    Further, the proposed rule exempts from the requirements of 
proposed Sec.  723.3 and Sec.  723.4 credit unions with both assets 
less than $250 million and total commercial loans less than 15 percent 
of net worth that are not regularly originating and selling or 
participating out commercial loans (qualifying credit unions). 
Accordingly, qualifying credit unions, especially smaller institutions, 
which are only occasionally granting a loan(s) that meets the proposed 
commercial loan definition would be alleviated from the burden of 
having to develop a full commercial loan policy and commercial lending 
organizational infrastructure. The intent is to avoid the inclusion of 
credit unions that infrequently originate minimal amounts of loans that 
technically meet the proposed commercial loan definition, or that 
infrequently reduce their risk profile by selling or participating part 
of their loan portfolio. However, the Board notes that credit unions 
need to have a board approved loan policy covering their lending 
activity in general. Qualifying credit unions would merely need to make 
sure their existing loan policy provides for the types of commercial 
loans granted, including satisfying all the other applicable commercial 
lending requirements in the proposed rule.
    The proposed 15 percent of net worth threshold is consistent with 
the longstanding single-obligor limit common in the credit union and 
banking industries. The Board regards 15 percent as a prudent level for 
exempting credit unions from proposed Sec.  723.3 and Sec.  723.4 and 
it coheres to standard industry practices. The proposed $250 million 
asset threshold is consistent with similar provisions the Board adopted 
in NCUA's derivatives \8\ and liquidity and contingency funding plans 
\9\ regulations. With regard to asset size, the Board is concerned that 
extending this exemption to credit unions over $250 million in assets 
could incentivize some credit unions, regardless of their capacity and 
member business loan needs, to unduly restrict the volume of business 
lending--a vital source of working capital and job creation--to avoid 
higher prudential standards.
---------------------------------------------------------------------------

    \8\ 12 CFR part 703.
    \9\ 12 CFR 741.12.
---------------------------------------------------------------------------

    The Board recognizes that credit unions under $250 million in 
assets have more limited staff and facility resources and are generally 
not engaged in business lending on a material scale. The proposed 
exemption acknowledges that small portfolio exposures coupled with a 
generally inactive business

[[Page 37901]]

lending program do not warrant the adoption of the broader risk 
management standards included in the proposal. Conversely, the Board 
views credit unions that are holding business loans, and that are $250 
million in assets or greater, as having sufficient size and capacity to 
incorporate these common prudential standards into their operations. 
The Board, however, invites comment on whether all credit unions 
maintaining only relatively small amounts of commercial loans should be 
exempt from proposed Sec.  723.3 and Sec.  723.4.
    The other regulations applying to commercial loans, which are 
enumerated in proposed Sec.  723.1(c), are substantively consistent 
with the current MBL rule, with minor changes for clarity.
Sec.  723.2--Definitions
    For clarity and improvement, the proposed rule modifies the current 
rule's definitions of the following terms:

 Associated borrower
 Loan-to-value ratio
 Net worth

    Additionally, the proposed rule includes new definitions for the 
following terms, which are not currently defined in the MBL rule:

 Commercial loan
 Common enterprise
 Controlling interest
 Credit risk rating system
 Direct benefit
 Loan secured by a 1- to 4- family residential property
 Loan secured by a vehicle manufactured for household use
 Readily marketable collateral
 Residential property

    Finally, to improve the readability of the rule, the proposal moves 
two definitions to more relevant sections of the proposed regulation:

 Construction and development loan
 Net member business loan balance

    Each of the modified, new, and moved definitions is discussed in 
more detail below.
i. Modified Definitions
Associated borrower

    The proposed rule replaces the current rule's definition of 
``associated member'' with the term ``associated borrower,'' and 
updates the definition to be more consistent with the combination rules 
applicable to banks.\10\ The proposed definition introduces the 
concepts of direct benefit, common enterprise, and control. This and 
each newly defined term, as discussed below, are also included in the 
definitions section of the proposed rule. Under the proposal, an 
``associated borrower'' is ``any other person or entity with a shared 
ownership, investment, or other pecuniary interest in a business or 
commercial endeavor with the borrower. This means any person or entity 
named as a borrower or debtor in a loan or extension of credit, or any 
other person or entity, such as a drawer, endorser, or guarantor, 
engaged in a common enterprise with the borrower, or deriving a direct 
benefit from the loan to the borrower.''
---------------------------------------------------------------------------

    \10\ 12 CFR 32.5.
---------------------------------------------------------------------------

    As discussed below, for consistency, the associated borrower 
definition in NCUA's loan participation rule is proposed to be amended 
in a parallel manner.\11\
---------------------------------------------------------------------------

    \11\ 12 CFR 701.22(a).

---------------------------------------------------------------------------
Loan-to-value ratio

    The proposed rule modifies the current definition of ``loan-to-
value ratio'' (LTV) to clarify how this ratio should be calculated. 
Specifically, in calculating an LTV ratio, a credit union must include 
in the numerator all outstanding loan balances plus any unfunded 
commitments secured by the collateral, including those from other 
lenders that are senior to the credit union's lien position. 
Outstanding exposures from other lenders that are subordinated to the 
credit union's lien position do not need to be included in the LTV 
calculation. However, the risk assessment performed by the credit union 
should evaluate the impact on the borrower's cash flow all outstanding 
debt owed by the borrower in determining the borrower's ability to 
sufficiently meet all obligations. In addition, the presence of 
subordinate financing can have an impact on actions taken by the credit 
union if it has to exercise its rights to the collateral. The credit 
union should limit the amount of subordinate financing the borrower may 
obtain and require an equity investment by the borrower that is 
commensurate to the risk. This strengthens the credit union's position 
and also achieves a more meaningful risk sharing arrangement with its 
borrower.
    In addition, the proposed definition clarifies that the denominator 
of the LTV ratio is the market value for collateral held longer than 12 
months, and the lesser of the purchase price and the market value for 
collateral held 12 months or less. The Board intends this clarification 
to ensure that credit unions have appropriate collateral protection in 
the event that the appraisal value is inflated or the borrower overpays 
for the purchased collateral. Market value is defined in part 722 of 
NCUA's regulations for real estate. For other assets, the Board expects 
credit unions to use prudent and appropriate valuation methods aligned 
with commercial lending practices that will result in a reliable and 
accurate collateral value.

Net worth

    For consistency, the proposed definition of ``net worth'' provides 
a cross reference to NCUA's prompt corrective action and risk-based 
capital rules in part 702, which more fully address the methodology for 
determining a credit union's net worth.
ii. New Definitions
Commercial loan

    The Board is proposing to add a new definition to distinguish 
between the commercial lending activities in which a credit union may 
engage, and the statutorily defined MBLs, which are subject to the 
aggregate MBL cap contained in the FCU Act.\12\ The Board emphasizes 
that all commercial loans, whether MBLs or not, are subject to the 
safety and soundness requirements provided in Sec.  723.3 through Sec.  
723.7 of the proposed rule, unless the credit union is exempt from some 
of these provisions as provided in proposed Sec.  723.1. Only MBLs are 
subject to the statutory limits on the aggregate amount of MBLs that 
may be held by a credit union, per Sec.  723.8 of the proposed rule.
---------------------------------------------------------------------------

    \12\ 12 U.S.C. 1757a.
---------------------------------------------------------------------------

    The proposed rule generally defines a ``commercial loan'' as any 
credit a credit union extends to a borrower for commercial, industrial, 
agricultural, and professional purposes, with several exceptions. 
Specifically, the proposed definition expressly specifies that the 
following loans are not commercial loans: (1) Loans made by a corporate 
credit union; (2) loans made by a federally insured credit union to 
another federally insured credit union; (3) loans made by a federally 
insured credit union to a credit union service organization; (4) loans 
secured by a 1- to 4- family residential property (whether or not it is 
the borrower's primary residence); (5) loans secured by a vehicle 
manufactured for household use; (6) any loan fully secured by shares in 
the credit union making the extension of credit or deposits in other 
financial institutions; and (7) any loan(s) to a borrower or an 
associated borrower, the aggregate balance of which is equal to less 
than $50,000.
    Loans by corporate credit unions and loans to other insured credit 
unions are excluded from the definition because

[[Page 37902]]

these loans possess characteristics that are distinct from the types of 
commercial loans that the proposal's safety and soundness provisions 
are intended to address. Loans to CUSOs are excluded from the 
definition because loans to CUSOs, up to 1 percent of the paid-in and 
unimpaired capital and surplus of the credit union, are authorized and 
governed by a provision of the FCU Act not related to MBLs.\13\
---------------------------------------------------------------------------

    \13\ See 12 U.S.C. 1757(5)(D).
---------------------------------------------------------------------------

    Loans secured by a 1- to 4-family residential property, whether or 
not it is the borrower's primary residence (i.e., owner or non-owner 
occupied), are excluded from the commercial loan definition. However, 
the Board notes that loans secured by non-owner occupied 1- to 4-family 
residential properties have risk characteristics that are more similar 
to commercial real estate loans than those of owner-occupied 1- to 4- 
family residential loans. Credit unions should have credit risk 
management policies and processes suitable for the risks specific to 
this type of lending. Underwriting standards and the complexity of risk 
analysis should increase as the number of properties financed for a 
borrower and associated borrowers increases. When a borrower finances 
multiple properties and the repayment of the loan is dependent on the 
successful operation of the multiple residential rental units, a 
comprehensive global cash-flow analysis of the borrower and principal 
is generally necessary to properly underwrite and administer the credit 
relationship. In such cases, credit unions should analyze and 
administer the relationship on a consolidated basis.
    The proposed definition also excludes loans secured by a vehicle 
generally manufactured for personal, family, and household use. As 
discussed in more detail below, however, loans for the purchase of 
fleet vehicles or to carry fare-paying passengers are commercial loans. 
In addition, a loan to a vehicle dealership or seller to replenish its 
regular inventory of vehicles for sale (i.e., a so-called ``floor plan 
loan'' or ``vehicle inventory loan'') is included in the definition of 
commercial loan.
    The Board emphasizes that there are several distinctions between a 
commercial loan and a statutorily defined MBL, whether directly offered 
by the credit union or purchased as a loan participation. These 
distinctions are also discussed in more detail below, relative to 
proposed Sec.  723.8, which addresses the statutory MBL limits.
    There are a two types of commercial loans that are subject to the 
proposed rule's safety and soundness provisions, but are not MBLs and 
do not count toward the aggregate MBL limit. Any commercial, 
industrial, agricultural, or professional loan in which a federal or 
state agency (or its political subdivision) has committed to fully 
insure repayment, fully guarantee payment, or provide an advance 
commitment to purchase the loan in full is a commercial loan but not an 
MBL. Defining these as commercial loans is intended to ensure the 
credit union has the requisite expertise and risk management systems to 
meet the requirements to maintain the government guarantee or 
commitment to purchase. Also, any non-member loan or non-member 
participation interest in a commercial, industrial, agricultural, or 
professional loan is a commercial loan but generally not an MBL.\14\ 
Although these loans are not MBLs because they are loans to non-
members, they are still commercial loans and thus fall within the 
rule's definition and must follow the same risk management practices.
---------------------------------------------------------------------------

    \14\ Proposed Sec.  723.8(b)(4) stipulates, however, that for 
the exclusion to apply, a credit union must acquire the non-member 
loan or non-member participation interest in compliance with 
applicable laws and regulations and it must not be swapping or 
trading MBLs with other credit unions to circumvent the limit.
---------------------------------------------------------------------------

    There are two types of loans that are not commercial loans subject 
to the proposed safety and soundness provisions but they are MBLs and 
thus, must be counted against the credit union's net member business 
loan balance. Specifically, loans secured by a 1- to 4-family 
residential property that is not the borrower's primary residence,\15\ 
and loans secured by a vehicle manufactured for household use that will 
be used for a commercial purpose are generally not commercial loans, 
but they are MBLs.
---------------------------------------------------------------------------

    \15\ Any loan fully secured by a 1- to 4-family residential 
property that is the borrower's primary residence is neither a 
commercial loan nor an MBL.

---------------------------------------------------------------------------
Common enterprise

    As discussed in greater detail above, the proposed definition of 
``associated borrower'' includes any other person or entity with a 
shared ownership, investment, or other pecuniary interest in a business 
or commercial endeavor with the borrower, including any person or 
entity engaged in a common enterprise with the borrower.
    Under the proposed rule, a ``common enterprise'' exists and loans 
to separate borrowers will be aggregated when (1) the expected source 
of repayment for each loan or extension of credit is the same for each 
borrower and no individual borrower has another source of income from 
which the loan (together with the borrower's other obligations) may be 
fully repaid; or (2) when loans are extensions of credit made to 
borrowers who are related directly or indirectly through common control 
(including where one borrower is directly or indirectly controlled by 
another borrower) and substantial financial interdependence exists 
between or among the borrowers; or (3) when separate borrowers obtain 
loans or extensions of credit to acquire a business enterprise of which 
those borrowers will own more than 50 percent of the voting securities 
or voting interests.
    For purposes of the rule, substantial financial interdependence 
means 50 percent or more of one borrower's gross receipts or gross 
expenditures (on an annual basis) are derived from transactions with 
another borrower. Gross receipts and expenditures include gross 
revenues or expenses, intercompany loans, dividends, capital 
contributions, and similar receipts or payments. In addition, an 
employer will not be treated as a source of repayment because of wages 
and salaries paid to an employee, unless the standards described above 
in (2) are met.

Control

    As discussed above, ``control'' is another element of the proposed 
definition of ``associated borrower'' in the proposed rule. Control 
exists when a person or entity directly or indirectly, or acting 
through or together with one or more persons or entities: (1) Owns, 
controls, or has the power to vote 25 percent or more of any class of 
voting securities of another person or entity; (2) controls, in any 
manner, the election of a majority of the directors, trustees, or other 
persons exercising similar functions of another person or entity; or 
(3) has the power to exercise a controlling influence over the 
management or policies of another person or entity.

Credit risk rating system

    The proposed rule defines ``credit risk rating system'' as a formal 
process to identify and measure risk through the assignment of risk 
ratings. Assigning credit risk ratings, also referred to as credit risk 
grades, is the standard and accepted practice by commercial lenders and 
other regulators for establishing the level of risk associated with a 
commercial loan and the overall commercial loan portfolio. An effective 
credit risk rating system assigns risk ratings to commercial loans at 
inception. The ratings are reviewed and confirmed as frequently as 
necessary during the life of the loan to satisfy the credit union's 
risk monitoring and reporting policies. The risk ratings must

[[Page 37903]]

be supported by comprehensive analysis and have sufficient granularity 
to differentiate the level of credit risk associated with each 
borrower. The construct of a risk rating system usually consists of 
both quantitative and qualitative risk factors. Quantitative risk 
factors may include the borrower's financial condition, size, 
collateral, and guarantees. Qualitative risk factors may include, but 
are not limited to, the ability and integrity of the borrower's 
management, operation, and changes in the economy and industry. The 
Board believes that an effective, accurate, and timely risk rating 
system is the foundation of sound credit risk management for commercial 
loans. It allows credit union management to assess credit quality, 
identify problem loans, monitor risk performance, and manage the risk 
within its commercial portfolio. A well-managed risk rating system also 
assists the credit union's board of directors, auditors, and NCUA in 
monitoring and assessing the overall health of the credit union's 
commercial loan portfolio and the effectiveness of the credit union's 
management.\16\
---------------------------------------------------------------------------

    \16\ NCUA Letter to Credit Unions 10-CU-02, Current Risks in 
Business Lending and Sound Risk Management Practices. (Jan. 2010) 
(citing the Office of Comptroller of the Currency, Comptroller's 
Handbook, Rating Credit Risk (April 2001); NCUA Accounting Bulletin 
06-01, Attachment 1 (Dec. 2006).

---------------------------------------------------------------------------
Direct benefit

    Under the proposal, ``direct benefit'' is a concept included in the 
amended definition of ``associated borrower,'' which is discussed 
above. Direct benefit means the proceeds of a loan or extension of 
credit to a borrower, or assets purchased with those proceeds, that are 
transferred to another person or entity, other than in a bona fide 
arm's length transaction where the proceeds are used to acquire 
property, goods, or services.

Loan secured by a 1- to 4-family residential property

    Under the proposed rule, a ``loan secured by a 1- to 4-family 
residential property'' means any loan secured wholly or substantively 
by a lien on a 1- to 4-family residential property for which the lien 
is central to the extension of credit. A lien is considered central to 
the extension of credit if the borrower would not have been extended 
credit in the same amount or on as favorable terms without the lien. 
The proposed definition is intended to clarify that loans secured by a 
1- to 4-family residential property are not commercial loans for the 
purposes of the rule.

Loan secured by a vehicle manufactured for household use

    Loans secured wholly or substantively by a vehicle manufactured for 
household use for which the lien is central to the extension of credit 
are generally not commercial loans for the purposes of the rule. Under 
the proposed rule, ``vehicle manufactured for household use'' means new 
and used passenger cars and other vehicles such as minivans, sport-
utility vehicles, pickup trucks, and similar light trucks or heavy duty 
trucks generally manufactured for personal, family, or household use 
and not used as fleet vehicles or to carry fare-paying passengers. In 
other words, loans for the purchase of fleet vehicles or to carry fare-
paying passengers are commercial loans. For the purposes of the rule, a 
``fleet'' means five or more vehicles that are centrally controlled and 
used for a business purpose, including for the purpose of transporting 
persons or property for commission or hire.\17\
---------------------------------------------------------------------------

    \17\ OGC Op. 12-0764 (Sept. 13, 2012).

---------------------------------------------------------------------------
Readily marketable collateral

    The Board proposes to add the term ``readily marketable 
collateral'' to the rule to clarify the proposed collateral 
requirements. The proposed rule defines this term as a financial 
instrument or bullion that is salable under ordinary market conditions 
with reasonable promptness at a fair market value determined by 
quotations based upon actual transactions on an auction or similarly 
available daily bid and ask price market.

Residential property

    Under the proposed rule, ``residential property'' is defined as a 
house, condominium, cooperative unit, manufactured home, and unimproved 
land zoned for 1- to 4-family residential use. The Board proposes to 
add this definition to the rule to clarify that loans secured by a 1- 
to 4-family residential property are excluded from the definition of 
commercial loan.\18\
---------------------------------------------------------------------------

    \18\ However, loans secured by a 1- to 4-family residential 
property that is not the borrower's primary residence are MBLs. 
Loans fully secured by a 1- to 4-family residential property that is 
the borrower's primary residence are neither commercial loans nor 
MBLs.

iii. Definitions Moved to a Different Section
Construction and development loan

    To improve the readability of the rule, the Board proposes to move 
the current definition of ``construction and development loan'' to 
proposed Sec.  723.6. The Board believes it is more intuitive for 
readers for the definition to be included in that section of the rule 
because that is the section that addresses all of the requirements for 
construction and development loans.
    As discussed in more detail below, the proposed definition of 
``construction and development loan'' draws a distinction between 
construction for an income-producing property and for a commercial 
property. This distinction is necessary to establish the appropriate 
prospective market value and the financing period. In addition, the 
examples in the current rule have been eliminated because the proposed 
rule simplifies the definition of construction and development loans.

Net member business loan balance

    The definition of ``net member business loan balance'' also remains 
substantively the same as in the current rule; however, it is moved 
from current Sec.  723.21 to proposed Sec.  723.8, which addresses the 
statutory limits on the aggregate amount of member business loans that 
may be held by a credit union. Proposed Sec.  723.8 is discussed in 
greater detail below. It is more intuitive for readers for this 
definition to be included in Sec.  723.8 because that is the section 
that addresses the method for calculating a credit union's net member 
business loan balance for purposes of compliance with the statutory cap 
and NCUA form 5300 reporting.
Sec.  723.3--Board of Directors and Management Responsibilities
    The requirements in proposed Sec.  723.3 address the overall 
elements necessary to administer a safe and sound commercial loan 
program. Proposed Sec.  723.3 reinforces the NCUA Board's expectation 
that a credit union's board of directors is ultimately accountable for 
the safety and soundness of the credit union's commercial lending 
activities and must remain adequately informed about the level of risk 
in the credit union's commercial loan portfolio. The proposed rule 
modifies the current experience and expertise requirements for 
personnel involved in member business lending and delineates the 
qualifications required for a credit union's senior executive officers 
and staff. The proposal also provides options for how a credit union 
may meet such requirements.
    The proposed rule requires a credit union's board of directors to 
approve a commercial loan policy that complies with proposed Sec.  
723.4. Commercial loans may be subject to business and economic changes 
that warrant frequent monitoring to ensure policy requirements remain 
effective. Consistent with the current rule, the

[[Page 37904]]

proposed rule requires a credit union's commercial loan policy to 
address commercial lending practices, procedures, and organizational 
structure, and be reviewed at least annually, or more frequently if 
there is material change in portfolio performance or economic 
conditions, and updated when warranted. The policy updates must be 
approved by the board of directors. In addition, the board of directors 
must understand the nature and level of risk associated with the credit 
union's commercial lending program and receive periodic updates from 
credit union management on the performance of its commercial loan 
portfolio, including, but not limited to, reports on overall credit 
risk ratings and trends, loan growth, adherence to policy and 
regulations, delinquencies, charge offs, and workout activities. It is 
also the board of directors' responsibility to ensure that credit union 
management takes the necessary steps to identify, monitor, and control 
these risks.
    The credit union must also ensure its commercial lending program is 
staffed with personnel demonstrating appropriate expertise in managing 
the type of commercial lending in which the credit union is engaged. 
For example, if a credit union wishes to engage in commercial lending 
activities to finance farm equipment, acquisition of farmland, or 
production expenses related to farming or ranching, the credit union 
needs to ensure its staff has expertise in underwriting, servicing, and 
identifying and managing risks associated with agricultural loans.
    In evaluating experience requirements, the Board is proposing a 
less prescriptive approach than that contained in the current rule. 
Specifically, the Board is proposing to eliminate the current two-year 
experience requirement and replace it with a broader, more flexible 
principles-based approach that evaluates the overall experience of the 
staff involved in a credit union's commercial loan program, with an 
emphasis on experience in commercial loan risk management. This 
includes experience requirements for any senior executive officers who 
oversee the credit union's lending department and are otherwise 
accountable for the performance of the commercial loan portfolio. It is 
essential for the senior executive officers to have a comprehensive 
understanding of its credit union's commercial lending activities and 
the ability to adequately oversee the management of the risks 
associated with those activities. Senior executive officers must ensure 
the credit union implements appropriate risk management processes to 
measure, monitor and control risks. Further, any staff involved in a 
credit union's commercial loan program must have sufficient expertise 
in assessing and managing the risks associated with the type of 
commercial lending in which a credit union is engaged. Skills should be 
commensurate with each particular individual's position and level of 
responsibility.
    Specifically, a credit union should have:
    1. Staff experience directly related to the specific types of 
commercial lending in which the credit union is engaged;
    2. Demonstrated experience in conducting commercial credit analysis 
and evaluating the risk of a borrowing relationship using a credit risk 
rating system;
    3. Demonstrated experience in underwriting, processing, and 
conducting workout activities for the types of commercial lending in 
which the credit union is engaged; and
    4. Knowledge of the legal documentation necessary to protect the 
credit union from legal liability, and all relevant law and regulation 
impacting commercial lending activities.
    In addition to the competencies listed above, managers responsible 
for a credit union's commercial lending program should have 
demonstrated experience in:
    1. Overseeing commercial credit risk assessment and underwriting;
    2. Managing and administering a credit risk rating system;
    3. Managing a commercial loan portfolio and being held accountable 
for the risk in that portfolio; and
    4. Managing commercial lenders and other risk managers.
    Under the proposed rule, for greater flexibility, credit unions 
have multiple options to meet the experience requirements. For example, 
a credit union may meet the requirements by training and developing 
existing staff, hiring experienced professionals, or the use of a third 
party such as a CUSO or an independent contractor. The Board notes, 
however, that it is not prudent for credit unions newly adopting a 
commercial loan program to initially rely solely on training and 
developing existing staff, unless existing staff already possess the 
skills, competencies, and experience required.
    Before employing the use of a third party, however, a credit union 
must ensure the third party meets the experience requirements outlined 
above. It is vital for the credit union to possess sufficient in-house 
expertise to fully evaluate the reasonableness and accuracy of risk 
assessments and recommendations provided by any third party and to 
effectively oversee the third party relationship. Final responsibility 
for services provided by the third party, especially risk assessments, 
remains with the credit union because the risks associated with the 
transaction are borne by the credit union. The third party may be 
utilized for underwriting and assessing the credit risk but the credit 
union must ultimately make the credit decision.
    In addition, the credit union must ensure that there is no 
affiliation or contractual relationship between the third party and the 
borrower or any associated borrowers to avoid potential conflicts of 
interest. For example, a circumstance where a third party is performing 
underwriting services for a credit union while also being compensated 
by the borrower for obtaining the loan clearly violates the conflict of 
interest provisions of the proposed regulation. In addition, the risk 
assessment performed and provided by the third party must be based on 
the credit union's underwriting criteria, as reflected in its 
commercial loan policy.
Sec.  723.4--Commercial Loan Policy
    Proposed Sec.  723.4 is comparable to Sec.  723.6 of the current 
rule and sets out minimum expectations for risk assessment of the 
commercial borrower and for active risk management of the commercial 
loan portfolio. Proposed Sec.  723.4 sets out the expectations and 
policy requirements for credit unions offering commercial loans and is 
intended to facilitate a program that accomplishes the dual objectives 
of providing appropriate service to the members and managing the risk 
to the credit unions. The proposal provides more detail for credit 
unions by establishing the minimum risk assessment practices and 
procedures that are consistent with accepted, safe and sound practice 
within the commercial lending industry.
    As noted in the introductory language of this section, the proposal 
specifies that each credit union engaging in commercial lending must 
ensure that its policies have been approved by the credit union's board 
of directors. Further, policies and procedures must provide for ongoing 
control, measurement, and management of the credit union's commercial 
lending activities. In short, the policies and procedures must ensure 
the credit union's commercial lending activities are performed in a 
safe and sound manner, provide for prudent and timely risk assessment 
and monitoring practices, and address key corresponding operational 
procedures. NCUA continues to expect an

[[Page 37905]]

appropriate separation of duties in a credit union's commercial lending 
procedures, to prevent potential conflicts of interest and other 
problems in the loan underwriting, collection, and portfolio monitoring 
functions. An appropriate separation of duties for underwriting, 
portfolio monitoring, and collection functions provides for a strong 
internal control to prevent fraud and error. Credit unions should 
strive to achieve separation of duties wherever possible.
    A safe and sound lending program is beneficial to both the member 
and the credit union. Hence, a key principle underlying the proposal is 
that a credit union can meet its mission and best serve its commercial 
members by providing financing designed to meet the unique needs of 
each member, consistent with the financial capacity of both the member 
and the credit union. Thus, the proposed rule contemplates risk 
management processes that include procedures for achieving a 
comprehensive understanding of the borrower's operations, financial 
condition, and the industry and market in which the business operates. 
In addition, the proposal contemplates that the credit union will 
actively manage risks associated with its commercial loan program, 
which includes submitting on a regular basis to senior management and 
the board of directors reports on the performance of the portfolio.
    Proposed Sec.  723.4 also reinforces current supervisory 
expectations that credit unions will adopt a formal credit risk rating 
system to identify and quantify the level of risk within their 
commercial loan portfolios.\19\ Credit risk rating systems are the 
standard method used by commercial lenders for identifying and 
quantifying credit risk at the borrower, borrowing relationship and 
overall commercial loan portfolio levels. The proposed rule clarifies 
the minimum requirements for assessing credit risk and the processes 
necessary to support an accurate and reliable credit risk rating 
system. Consistent with the proposed rule's emphasis on responsible 
risk management by credit unions, future examinations will benefit by 
greater focus on the accuracy and effectiveness of a credit union's use 
of its credit rating system to identify and manage risk.
---------------------------------------------------------------------------

    \19\ While a credit union may use a risk rating methodology 
developed by a third party, the credit union must perform 
appropriate due diligence on the methodology and determine it meets 
the credit union's needs for properly categorizing the risk of 
commercial loans.
---------------------------------------------------------------------------

    Another key principle underlying the proposal is that a credit 
union must develop and establish its risk tolerances at both the 
relationship and overall portfolio levels so that risks undertaken are 
consistent with prudential standards and are within the managerial and 
financial capability of the credit union to accommodate. Accordingly, 
the proposal eliminates prescriptive risk management requirements for 
LTV ratios, minimum equity investments, portfolio concentration limits 
for types of loans, and personal guarantees. As a result, the need for 
waivers of these requirements is also eliminated. The Board emphasizes, 
however, that the removal of the prescriptive requirements from the 
rule does not relieve the credit union from setting appropriate limits 
as part of its overall commercial lending program. In fact, the Board 
believes these internal constraints are necessary risk mitigation 
practices and expects credit unions to establish prudent limits in 
their policies appropriate for the credit union's risk tolerance and 
management capability. NCUA will incorporate expectations regarding 
risk management practices, such as LTV ratios and portfolio 
concentration limits, into supervisory guidance issued with any final 
rule adopted by the Board.
    As proposed, Sec.  723.4 would require that a credit union's 
commercial loan policy must address each of the following areas:
    1. Types of commercial loans permitted. This provision, which is 
carried over from the current rule, reflects the fundamental principle 
that loans offered by a credit union should meet the needs of its 
membership. The credit union should analyze its membership and ensure 
its commercial lending staff has the necessary expertise, gained 
through experience and training, to understand the needs of the 
membership and the types of loans offered.
    2. Trade area. This provision is also carried over from the current 
rule. A credit union must be certain that it is capable of serving its 
identified trade area. Effective risk management requires that the 
credit union has the ability to make periodic site visits to evaluate 
the borrower's operations and inspect the collateral.
    3. Maximum loan amounts, both in terms of loan category and to any 
one borrower or group of associated borrowers. This proposed section 
now combines language from current Sec.  723.6 concerning maximum loan 
amounts by type of loan with language from current Sec.  723.8, 
describing maximum amounts for loans to one borrower or a group of 
associated borrowers. The proposal would impose the same limit for one 
borrowing relationship as the current rule, which is a maximum of 15 
percent of the credit union's net worth. However, the proposed rule 
will allow credit unions to exceed the general limitation by 10 percent 
of the credit union's net worth, if the amount above the 15 percent 
limit is fully secured by readily marketable collateral. This is 
consistent with the limit allowed by other banking regulators.\20\
---------------------------------------------------------------------------

    \20\ 12 CFR 32.3.
---------------------------------------------------------------------------

    4. Qualifications and experience requirements for lending staff. 
The proposal reflects the importance of a properly staffed commercial 
loan department, which is essential to providing competent member 
service and to actively managing risk. Credit unions will, in 
developing their staffing requirements, consider relevant factors 
specific to the credit union and to the needs of its commercial 
borrowing members. Staffing should be determined based on loan volume, 
projected loan growth, trade area, complexity of the borrowing 
relationships, types of loans permitted, and any other unique 
influences on the credit union's commercial loan portfolio. In 
determining staffing levels, the credit union should consider 
appropriate levels of management, relationship managers, and support 
staff as may be required to ensure the needs of the membership are 
responsibly serviced in a safe and sound manner.
    5. Loan approval processes. This new section of the proposal 
specifies that the credit union's policy must establish lending 
authority for approving credit decisions. A credit union must establish 
a process that assigns credit approval authority to individuals or 
committees making such decisions commensurate with the individual's or 
committee's experience in evaluating and understanding commercial loan 
risk. In addition, the approval authorities and system should ensure an 
adequate level of review and approval by senior management prior to the 
loan decision for complex and/or large loans or credit relationships. 
All lending authority limits should be assigned based on the aggregate 
loan relationship of the member and associated borrowers. The system 
should provide for adequate oversight and review of the loan approval 
process, with all loan approvals or denials tracked by loan department 
management and periodically reported to senior management.
    6. Underwriting standards. The proposed rule clarifies the 
requirements for assessing risk at inception and over the life of the 
loan. This new section

[[Page 37906]]

provides in greater detail the types of considerations and analyses 
that are required for proper commercial loan underwriting.
    The level and depth of credit analysis and risk assessment should 
be commensurate with the overall risk the relationship poses to the 
credit union based on its size, credit risk rating, and complexity. The 
policy must address the required analysis and depth of the financial 
review performed to support the credit decision. It should establish 
the approval process, including the lending authorities and the 
documentation of the credit decision. It should outline the required 
components of the credit approval document. The approval process and 
documentation should provide sufficient information to allow the 
approving body to make a fully informed credit decision.
    The credit approval document should be in a standard, logical 
format and provide all relevant information. Standard formats provide 
for a consistent and fair process for evaluating credit to all 
borrowers.
    The borrower analysis should focus on satisfactory borrower payment 
history, along with a review and explanation of the financial trends of 
the borrower based on a reasonably long period to establish a reliable 
trend. The analysis should focus on income and expense trends, debt 
service ability, balance sheet changes and the impact of those changes 
on the ability to service debt. The analysis should discuss the 
required evaluation of related parties and the influence of those 
parties on the repayment ability of the borrower.
    The policy must establish due diligence requirements to evaluate 
the other sources of income or losses affecting the guarantors or 
principals to determine the global financial condition and the debt 
service ability of the borrower. The commercial loan policy should also 
set the requirements for the financial reporting to support a credit 
decision. It should address the minimum criteria for historic reporting 
at the inception of the loan, as well as regular reporting after the 
loan is closed, and the required quality of financial information to 
establish an accurate and reliable assessment of financial trends. 
Risks should be monitored throughout the life of the loan based on 
periodic review of the financial position of the borrower and site 
visits to detect any operational changes.
    The proposal also notes that underwriting standards must address 
the quality of the financial information used to make the credit 
decision and ensure that the degree of verification reflected in the 
financial information is sufficient to support the financial analysis 
and the risk assessment of the credit decision. Financial statement 
quality is determined by the level of assurance provided by the 
preparer and the required professional standards supporting the 
preparer's opinion. In many cases, tax returns and/or financial 
statements professionally prepared in accordance with generally 
accepted accounting principles (GAAP) will be sufficient for less 
complex borrowing relationships, such as those that are limited to a 
single operation of the borrower and principal with relatively low 
debt. For more complex and larger borrowing relationships, such as 
those involving borrowers or principals with significant loans 
outstanding or multiple or interrelated operations, the credit union 
should require borrowers and principals to provide either (i) an 
auditor's review of the financial statements prepared consistent with 
GAAP to obtain limited assurance (i.e., a ``review quality'' financial 
statement), or (ii) an independent financial statement audit under 
generally accepted auditing standards (GAAS) for the expression of an 
opinion on the financial statements prepared in accordance with GAAP 
(i.e., an ``audit quality'' financial statement).
    In either case, the credit union's policy should establish a 
threshold for the required financial reporting. The policy should also 
establish the requirements for financial projection, which will ensure 
the borrower is actually planning and managing operations to achieve 
future goals. Financial statement projections should be required when 
the historic performance does not support the proposed debt repayment, 
or a structural change in the future operations of the borrower is 
anticipated and repayment depends on the success of the changes. The 
borrower or principals of the borrower should prepare the projection, 
as it is they who must execute and achieve the projected plan.
    Finally, the proposal calls for the credit union to establish 
underwriting standards to include LTV ratio limits and methods for 
valuing all types of collateral authorized. For real estate valuation, 
the methods need to comply with Part 722 of NCUA's regulations. The 
standards should set minimum collateral requirements based on the 
collateral characteristics and risk associated with the borrowing 
relationships. For dynamic assets with changing quantities and value, 
such as accounts receivable and inventory, LTV ratios should be lower 
than more stable assets such as new equipment and real estate. The LTV 
ratios for equipment and real estate should reflect influences on the 
marketability of the collateral, such as age, condition, and potential 
alternative uses of the collateral, and be consistent with prudent 
commercial lending practice.
    The standards should also set forth the requirements for 
establishing an enforceable and perfected lien position for different 
types of collateral. The standards should also establish procedures and 
processes to determine if property proposed as collateral has been 
affected by contamination of hazardous material, either by the 
borrower's own operations, historic use by previous owners, or from 
neighboring commercial operations, and should outline processes to 
limit the exposure to the credit union for any possible liability.
    7. Risk Management Processes. The risk associated with commercial 
lending is dynamic due to changing influences on the market and 
operational conditions of the borrower. The proposed rule requires the 
credit union to establish policies and procedures to identify and 
manage risk at the inception of the loan and throughout the life of the 
loan. Specific components to be addressed by the credit union are set 
out in the proposal and include:
    (i) Use of loan covenants, when warranted. A change in risk is 
generally reflected in an adverse change in the financial condition of 
the borrower or associated borrowers. Thus, the credit union's policy 
should establish the requirements for the use of financial covenants, 
financial reporting and regular site visits. Early detection of adverse 
changes in the borrower's operation will provide the credit union with 
the best opportunity to assist the member and protect itself from 
losses.
    (ii) Periodic review. The credit union loan policy must set forth 
the requirements for periodic loan relationship review. The Board notes 
that areas to consider include frequency of site visits, periodic 
financial reporting, and comprehensive review of the relationship. The 
Board also notes that a standard practice in this respect is to review 
the relationship from a financial and operational standpoint on an 
annual basis, simultaneous with the timely submission of the fiscal 
year-end financial statements.
    (iii) A credit risk rating system. The ability to quantify and 
report the level of risk is the paramount responsibility of the credit 
union. Accordingly, the proposed rule requires the credit union to 
incorporate a credit risk rating system to analyze and describe the 
credit risk of each loan. A risk rating system is a

[[Page 37907]]

standard industry practice utilized by commercial lenders, a 
longstanding NCUA supervisory expectation, and required by other 
regulators to monitor and quantify risk.\21\
---------------------------------------------------------------------------

    \21\ NCUA Letter to Credit Unions 10-CU-02, Current Risks in 
Business Lending and Sound Risk Management Practices. (Jan. 2010) 
(citing The Office of Comptroller of the Currency, Comptroller's 
Handbook, Rating Credit Risk (April 2001); NCUA Accounting Bulletin 
06-01, Attachment 1 (Dec. 2006).
---------------------------------------------------------------------------

    An effective risk rating system establishes risk grades that are 
applied to each loan, with grades ranging from low risk to high risk. 
The risk rating system should incorporate a sufficient number of risk 
grades to differentiate the level of credit risk in different loans, 
and should be supported by appropriate analysis of the borrower and 
associated borrowers.
    The credit risk rating is assigned to each loan at origination and 
reviewed and adjusted periodically over the life of the loan. All 
credit unions should ensure the accuracy of the credit risk ratings and 
that the process for determining the risk ratings is periodically 
validated. Both the quantitative inputs and the expertise and judgment 
of staff responsible for assigning the ratings are critical in making 
the credit decision and in assigning risk ratings. The system should 
provide for well-defined and clear criteria for each risk rating and 
promote consistency in assigning and reviewing ratings.
    The evaluation should include quantitative factors based on 
financial performance and qualitative factors based on management, 
market, and business environmental considerations. An effective risk 
rating system will allow for active risk management of individual 
member loans and the portfolio.
    The procedures and policies outlined in NCUA Accounting Bulletin 
No. 06, Attachment 1, Loan Review Systems or any updates to this 
guidance must be reflected in the credit union's policy. This guidance 
outlines the minimum requirements for the application and 
administration of an effective risk rating and commercial loan review 
process. NCUA's assessment of a credit union's risk rating process will 
be a major emphasis of examinations.
    (iv) Loan exceptions. The commercial loan policy may allow for 
exceptions to policy when necessary to meet the unique circumstances of 
a borrowing relationship and doing so would not create undue risk to 
the credit union. The policy must establish the process for approval 
and documentation of an exception to loan policy. All exceptions to the 
loan policy need to be tracked and periodically reported to senior 
management and the board.
Sec.  723.5--Collateral and Security
Collateral
    All of the specific prescriptive limits and requirements related to 
collateral in the current rule have been eliminated and replaced with 
the fundamental principle that commercial loans must be appropriately 
collateralized. While the proposal simplifies the collateral 
requirements, it is predicated on NCUA's expectation that commercial 
loans require collateral sufficient to protect the credit union against 
the associated risk. The majority of loans granted support either the 
purchase of an asset or working capital to fund inventory or accounts 
receivable during the business cycle. At a minimum, those assets should 
collateralize the loan.
    Accordingly, the proposal reflects the expectation that a credit 
union making a commercial loan will require the borrower to provide 
collateral that is appropriate for the type of transaction and the risk 
associated with the borrowing relationship. Credit unions must use 
sound judgment when requiring collateral and will require collateral 
coverage for each commercial loan in an amount that is sufficient to 
offset the credit risk associated with that loan.
    The marketability and type of collateral should also be considered 
in determining the collateral requirements. Marketability can be 
influenced by the age, condition, and alternative uses of the 
collateral. For depreciating assets such as equipment or vehicles, 
newer collateral in good condition would warrant a relatively higher 
loan-to-value ratio. Collateral with limited alternative uses, such as 
single-purpose real estate, or assets with limited useful life, such as 
used equipment or vehicles, would warrant a lower loan-to-value ratio. 
The term of the loan should also be reflective of the anticipated 
useful life of the collateral, which is determined based on the type of 
collateral and its expected use. In addition, credit unions should 
consider the volatility of the asset as it relates to value and 
quantities. Specifically, current assets, especially accounts 
receivable and inventory, are dynamic, with changing market values and 
regular fluctuation in quantity on hand. Accordingly, when these assets 
serve as collateral, a lower loan-to-value ratio is warranted to 
account for the volatility. Also, when establishing loan-to-value 
limits, credit unions should align their policies with prudent 
commercial lending practices.
    The proposal requires that a credit union must establish a policy 
for monitoring collateral, including systems and processes to respond 
to changes in asset values. For example, real estate in good condition 
and in demand may be inspected less frequently than other types of 
assets such as current assets, which can undergo more frequent changes 
in value and which require regular reporting and monitoring to ensure 
continued compliance with collateral requirements.
    Unsecured commercial lending presents additional risk to the 
lender. Such lending should be limited and treated as an exception, to 
be offered only when the additional risk is adequately offset by 
appropriate risk mitigants. Examples of some of these risk mitigants 
include a stable record of profitability, superior and consistent debt 
service coverage, a low debt-to-worth ratio, and financially strong 
guarantors. The unsecured loans should be tracked and the volume of 
such loans periodically reported to senior management and the board. 
The credit union should set prudent portfolio limits for these types of 
loans, measured in terms of a reasonable percentage of the credit 
union's net worth.
Personal Guarantees
    Consistent with the overall, principles-based approach underlying 
this proposal, the proposed rule removes the explicit requirement 
contained in the current rule that credit unions obtain a personal 
guarantee from the principal(s) of the borrower. The Board notes, 
however, that having the principal(s) of the borrower commit their 
personal liability to the repayment obligation is, in most cases, very 
important for commercial lending. Accordingly, the proposed rule makes 
clear that excusing principals from providing their personal guarantee 
for the repayment of the loan may only be done with appropriate 
corresponding underwriting parameters and portfolio safeguards. The 
credit union should set prudent portfolio limits for these types of 
loans, measured in terms of a reasonable percentage of the credit 
union's net worth. Commercial loans without a personal guarantee should 
be tracked and periodically reported to senior management and the 
board.
    Personal guarantees provide an additional form of credit 
enhancement for a commercial loan. In small business, investor real 
estate, and privately held entity lending, it is standard industry 
practice for principals of the business to assume the majority of the 
risk by personally guaranteeing the loan. Business owners or principals

[[Page 37908]]

will benefit the most from the success of the business operation; 
therefore, it is appropriate for principals to shoulder the bulk of the 
risk by committing their personal guarantee.
    A personal guarantee by the principal offers additional financial 
support to back the loan, but more importantly it solidifies the long-
term commitment by the principal to the success of the business 
operation. The most effective guarantee will be from the principals who 
have control of the borrower's operation and have sufficient financial 
resources at risk. A firm commitment by such a principal is vital to 
preserving the value of the borrower's business, either by improving 
operations or, in the worst case, by preserving asset values in the 
event of default and liquidation. The guarantor's economic incentive is 
to manage the business successfully and retain value, which will 
ultimately serve to offset any deficiency the guarantor might otherwise 
be obligated to pay.
Sec.  723.6--Construction and Development Loans
    Construction and development lending represents an important and 
necessary service that credit unions can provide to their membership. 
The Board is also concerned, however, that construction and development 
lending presents risk, in addition to credit risk, in the areas of loan 
disbursement administration and valuation of collateral. Credit unions 
that elect to pursue this line of business must protect against those 
risks by ensuring they have specific expertise and experience, 
supported by appropriate systems, to mitigate those risks. In addition 
to these minimum requirements for evaluating credit risk, the proposed 
rule outlines separate requirements that pertain exclusively to 
construction and development lending. The proposed rule clarifies the 
definition of a construction and development loan, describes 
alternative methods for valuing a construction project, and explains 
which costs are considered allowable in determining value of the 
project and therefore may be funded from loan proceeds. Finally, the 
proposal outlines required procedures to be followed in the 
administration of construction and development loans.
    The proposal sets forth a new definition for construction and 
development loans that distinguishes between income-producing property 
and projects built for a commercial purpose. This distinction is 
necessary for determining the duration of the financing period, as 
established in this section under the prospective market value method 
of valuing a construction project. As specified in the proposal, 
``income producing'' means any property that generates income from the 
rental or sale of the units constructed with loan proceeds and the 
repayment of the loan is dependent on the successful completion of the 
project. ``Commercial purpose,'' by contrast, is a term that applies to 
structures that do not directly generate income but enhance the 
operation of a commercial or industrial operation, such as a warehouse, 
manufacturing facility, and management office space. The proposal also 
clarifies that a construction and development loan includes any loan 
for the construction or renovation of real estate where prudent 
practice requires multiple disbursements as the project progresses and 
the ultimate valuation of the project and collateral protection is 
determined from the completed project.
    The proposed rule also establishes procedures for the valuation of 
collateral for construction and development loans. As noted above, in 
this context, there is significant risk, aside from credit risk to the 
lender, so the proposal provides significant detail regarding 
collateral value and preserving that value through diligent loan 
administration.
    As proposed, the rule would outline two distinct methods for 
determining collateral value: One focused on cost, the other on market 
value. The proposed rule states explicitly that the credit union must 
use the lesser value resulting from these two valuation methods in its 
determination of collateral value. This protection ensures the 
sufficiency of the investment by the borrower into the project. 
Requiring credit unions to use the valuation method that projects the 
lesser value will ensure that the borrower has capital at risk and will 
help the credit union to establish the appropriate balance in the 
sharing of risk between lender and borrower. Requiring an evaluation of 
the prospective market value will guard against the risk of financing 
overbuilding in the local real estate market.
    The first method entails an evaluation of the cost to complete the 
project. The proposal describes allowable costs for valuation and 
funding purposes consistent with prudent commercial practice. This 
description supersedes two legal opinion letters issued by NCUA's 
Office of General Counsel in 2001 and 2005, respectively.\22\
---------------------------------------------------------------------------

    \22\ OGC Op. 01-0422 (June 7, 2001); OGC Op. 05-0243 (May 25, 
2005).
---------------------------------------------------------------------------

    The proposal also describes a second valuation method, which is the 
prospective market value method. The prospective market value method is 
described in the Uniform Standards of Professional Appraisal Practice 
(Statement 4), which discusses the method for valuing a completed and 
stabilized construction project. The language in the proposed rule 
describes two different aspects of this approach, based on whether the 
property is held for a commercial or an income-producing use. The first 
method, ``as-completed,'' is for a commercial purpose building, while 
the second, ``as-stabilized,'' is for income-producing real estate.
    Finally, the proposed rule clarifies the requirements for 
administering a construction and development loan process, including 
requiring appropriate disbursement controls, to ensure the project is 
adequately funded and managed to reduce risk. The proposed rule 
requires a submission of a line-item budget by the borrower and calls 
for it to be reviewed and accepted by a qualified individual 
representing the credit union's interest. It outlines the necessary 
components of the disbursement process that will ensure that funds are 
disbursed as planned and in accordance with the budget for work 
completed and to ensure that the collateral protection has not been 
adversely affected by intervening liens.
    With the clarification of allowable costs, the establishment of the 
concept of prospective market value, and an outline of required loan 
administration practices, the proposed rule sets out policies and 
procedures that are in line with contemporary commercial construction 
lending practices.
Sec.  723.7--Prohibited Activities
    The prohibitions contained in current Sec.  723.2 have been moved 
to proposed Sec.  723.7 and are essentially unchanged, except for minor 
clarifications in the wording that are not intended to reflect 
substantive change. This section of the proposed rule also now includes 
provisions governing conflicts of interest, which have been taken 
virtually intact from Sec.  723.5(b) of the current rule. The proposal 
also adds a clause to clarify what it means to be ``independent from 
the transaction'' and specifically provides that any third party 
providing advice or support to the credit union in connection with its 
commercial loan program may not receive compensation of any sort that 
is contingent on the closing of the loan. This would include, for 
example, a broker or finder who anticipates receiving remuneration from 
the borrower or a related party upon the funding of the loan. The 
proposal recognizes that such a party has an

[[Page 37909]]

interest that could conflict with the interest of the credit union in 
making a sound credit risk decision. The Board believes that having the 
prohibitions and the conflicts of interest provisions in a single 
section of the rule makes sense from an organizational standpoint and 
will facilitate understanding of and compliance with its provisions.
Sec.  723.8--Aggregate Member Business Loan Limit; Exclusions and 
Exceptions
    As discussed above, one of the underlying principles for the 
proposed revisions to the MBL rule is the recognition that there are 
safety and soundness risks inherent in the making of commercial loans, 
and that managing those risks entails substantially greater effort and 
attention than merely applying a rigid limit on the aggregate amount a 
credit union is allowed to invest in such loans. Nevertheless, the FCU 
Act does impose such a limit, and one purpose of the rule is to address 
that statutory limit. Section 723.8 of the proposed rule accomplishes 
that objective.
    Proposed Sec.  723.8 sets out the statutory aggregate limits of 
Section 107A of the FCU Act.\23\ The general aggregate statutory limit 
on MBLs is applied in the current rule as the lesser of 1.75 times the 
credit union's net worth or 12.25 percent of the credit union's total 
assets.\24\ The Board notes that while the minimum net worth 
requirement for most credit unions to be well-capitalized is the 7 
percent leverage ratio, it can be a higher amount if a credit union is 
subject to a risk-based net worth requirement that is higher than the 
amount required by the 7 percent leverage ratio. Thus the MBL limit 
should not be expressed as an absolute percentage but rather as 1.75 
times the applicable net worth requirement for a credit union to be 
categorized as well-capitalized. For greater consistency with the 
statute, proposed Sec.  723.8(a) more faithfully incorporates the 
statutory language contained in the FCU Act.
---------------------------------------------------------------------------

    \23\ 12 U.S.C. 1757a.
    \24\ In the current rule, the 12.25 percent figure is a 
shorthand reference to how the cap applies to the requirement to 
maintain at least 7 percent of total assets to be well capitalized--
1.75 times 7 percent equals 12.25 percent.
---------------------------------------------------------------------------

    The proposal also clarifies the distinction between commercial 
loans subject to the safety and soundness provisions and MBLs subject 
to the statutory limit. The approach taken in the proposal is to 
indicate that ``member business loan'' generally means any commercial 
loan, as defined in the rule. As discussed above, two types of MBLs are 
expressly excluded from the proposed commercial loan definition: Loans 
secured by a 1- to 4-family residential property and loans secured by a 
vehicle manufactured for household use. The Board emphasizes, however, 
that while these loans are not considered to be commercial loans 
subject to the safety and soundness provisions in the rule, appropriate 
risk management is still required.
    The proposal defines two types of business loans as commercial 
loans that are not defined as MBLs for purposes of the statutory MBL 
limit. The two loans defined as commercial loans but not MBLs are:
    1. Loans in which a federal or state agency (or its political 
subdivision) fully insures repayment, fully guarantees repayment, or 
provides an advance commitment to purchase the loan in full; and
    2. Non-member commercial loans or non-member participation 
interests in a commercial loan made by another lender, provided the 
federally insured credit union acquired the non-member loans and 
participation interests in compliance with all relevant laws and 
regulations and it is not, in conjunction with one or more other credit 
unions, trading member business loans to circumvent the aggregate 
limit.\25\
---------------------------------------------------------------------------

    \25\ Non-member loans and non-member participation interests are 
excluded from the statutory MBL limit, but credit unions are 
currently subject to a regulatory requirement to seek prior approval 
from NCUA for non-member loan balances to exceed the lesser of 1.75 
times the credit union's net worth or 12.25 percent of the credit 
union's total assets.
    \26\ If the outstanding aggregate net member business loan 
balance is greater than $50,000.
---------------------------------------------------------------------------

    Further, loans secured by a 1- to 4- family residential property 
that is not the primary residence of the borrower are not commercial 
loans but they are included in the MBL definition, and therefore, must 
be included in the aggregate limit calculation.

      Table--Comparison of Member Business Loan and Commercial Loan
                               Definitions
------------------------------------------------------------------------
           Type of loan                    MBL          Commercial loan
------------------------------------------------------------------------
Loan fully secured by a 1- to 4-   No................  No.
 family residential property
 (borrower's primary residence).
Member business loan secured by a  Yes \26\..........  No.
 1- to 4-family residential
 property (not the borrower's
 primary residence).
Member business loan secured by a  Yes \27\..........  No.
 vehicle manufactured for
 household use.
Business loan with aggregate net   No................  No.
 member business loan balance
 less than $50,000.
Commercial loan fully secured by   No................  No.
 shares in the credit union
 making the extension of credit
 or deposits in other financial
 institutions.
Commercial loan in which a         No................  Yes.\28\
 federal or state agency (or its
 political subdivision) fully
 insures repayment, fully
 guarantees repayment, or
 provides an advance commitment
 to purchase the loan in full.
Non-member commercial loan or non- No................  Yes.\29\
 member participation interest in
 a commercial loan made by
 another lender.
------------------------------------------------------------------------

    The Board emphasizes that a credit union's non-member commercial 
loans or participation interests in non-member commercial loans made by 
another lender \30\ continue to be excluded from

[[Page 37910]]

the MBL definition \31\ and are not counted for call report purposes or 
in calculating the statutory aggregate amount of MBLs, provided the 
credit union acquired the loan or participation interest in compliance 
with all relevant laws and regulations and the credit union is not, in 
conjunction with one or more other credit unions, trading MBLs to 
circumvent the aggregate limit. However, the proposed rule eliminates 
the need to apply for prior approval from the NCUA regional director 
for a credit union's non-member loan balances to exceed the lesser of 
1.75 times the credit union's net worth or 12.25 percent of the credit 
union's total assets.\32\
---------------------------------------------------------------------------

    \27\ If the outstanding aggregate net member business loan 
balance is greater than $50,000.
    \28\ If the outstanding aggregate net member business loan 
balance is greater than $50,000.
    \29\ If the outstanding aggregate net member business loan 
balance is greater than $50,000.
    \30\ Federally insured credit unions are authorized to purchase 
participation interests in loans made by other lenders to credit 
union members. 12 U.S.C. 1757(5)(E); 12 CFR 701.22. The borrower 
need not be a member of the purchasing credit union, only a member 
of one of the participating credit unions. 12 CFR 701.22(b)(4). 
Additionally, federal credit unions generally may purchase eligible 
obligations of its members from any source if the loans are those 
the FCU is empowered to grant. 12 U.S.C. 1757(13); 12 CFR 701.23(b). 
Certain well capitalized federal credit unions may also purchase 
whole loans from other federally insured credit unions, including 
commercial loans, without regard to whether they are obligations of 
their members. 12 CFR 701.23(b)(2).
    \31\ See 68 FR 56537, 56543 (Oct. 1, 2003) (``[P]urchases of 
nonmember loans and participation interests, as authorized under 
certain conditions in NCUA's rules and some state laws and rules, do 
not involve the provision of member loan services, and the acquired 
loan assets are not MBLs . . . [and] they need not count against the 
purchasing credit union's aggregate MBL limit. The Board believes it 
is important to avoid unnecessary interference with the ability of 
credit unions to place their excess funds in a member that best 
serves the credit union, its members, and the credit union 
system.'')
    \32\ 12 CFR 723.16(b).
---------------------------------------------------------------------------

    The current rule's application requirement was driven in part by 
safety and soundness concerns.\33\ Under the proposal, however, safety 
and soundness is of paramount concern, and the bulk of the rule focuses 
on those considerations. Accordingly, rather than continuing to impose 
the requirement that the total of a credit union's non-member loan 
balances may not exceed the lesser of 1.75 times the credit union's net 
worth or 12.25 percent of the credit union's total assets unless it 
receives prior NCUA approval, the proposal's focus is on the risks 
associated with that balance and how the credit union should manage the 
risks. The application requirement in the current rule was also 
intended to address concerns that the MBL rule's treatment of 
participation interests could create a loophole to the statutory limit, 
and that some credit unions may use the authority to purchase non-
member loans and non-member participation interests as a device to swap 
loans and evade the aggregate limit.\34\ To preserve the existing 
safeguard against evasion, the proposal retains in substance the 
current rule's stipulation that, for the exclusion to apply, a credit 
union must acquire the non-member loan or non-member participation 
interest in compliance with applicable laws and regulations and it must 
not be swapping or trading MBLs with other credit unions to circumvent 
the aggregate limit.\35\ The Board notes that participation interests 
in member business loans and member business loans purchased from other 
lenders continue to count against a credit union's aggregate limit on 
net member business loan balances.
---------------------------------------------------------------------------

    \33\ See 68 FR at 56544.
    \34\ Id.
    \35\ 12 CFR 723.16(b)(2)(iv).
---------------------------------------------------------------------------

    The proposed rule also identifies those credit unions that are, by 
statute, exempt from the aggregate MBL limit. Specifically, it provides 
that credit unions that have a low-income designation or that 
participate in the Community Development Financial Institutions program 
are exempt from compliance with the aggregate MBL limit. Credit unions 
chartered for the purpose of making commercial loans are also exempt 
from compliance with the aggregate MBL limit. An additional statutory 
exemption was provided for credit unions that had a history of 
primarily making member business loans, determined as of the date of 
enactment of the Credit Union Membership Access Act of 1998 (CUMAA), 
which amended the FCU Act to include certain new restrictions on member 
business loans. The Board continues to apply the ``history of primarily 
making member business loans'' exemption by reference to the date of 
CUMAA's enactment; \36\ therefore, the proposal removes the outdated 
provisions in the current rule that relate to the evidentiary 
documentation necessary to demonstrate a credit union's qualification 
for the exemption. The Board also emphasizes that, regardless of the 
status of a credit union's exemption from the aggregate limit, all 
credit unions are subject to the safety and soundness provisions of the 
rule.
---------------------------------------------------------------------------

    \36\ See 64 FR 28721, 28726 (May 27, 1999).
---------------------------------------------------------------------------

    Finally, the proposal establishes the method for calculating a 
credit union's net member business loan balances for the purpose of 
complying with the statutory cap and reporting on NCUA form 5300. That 
method is consistent with the current rule, but the requirements for 
calculating the net member business loan balances is moved from the 
definitions section in current Sec.  723.21 to proposed Sec.  723.8 for 
greater ease of reference and improved readability. Consistent with the 
current rule, the proposal provides that a federally insured credit 
union's net member business loan balance is determined by calculating 
the outstanding loan balance plus any unfunded commitments, reduced by 
any portion of the loan that is secured by shares in the credit union, 
or by shares or deposits in other financial institutions, or by a lien 
on the member's primary residence, or insured or guaranteed by any 
agency of the federal government, a state or any political subdivision 
of such state, or subject to an advance commitment to purchase by any 
agency of the federal government, a state or any political subdivision 
of such state, or sold as a participation interest without recourse and 
qualifying for true sales accounting under generally accepted 
accounting principles.
Sec.  723.9--Transitional Provisions
    Proposed Sec.  723.9 would implement the transition from the 
current prescriptive rule to the proposed, principles-based rule. This 
section covers two different scenarios and describes the way in which 
the proposed rule, if adopted, would impact those credit unions 
currently operating under a waiver or an enforcement action.
    As discussed more fully below, the Board is additionally soliciting 
comment on potential approaches with respect to those federally 
insured, state-chartered credit unions currently operating under an 
NCUA-approved state rule.
i. Existing Waivers or Enforcement Constraints
    In view of the principles-based approach taken in the proposed 
rule, proposed Sec.  723.9(a) provides that any waiver previously 
issued by NCUA concerning any aspect of the current rule becomes moot 
upon the effective date of any final MBL rule except waivers that were 
granted for a single borrower or borrowing relationship to exceed the 
limits set forth in Sec.  723.8 of the current rule, or for federally 
insured state chartered credit unions in states that have grandfathered 
rules where NCUA is required to concur with a waiver to the state's 
rule. Waivers granted to credit unions for single borrowing 
relationships will remain in effect until the aggregate balance of the 
loans outstanding associated with the relationship are reduced and in 
compliance with the requirements of Sec.  723.4(c) of the proposed 
rule.
    All blanket waivers granted to credit unions for current Sec.  
723.8 will terminate on the effective date of any final MBL rule. The 
Board notes that any credit union that qualified for a waiver 
concerning any of the hard regulatory limits contained in the former 
rule will, for the most part, already have the types of policies and 
procedures in place regarding its commercial loan program

[[Page 37911]]

that are contemplated by the proposed rule. Accordingly, the Board 
anticipates that there will be little if any disruption arising from 
this transition. In keeping with the principles-based approach, waivers 
and waiver requests are not part of the proposed rule.
    In contrast to the effect of the proposed rule on waivers, proposed 
Sec.  723.9(b) clarifies that any constraints imposed on a credit union 
in connection with its commercial lending program, such as may be 
contained in a Letter of Understanding and Agreement, would survive the 
adoption of the proposed rule and remain intact. Thus, the proposed 
rule specifies that any particular enforcement measure to which a 
credit union may uniquely be subject takes precedence over the more 
general application of the regulation. A constraint may take the form 
of a limitation or other condition that is actually imposed as part of 
a waiver. In such cases, the constraint would survive the adoption of 
the proposed rule in final form.
ii. State Regulation of Business Lending
    The Board solicits comment on how best to approach the issue of 
state regulation of business lending. Broadly speaking, there are two 
threshold questions that arise in this context: first, how to address 
those states that currently have an NCUA-approved MBL rule in place; 
and second, whether to continue the convention, as set out in the 
current rule, of permitting states to submit a version of an MBL rule 
to the Board for its approval as provided for in Sec.  723.20 of the 
current rule. Each of these questions is addressed below.
    As a preliminary matter, the Board notes that, while it may 
authorize a state supervisory authority (SSA) to play a role in the 
regulation of business lending, that role is necessarily limited. 
Congress granted the Board the sole authority to interpret the MBL 
provisions of the FCU Act and to promulgate implementing regulations, 
and FCUs and federally insured, state-chartered credit unions (FISCUs) 
alike are subject to them.\37\ An SSA does not have independent ability 
to interpret the FCU Act, but under the current rule may make its case 
to the Board that its proposed state rule is consistent with NCUA's 
interpretation of the FCU Act and Part 723. Until now, the Board has 
chosen to delegate authority to SSAs to administer a state MBL 
regulation under the conditions outlined in current Sec.  723.20. In 
making this delegation in any given case, the Board has been focused on 
whether the state regulation contains comparable risk management 
requirements and properly applies the statutory limit on MBLs. There 
are, at present, seven states in which the Board has approved the state 
rule.\38\
---------------------------------------------------------------------------

    \37\ 12 U.S.C. 1757a.
    \38\ The seven states currently operating with NCUA Board-
approved MBL rules are Connecticut, Illinois, Maryland, Oregon, 
Texas, Washington, and Wisconsin.
---------------------------------------------------------------------------

    To address the regulation of business lending by FISCUs, the Board 
is seeking comment on three options currently under consideration, as 
well as any alternative approaches.
    The following chart briefly highlights key provisions of the three 
options. Below the chart, each option is described in further detail.

------------------------------------------------------------------------
                                     Grandfathers 7      Permits States
                                     States with MBL      to submit new
         Key provisions             rules previously      MBL rules for
                                    approved by NCUA       NCUA Board
                                          Board             approval
------------------------------------------------------------------------
Option A........................  Yes.................  No.
Option B........................  No..................  Yes.
Option C........................  Yes.................  Yes.
------------------------------------------------------------------------

    The first option (Option A), for which comment is solicited, would 
be to allow SSAs that currently administer a state MBL rule to preserve 
their rules in their current format, thus allowing FISCUs in those 
states to continue to operate in compliance with the pertinent state 
rule. In this respect, the Board notes that each of the seven state 
rules is based on the model of Part 723 in its current form.
    Under this approach, FISCUs in these seven states would continue to 
comply with the applicable provisions in their state. However, no other 
SSA would be permitted to submit a rule for NCUA consideration and 
approval. Instead, aside from FISCUs operating in the seven 
grandfathered states, all other FISCUs would be subject to Part 723.
    A second option (Option B), for which comment is also solicited, 
would be for NCUA to require SSAs in these seven states to make 
conforming amendments to their rules and resubmit them to NCUA for an 
updated approval. For these SSAs (and any other SSA that seeks to 
implement its own rule), the new state MBL rules would need to reflect 
the same principles and incorporate the guidance contained in any final 
rule, but could be more restrictive if the state so chose.
    A third option (Option C), for which comment is solicited, would 
combine certain provisions of Option A and Option B. Specifically, 
Option C would permit SSAs that currently administer a state MBL rule 
to preserve their rules in their current format, thus permitting FISCUs 
in those states to continue to operate in compliance with the 
applicable state rule. However, rather than prohibiting other SSAs from 
submitting their own state rules for NCUA consideration and approval, 
Option C would permit SSAs to submit such rules as long as they conform 
with language similar to the beginning of current Sec.  723.20(a). In 
determining whether or not to approve a state MBL rule, current Sec.  
723.20(a) notes, ``the Board is guided by safety and soundness 
considerations and reviews whether the state regulation minimizes the 
risk and accomplishes the overall objectives of NCUA's member business 
loan rule. . . .'' In past practice, the Board has generally approved 
state rules that are substantially similar to NCUA's rule or more 
restrictive if the state so chose.
    The Board invites public comment on whether Option A, Option B, or 
Option C should be adopted in the final rule, and how any federal 
parity provisions in state law would affect these options. The Board 
also welcomes commenters' suggestions for any alternative approaches to 
addressing the state regulation of business lending.

C. Amendments to the Loan Participation Rule

    As discussed above, the proposed rule amends the definition of 
``associated member'' in the current MBL rule to be more consistent 
with the combination rules applicable to banks by introducing the 
concepts of direct benefit, common enterprise, and control.\39\
---------------------------------------------------------------------------

    \39\ 12 CFR 32.5.
---------------------------------------------------------------------------

    NCUA's loan participation rule contains a similar definition for 
``associated borrower,'' \40\ which was amended by the Board in 2013 to 
track closely with the definition in the MBL rule.\41\ In order to 
maintain that consistency, the proposed rule also makes parallel 
amendments to Sec.  701.22(a) by modifying the current definition of 
``associated borrower,'' and by adding new definitions of ``common 
enterprise,'' ``control,'' and ``direct benefit'' to the loan 
participation rule.
---------------------------------------------------------------------------

    \40\ 12 CFR 701.22(a).
    \41\ 78 FR 37946 (June 25, 2013).
---------------------------------------------------------------------------

D. Delayed Implementation

    The Board recognizes that the proposed shift to a principles-based 
rule represents a significant change in approach that will require a 
period of adjustment for both credit unions and examiners. Accordingly, 
should this proposal be finalized, the Board will delay implementation 
of the final rule

[[Page 37912]]

for 18 months, to allow NCUA and state supervisory authorities adequate 
time to adjust to the new requirements, including training staff, and 
for affected credit unions to make necessary changes to their 
commercial lending policies, processes, and procedures in compliance 
with the new rule.

D. Request for Public Comment

    The Board invites comment on all issues discussed in this proposal. 
In particular, the Board solicits specific comment on the proposal's 
principles-based regulatory approach and on how best to approach the 
issue of state regulation of business lending. Further, commenters 
should not feel constrained to limit their comments to the issues 
discussed above. Rather, commenters are encouraged to discuss any other 
relevant MBL issues they believe NCUA should consider that are 
consistent with and permissible under the existing statute.

III. Regulatory Procedures

A. 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 $50 
million) \42\ and publishes its certification and a short, explanatory 
statement in the Federal Register together with the rule.
---------------------------------------------------------------------------

    \42\ Recently, the Board proposed to increase the asset 
threshold used to define small entity under the RFA from $50 million 
to $100 million. 80 FR 11954 (Mar. 5, 2015).
---------------------------------------------------------------------------

    As of December 2014, of the 4,050 federally insured credit unions 
with total assets less than $50 million, 619 credit unions hold 
business loans on their balance sheets, including both member and non-
member loans. Among the 619 credit unions, 317 credit unions have 
business loans less than 15 percent of net worth and are not regularly 
originating and selling or participating out business loans. Therefore, 
they would be exempt from Sec.  723.3 (board of directors and 
management responsibilities) and Sec.  723.4 (commercial loan policy) 
under the proposed rule--where the incremental paperwork burden 
associated with the transition for this rule stems from.
    The remaining 302 credit unions with assets less than $50 million 
would be subject to Sec.  723.3 and Sec.  723.4 under the proposed rule 
because their level of activity in commercial lending is material to 
their financial and operational safety and soundness. However, the 
revised definition of commercial loan generally excludes loans secured 
by vehicles manufactured for household use and 1- to 4-family non-owner 
occupied residential property that trigger the safety and soundness 
provisions of the current rule. The average member business loan 
balance for credit unions with less than $50 million in assets is only 
$70,891. Thus, it is likely many of the outstanding member business 
loans currently held by small credit unions, and subject to the current 
rule, would be exempt under the proposed rule. Thus, NCUA anticipates 
fewer than 302 small credit unions would actually be subject to the 
proposed rule (except for Sec.  723.8--the statutory limit provisions). 
The 302 credit unions only represent 7% of total credit unions with 
assets less than $50 million.\43\ They hold approximately $513 million 
in business loans in aggregate, which represents 1% of the total 
business loans in the credit union industry.
---------------------------------------------------------------------------

    \43\ These credit unions hold $7.8 billion in total assets and 
$869 million in total net worth, which account for 0.7% of total 
assets and 0.7% of total net worth in the credit union industry, 
respectively.

------------------------------------------------------------------------
                                                    2014
                                   -------------------------------------
                                     Number of credit
                                          unions        Percent of total
------------------------------------------------------------------------
Credit unions with total assets                 4,050                100
 below $50 million................
Credit unions with total assets                   619                 15
 below $50 million and with MBLs..
Credit unions with total assets                   317                  8
 below $50 million, with MBLs, and
 are exempted from Sec.   723.3
 and Sec.   723.4.................
Credit unions with total assets                   302                  7
 below $50 million, with MBLs, and
 are not exempted from Sec.
 723.3 and Sec.   723.4...........
------------------------------------------------------------------------

    The proposed amendments would provide federally insured credit 
unions with significant regulatory relief via greater flexibility and 
individual autonomy in safely and soundly providing commercial and 
business loans. This is achieved by eliminating the current rule's 
prescriptive underwriting criteria, various limits on the composition 
of the commercial loan portfolio, the limit on participations in non-
member business loans, and the associated waiver requirements. What 
remains in the proposed rule is largely consistent with existing 
fundamental regulatory requirements and supervisory expectations for 
commercial lending, and therefore not a significant impact on the 
operation of these institutions. NCUA has determined and certifies that 
the proposed rule, if adopted, will not have a significant economic 
impact on a substantial number of small credit unions within the 
meaning of the RFA.\44\
---------------------------------------------------------------------------

    \44\ 5 U.S.C. 601-612.
---------------------------------------------------------------------------

B. 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.\45\ For purposes of the PRA, a 
paperwork burden may take the form of either a reporting or a 
recordkeeping requirement, both referred to as information collections. 
NCUA recognizes that this proposed rule requires credit unions to 
comply with certain requirements that constitute an information 
collection within the meaning of the PRA. Under the proposed rule, 
credit unions that are engaged in business lending activities and not 
exempted from Sec.  723.3 and Sec.  723.4 will need to ensure their 
loan policies and procedures cohere to these requirements, including a 
formal credit risk rating system to identify and quantify the level of 
risk within their commercial loan portfolios. However, by replacing the 
prescriptive requirements in the current rule with a principles-based 
regulatory approach,

[[Page 37913]]

the proposed rule also relieves credit unions from the current 
requirement to obtain MBL related waivers and provides a high degree of 
flexibility in designing and operating their commercial loan programs.
---------------------------------------------------------------------------

    \45\ 44 U.S.C. 3507(d); 5 CFR part 1320.
---------------------------------------------------------------------------

    Currently, NCUA receives a significant number of MBL-related waiver 
requests each year. NCUA processed 630 and 336 MBL related waiver 
requests, in 2013 and 2014 respectively. The average number of hours 
for a credit union to prepare a waiver request is an estimated 8 hours. 
Accordingly, NCUA expects that the proposed rule will provide an 
estimated total of 3,864 hours relief to credit unions, on an annual 
basis.
    Eliminating the waiver requirement:

Total number of MBL related waivers requested by FICUs annually: 483
Frequency of response: Annually
Number of hours to prepare 1 waiver request: 8
Total number of hours: 8 hours x 483 = 3,864

    Under the proposed rule, credit unions that are engaged in business 
lending activities and not exempted from Sec.  723.3 and Sec.  723.4 
may need to revise their loan policies and procedures. As the end of 
2014, there were a total of 1,553 federally insured credit unions that 
may need to revise their policies. For purposes of this analysis, NCUA 
estimates that it will take roughly 16 hours on average for a credit 
union to meet this requirement. Using these estimates, information 
collection obligations imposed by this aspect of the rule are analyzed 
below:
    Revising commercial loan policies and procedures:

FICUs that are engaged in business lending and are not exempted from 
Sec.  723.3 and Sec.  723.4: 1,553
Frequency of response: one-time
Initial hour burden: 16
16 hour x 1,553 = 24,848

    The proposed rule also requires credit unions that are engaged in 
business lending activities and not exempted from Sec.  723.3 and Sec.  
723.4 to have a formal risk rating system to quantify and manage risks 
associated with their business lending activities. The majority of 
credit unions already have risk rating systems in place. Based on a 
survey of NCUA field staff, NCUA estimates that a total of 142 
federally insured credit unions do not currently have a formal risk 
rating system. The information collection obligations imposed by this 
aspect of the rule are analyzed below.

    Number of FICUs developing a risk rating system: 142
Frequency of response: one-time
Initial hour burden: 160
160 hour x 142 = 22, 720

    The total estimated one-time net paperwork burden for this proposal 
is 43,704 hours, with annual recurring paperwork burden reduction of 
3,864 hours. In accordance with the requirements of the PRA, NCUA 
intends to obtain a modification of its OMB Control Number, 3133-0101, 
to support these changes. Simultaneously with its publication of this 
rule, NCUA is submitting a copy of the proposed rule to OMB, along with 
an application for a modification of the OMB Control Number.
    The PRA and OMB regulations require that the public be provided an 
opportunity to comment on the paperwork requirements, including an 
agency's estimate of the burden of the paperwork requirements. The 
Board invites comment on: (1) Whether the paperwork requirements are 
necessary; (2) the accuracy of NCUA's estimates on the burden of the 
paperwork requirements; (3) ways to enhance the quality, utility, and 
clarity of the paperwork requirements; and (4) ways to minimize the 
burden of the paperwork requirements.
    Comments should be sent to the NCUA Contact and the OMB Reviewer 
listed below:
NCUA Contact: Tracy Crews, National Credit Union Administration, 1775 
Duke Street, Alexandria, Virginia 22314-3428, Fax No. 703-837-2861, 
Email: OCIOPRA@ncua.gov.
OMB Contact: Office of Management and Budget, ATTN: Desk Officer for 
the National Credit Union Administration, Office of Information and 
Regulatory Affairs, Washington, DC 20503.

C. Executive Order 13132

    Executive Order 13132 encourages independent regulatory agencies to 
consider the impact of their actions on state and local interests. In 
adherence to fundamental federalism principles, NCUA, an independent 
regulatory agency,\46\ voluntarily complies with the Executive Order. 
The proposed rule, if adopted, will also apply to federally insured, 
state-chartered credit unions. By law, these institutions are already 
subject to numerous provisions of NCUA's rules, based on the agency's 
role as the insurer of member share accounts and the significant 
interest NCUA has in the safety and soundness of their operations. The 
proposed rule may have an occasional direct effect on the states, the 
relationship between the national government and the states, or on the 
distribution of power and responsibilities among the various levels of 
government. The proposed rule may supersede provisions of state law, 
regulation, or approvals. The proposed rule could lead to conflicts 
between the NCUA and state financial institution regulators on 
occasion. Accordingly, NCUA requests comment on ways to eliminate, or 
at least minimize, potential conflicts in this area. As noted above, 
NCUA solicits specific comment on how best to approach the issue of 
state regulation of business lending. Commenters may also wish to 
provide recommendations on the potential use of delegated authority, 
cooperative decision-making responsibilities, certification processes 
of federal standards, adoption of comparable programs by states 
requesting an exemption for their regulated institutions, or other ways 
of meeting the intent of the Executive Order.
---------------------------------------------------------------------------

    \46\ 44 U.S.C. 3502(5).
---------------------------------------------------------------------------

D. Assessment of Federal Regulations and Policies on Families

    NCUA has determined that this rulemaking will not affect family 
well-being within the meaning of Section 654 of the Treasury and 
General Government Appropriations Act of 1999.\47\
---------------------------------------------------------------------------

    \47\ 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 723

    Credit, Credit unions, Reporting and recordkeeping requirements.

12 CFR Part 741

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

    By the National Credit Union Administration Board on June 18, 
2015.
Gerard S. Poliquin,
Secretary of the Board.
    For the reasons discussed above, NCUA proposes to amend 12 CFR 
parts 701, 723, and 741 as follows:

PART 701--ORGANIZATION AND OPERATION OF FEDERAL CREDIT UNIONS

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


[[Page 37914]]


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

0
2. Amend Sec.  701.22(a) by revising the definition for Associated 
borrower and adding the definitions for Common enterprise, Control, and 
Direct benefit to read as follows:


Sec.  701.22  Loan participations.

* * * * *
    (a) For purposes of this section, the following definitions apply:
    Associated borrower means any other person or entity with a shared 
ownership, investment, or other pecuniary interest in a business or 
commercial endeavor with the borrower. This means any person or entity 
named as a borrower or debtor in a loan or extension of credit, or any 
other person or entity, such as a drawer, endorser, or guarantor, 
engaged in a common enterprise with the borrower, or deriving a direct 
benefit from the loan to the borrower.
    Common enterprise means (1) The expected source of repayment for 
each loan or extension of credit is the same for each borrower and no 
individual borrower has another source of income from which the loan 
(together with the borrower's other obligations) may be fully repaid. 
An employer will not be treated as a source of repayment because of 
wages and salaries paid to an employee, unless the standards described 
in paragraph (2) are met;
    (2) Loans or extensions of credit are made:
    (i) To borrowers who are related directly or indirectly through 
common control, including where one borrower is directly or indirectly 
controlled by another borrower; and
    (ii) Substantial financial interdependence exists between or among 
the borrowers. Substantial financial interdependence means 50 percent 
or more of one borrower's gross receipts or gross expenditures (on an 
annual basis) are derived from transactions with another borrower. 
Gross receipts and expenditures include gross revenues or expenses, 
intercompany loans, dividends, capital contributions, and similar 
receipts or payments; or
    (3) Separate borrowers obtain loans or extensions of credit to 
acquire a business enterprise of which those borrowers will own more 
than 50 percent of the voting securities or voting interests.
    Control means a person or entity directly or indirectly, or acting 
through or together with one or more persons or entities:
    (1) Owns, controls, or has the power to vote 25 percent or more of 
any class of voting securities of another person or entity;
    (2) Controls, in any manner, the election of a majority of the 
directors, trustees, or other persons exercising similar functions of 
another person or entity; or
    (3) Has the power to exercise a controlling influence over the 
management or policies of another person or entity.
* * * * *
    Direct benefit means the proceeds of a loan or extension of credit 
to a borrower, or assets purchased with those proceeds, that are 
transferred to another person or entity, other than in a bona fide 
arm's length transaction where the proceeds are used to acquire 
property, goods, or services.
* * * * *

PART 723--MEMBER BUSINESS LOANS; COMMERCIAL LENDING

0
3. The authority citation for Part 723 continues to read as follows:

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

0
3. Revise Sec. Sec.  723.1 through 723.8 and add Sec.  723.9 to read as 
follows:
Sec.
* * * * *
723.1 Purpose and scope.
723.2 Definitions.
723.3 Board of directors and management responsibilities.
723.4 Commercial loan policy.
723.5 Collateral and security.
723.6 Construction and development loans.
723.7 Prohibited activities.
723.8 Aggregate member business loan limit; exclusions and 
exceptions.
723.9 Transitional provisions.
* * * * *


Sec.  723.1  Purpose and scope.

    (a) Purpose. This part is intended to accomplish two broad 
objectives. First, it sets out policy and program responsibilities that 
a federally insured credit union must adopt and implement as part of a 
safe and sound commercial lending program. Second, it incorporates the 
statutory limit on the aggregate amount of member business loans that a 
federally insured credit union may make pursuant to Section 107A of the 
Federal Credit Union Act. The rule distinguishes between these two 
distinct objectives.
    (b) Credit unions and loans covered by this part. This part applies 
to federally insured natural person credit unions, except that credit 
unions with both assets less than $250 million and total commercial 
loans less than 15 percent of net worth that are not regularly 
originating and selling or participating out commercial loans are not 
subject to Sec.  723.3 and Sec.  723.4 of this part. This part does not 
apply to loans:
    (1) Made by a corporate credit union, as defined in part 704 of 
this chapter;
    (2) Made by a federally insured credit union to another federally 
insured credit union;
    (3) Made by a federally insured credit union to a credit union 
service organization, as defined in part 712 and Sec.  741.222 of this 
chapter; or
    (4) Fully secured by a lien on a 1- to 4- family residential 
property that is the borrower's primary residence.
    (c) Other regulations that apply. (1) The requirements of Sec.  
701.21(a) through (g) of this chapter apply to commercial loans granted 
by a federally insured credit union to the extent they are consistent 
with this part. As required by part 741 of this chapter, a federally 
insured, state-chartered credit union is generally not required to 
comply with the provisions of Sec.  701.21(a) through (g) of this 
chapter, except it must comply with Sec.  701.21(c)(8) of this chapter 
concerning prohibited fees, and Sec.  701.21(d)(5) of this chapter 
concerning nonpreferential loans.
    (2) If a federal credit union makes a commercial loan through a 
program in which a federal or state agency (or its political 
subdivision) insures repayment, guarantees repayment, or provides an 
advance commitment to purchase the loan in full, and that program has 
requirements that are less restrictive than those required by this 
rule, then the federal credit union may follow the loan requirements of 
the relevant guaranteed loan program. A federally insured, state-
chartered credit union that is subject to this part and that makes a 
commercial loan as part of a loan program in which a federal or state 
agency (or its political subdivision) insures repayment, guarantees 
repayment, or provides an advance commitment to purchase the loan in 
full, and that program has requirements that are less restrictive than 
those required by this rule, then the federally insured, state-
chartered credit union may follow the loan requirements of the relevant 
guaranteed loan program, provided that its state supervisory authority 
has determined that it has authority to do so under state law.
    (3) The requirements of Sec.  701.23 of this chapter apply to a 
federal credit union's purchase, sale, or pledge of a

[[Page 37915]]

commercial loan as an eligible obligation.
    (4) The requirements of Sec.  701.22 of this chapter apply to a 
federally insured credit union's purchase of a participation interest 
in a commercial loan.


Sec.  723.2  Definitions.

    For purposes of this part, the following definitions apply:
    Associated Borrower means any other person or entity with a shared 
ownership, investment, or other pecuniary interest in a business or 
commercial endeavor with the borrower. This means any person or entity 
named as a borrower or debtor in a loan or extension of credit, or any 
other person or entity, such as a drawer, endorser, or guarantor, 
engaged in a common enterprise with the borrower, or deriving a direct 
benefit from the loan to the borrower.
    Commercial loan means any loan, line of credit, or letter of credit 
(including any unfunded commitments), and any interest a credit union 
obtains in such loans made by another lender, to individuals, sole 
proprietorships, partnerships, corporations, or other business 
enterprises for commercial, industrial, agricultural, or professional 
purposes, but not for investment or personal expenditure purposes. 
Excluded from this definition are loans made by a corporate credit 
union; loans made by a federally insured credit union to another 
federally insured credit union; loans made by a federally insured 
credit union to a credit union service organization; loans secured by a 
1- to 4- family residential property (whether or not it is the 
borrower's primary residence); any loan(s) to a borrower or an 
associated borrower, the aggregate balance of which is equal to less 
than $50,000; any loan fully secured by shares in the credit union 
making the extension of credit or deposits in other financial 
institutions; and loans secured by a vehicle manufactured for household 
use.
    Common enterprise means
    (1) The expected source of repayment for each loan or extension of 
credit is the same for each borrower and no individual borrower has 
another source of income from which the loan (together with the 
borrower's other obligations) may be fully repaid. An employer will not 
be treated as a source of repayment because of wages and salaries paid 
to an employee, unless the standards described in paragraph (2) of this 
definition are met;
    (2) Loans or extensions of credit are made:
    (i) To borrowers who are related directly or indirectly through 
common control, including where one borrower is directly or indirectly 
controlled by another borrower; and
    (ii) Substantial financial interdependence exists between or among 
the borrowers. Substantial financial interdependence means 50 percent 
or more of one borrower's gross receipts or gross expenditures (on an 
annual basis) are derived from transactions with another borrower. 
Gross receipts and expenditures include gross revenues or expenses, 
intercompany loans, dividends, capital contributions, and similar 
receipts or payments; or
    (3) Separate borrowers obtain loans or extensions of credit to 
acquire a business enterprise of which those borrowers will own more 
than 50 percent of the voting securities or voting interests.
    Control means a person or entity directly or indirectly, or acting 
through or together with one or more persons or entities:
    (1) Owns, controls, or has the power to vote 25 percent or more of 
any class of voting securities of another person or entity;
    (2) Controls, in any manner, the election of a majority of the 
directors, trustees, or other persons exercising similar functions of 
another person or entity; or
    (3) Has the power to exercise a controlling influence over the 
management or policies of another person or entity.
    Credit risk rating system means a formal process that identifies 
and assigns a relative credit risk score to each commercial loan in a 
federally insured credit union's portfolio, using ordinal ratings to 
represent the degree of risk. The credit risk score is determined 
through an evaluation of quantitative factors based on financial 
performance and qualitative factors based on management, operational, 
market, and business environmental factors.
    Direct benefit means the proceeds of a loan or extension of credit 
to a borrower, or assets purchased with those proceeds, that are 
transferred to another person or entity, other than in a bona fide 
arm's length transaction where the proceeds are used to acquire 
property, goods, or services.
    Immediate family member means a spouse or other family member 
living in the same household.
    Loan secured by a 1- to 4-family residential property means a loan 
that, at origination, is secured wholly or substantially by a lien on a 
1- to 4-family residential property for which the lien is central to 
the extension of the credit; that is, the borrower would not have been 
extended credit in the same amount or on terms as favorable without the 
lien. A loan is wholly or substantially secured by a lien on a 1- to 4-
family residential property if the estimated value of the real estate 
collateral at origination (after deducting any senior liens held by 
others) is greater than 50 percent of the principal amount of the loan.
    Loan secured by a vehicle manufactured for household use means a 
loan that, at origination, is secured wholly or substantially by a lien 
on a new and used passenger car and other vehicle such as a minivan, 
sport-utility vehicle, pickup truck, and similar light truck or heavy 
duty truck generally manufactured for personal, family, or household 
use and not used as a fleet vehicle or to carry fare-paying passengers, 
for which the lien is central to the extension of credit. A lien is 
central to the extension of credit if the borrower would not have been 
extended credit in the same amount or on terms as favorable without the 
lien. A loan is wholly or substantially secured by a lien on a vehicle 
manufactured for household use if the estimated value of the collateral 
at origination (after deducting any senior liens held by others) is 
greater than 50 percent of the principal amount of the loan.
    Loan-to-value ratio means, with respect to any item of collateral, 
the aggregate amount of all sums borrowed and secured by that 
collateral, including outstanding balances plus any unfunded commitment 
or line of credit from another lender that is senior to the federally 
insured credit union's lien position, divided by the lesser of the 
purchase price or market value for collateral held 12 months or less, 
and market value for collateral held longer than 12 months. The market 
value of the collateral must be established by prudent and accepted 
commercial lending practices and comply with all regulatory 
requirements. For a construction and development loan, the collateral 
value is the lesser of cost to complete or prospective market value, as 
determined in accordance with Sec.  723.6 of this part.
    Net worth means a federally insured credit union's net worth, as 
defined in part 702 of this chapter.
    Readily marketable collateral means a financial instrument or 
bullion that is salable under ordinary market conditions with 
reasonable promptness at a fair market value determined by quotations 
based upon actual transactions on an auction or similarly available 
daily bid and ask price market.

[[Page 37916]]

    Residential property means a house, condominium unit, cooperative 
unit, manufactured home (whether completed or under construction), or 
unimproved land zoned for 1- to 4-family residential use. A boat or 
motor home, even if used as a primary residence, or timeshare property 
is not residential property.


Sec.  723.3  Board of directors and management responsibilities.

    Prior to engaging in commercial lending, a federally insured credit 
union must address the following board responsibilities and operational 
requirements:
    (a) Board of directors. A federally insured credit union's board of 
directors, at a minimum, must:
    (1) Approve a commercial loan policy that complies with Sec.  723.4 
of this part. The board must review its policy on an annual basis, 
prior to any material change in the federally insured credit union's 
commercial lending program or related organizational structure, and in 
response to any material change in portfolio performance or economic 
conditions, and update it when warranted.
    (2) Ensure the federally insured credit union appropriately staffs 
its commercial lending program in compliance with paragraph (b) of this 
section.
    (3) Understand and remain informed, through periodic briefings from 
responsible staff and other methods, about the nature and level of risk 
in the federally insured credit union's commercial loan portfolio, 
including its potential impact on the federally insured credit union's 
earnings and net worth.
    (b) Required expertise and experience. A federally insured credit 
union making, purchasing, or holding any commercial loan must 
internally possess the following experience and competencies:
    (1) Senior executive officers. A federally insured credit union's 
senior executive officers overseeing the commercial lending function 
must understand the federally insured credit union's commercial lending 
activities. At a minimum, senior executive officers must have a 
comprehensive understanding of the role of commercial lending in the 
federally insured credit union's overall business model and establish 
risk management processes and controls necessary to safely conduct 
commercial lending.
    (2) Qualified lending personnel. A federally insured credit union 
must employ qualified staff with experience in the following areas:
    (i) Underwriting and processing for the type(s) of commercial 
lending in which the federally insured credit union is engaged;
    (ii) Overseeing and evaluating the performance of a commercial loan 
portfolio, including rating and quantifying risk through a credit risk 
rating system; and
    (iii) Conducting collection and loss mitigation activities for the 
type(s) of commercial lending in which the federally insured credit 
union is engaged.
    (3) Options to meet the required experience. A federally insured 
credit union may meet the experience requirements in paragraphs (b)(1) 
and (2) of this section by conducting internal training and 
development, hiring qualified individuals, or using a third-party, such 
as an independent contractor or a credit union service organization. 
However, with respect to the qualified lending personnel requirements 
in paragraph (b)(2) of this section, use of a third-party is 
permissible only if the following conditions are met:
    (i) The third-party has no affiliation or contractual relationship 
with the borrower or any associated borrowers;
    (ii) The actual decision to grant a loan must reside with the 
federally insured credit union;
    (iii) Qualified federally insured credit union staff exercises 
ongoing oversight over the third party by regularly evaluating the 
quality of any work the third party performs for the federally insured 
credit union; and
    (iv) The third-party arrangement must otherwise comply with Sec.  
723.7 of this part.


Sec.  723.4  Commercial loan policy.

    Prior to engaging in commercial lending, a federally insured credit 
union must adopt and implement a comprehensive written commercial loan 
policy and establish procedures for commercial lending. The board 
approved policy must ensure the federally insured credit union's 
commercial lending activities are performed in a safe and sound manner 
by providing for ongoing control, measurement, and management of the 
federally insured credit union's commercial lending activities. At a 
minimum, a federally insured credit union's commercial loan policy must 
address each of the following:
    (a) Type(s) of commercial loans permitted.
    (b) Trade area.
    (c) Maximum amount of assets, in relation to net worth, allowed in 
secured, unsecured, and unguaranteed commercial loans and in any given 
category or type of commercial loan and to any one borrower or group of 
associated borrowers. The policy must specify that the aggregate dollar 
amount of commercial loans to any one borrower or group of associated 
borrowers may not exceed the greater of 15 percent of the federally 
insured credit union's net worth or $100,000, plus an additional 10 
percent of the credit union's net worth if the amount that exceeds the 
credit unions 15 percent general limit is fully secured at all times 
with a perfected security interest by readily marketable collateral as 
defined in section 723.2 of this part.
    (d) Qualifications and experience requirements for personnel 
involved in underwriting, processing, approving, administering, and 
collecting commercial loans.
    (e) Loan approval processes, including establishing levels of loan 
approval authority commensurate with the individual's or committee's 
proficiency in evaluating and understanding commercial loan risk, when 
considered in terms of the level of risk the borrowing relationship 
poses to the federally insured credit union.
    (f) Underwriting standards commensurate with the size, scope and 
complexity of the commercial lending activities and borrowing 
relationships contemplated. The standards must, at a minimum, address 
the following:
    (1) The level and depth of financial analysis necessary to evaluate 
the financial trends and condition of the borrower and the ability of 
the borrower to meet debt service requirements;
    (2) Thorough due diligence of the principal(s) to determine whether 
any related interests of the principal(s) might have a negative impact 
or place an undue burden on the borrower and related interests with 
regard to meeting the debt obligations with the credit union;
    (3) Requirements of a borrower-prepared projection when historic 
performance does not support projected debt payments. The projection 
must be supported by reasonable rationale and, at a minimum, must 
include a projected balance sheet and income and expense statement;
    (4) The financial statement quality and the degree of verification 
sufficient to support an accurate financial analysis and risk 
assessment;
    (5) The methods to be used in collateral evaluation, for all types 
of collateral authorized, including loan-to-value ratio limits. Such 
methods must be appropriate for the particular type of collateral. The 
means to secure various types of collateral, and the measures

[[Page 37917]]

taken for environmental due diligence must also be appropriate for all 
authorized collateral; and
    (6) Other appropriate risk assessment including analysis of the 
impact of current market conditions on the borrower and associated 
borrowers.
    (g) Risk management processes commensurate with the size, scope and 
complexity of the federally insured credit union's commercial lending 
activities and borrowing relationships. These processes must, at a 
minimum, address the following:
    (1) Use of loan covenants, if appropriate, including frequency of 
borrower and guarantor financial reporting;
    (2) Periodic loan review, consistent with loan covenants and 
sufficient to conduct portfolio risk management. This review must 
include a periodic reevaluation of the value and marketability of any 
collateral;
    (3) A credit risk rating system. Credit risk ratings must be 
assigned to commercial loans at inception and reviewed as frequently as 
necessary to satisfy the federally insured credit union's risk 
monitoring and reporting policies, and to ensure adequate reserves as 
required by generally accepted accounting principles (GAAP); and
    (4) A process to identify, report, and monitor loans approved as 
exceptions to the credit union's loan policy.


Sec.  723.5  Collateral and security.

    (a) A federally insured credit union must require collateral 
commensurate with the level of risk associated with the size and type 
of any commercial loan. Collateral must be sufficient to ensure 
adequate loan balance protection along with appropriate risk sharing 
with the borrower and principal(s). A federally insured credit union 
making an unsecured loan must determine and document in the loan file 
that mitigating factors sufficiently offset the relevant risk.
    (b) A federally insured credit union that does not require the full 
and unconditional personal guarantee from the principal(s) of the 
borrower who has a controlling interest in the borrower must determine 
and document in the loan file that mitigating factors sufficiently 
offset the relevant risk.


Sec.  723.6  Construction and development loans.

    In addition to the foregoing, the following requirements apply to a 
construction and development loan made by any federally insured credit 
union.
    (a) For the purposes of this section, a construction or development 
loan means any financing arrangement to enable the borrower to acquire 
property or rights to property, including land or structures, with the 
intent to construct or renovate an income producing property, such as 
residential housing for rental or sale, or a commercial building, such 
as may be used for commercial, agricultural, industrial, or other 
similar purposes. It also means a financing arrangement for the 
construction, major expansion or renovation of the property types 
referenced in this section. The collateral valuation for securing a 
construction or development loan depends on the satisfactory completion 
of the proposed construction or renovation where the loan proceeds are 
disbursed in increments as the work is completed. A loan to finance 
maintenance, repairs, or improvements to an existing income producing 
property that does not change its use or materially impact the property 
is not a construction or development loan.
    (b) A federally insured credit union that elects to make a 
construction or development loan must ensure that its commercial loan 
policy includes adequate provisions by which the collateral value 
associated with the project is properly determined and established. For 
a construction or development loan, collateral value is the lesser of 
the project's cost to complete or its prospective market value.
    (1) For the purposes of this section, cost to complete means the 
sum of all qualifying costs necessary to complete a construction 
project and documented in an approved construction budget. Qualifying 
costs generally include on- or off-site improvements, building 
construction, other reasonable and customary costs paid to construct or 
improve a project, including general contractor's fees, and other 
expenses normally included in a construction contract such as bonding 
and contractor insurance. Qualifying costs include the value of the 
land, determined as the lesser of appraised market value or purchase 
price for land held less than 12 months, and as the appraised market 
value for land held longer than 12 months. Qualifying costs also 
include interest, a contingency account to fund unanticipated overruns, 
and other development costs such as fees and related pre-development 
expenses. Interest expense is a qualifying cost only to the extent it 
is included in the construction budget and is calculated based on the 
projected changes in the loan balance up to the expected ``as-
complete'' date for owner-occupied non-income producing commercial real 
estate or the ``as-stabilized'' date for income producing real estate. 
Project costs for related parties, such as developer fees, leasing 
expenses, brokerage commissions, and management fees, are included in 
qualifying costs only if reasonable in comparison to the cost of 
similar services from a third party. Qualifying costs exclude interest 
or preferred returns payable to equity partners or subordinated debt 
holders, the developer's general corporate overhead, and selling costs 
to be funded out of sales proceeds such as brokerage commissions and 
other closing costs.
    (2) For the purposes of this section, prospective market value 
means the market value opinion determined by an independent appraiser 
in compliance with the relevant standards set forth in the Uniform 
Standards of Professional Appraisal Practice. Prospective value 
opinions are intended to reflect the current expectations and 
perceptions of market participants, based on available data. Two 
prospective value opinions may be required to reflect the time frame 
during which development, construction, and occupancy occur. The 
prospective market value ``as-completed'' reflects the property's 
market value as of the time that development is to be completed. The 
prospective market value ``as-stabilized'' reflects the property's 
market value as of the time the property is projected to achieve 
stabilized occupancy. For an income producing property, stabilized 
occupancy is the occupancy level that a property is expected to achieve 
after the property is exposed to the market for lease over a reasonable 
period of time and at comparable terms and conditions to other similar 
properties.
    (c) A federally insured credit union that elects to make a 
construction and development loan must also assure its commercial loan 
policy meets the following conditions:
    (1) Qualified personnel representing the interests of the federally 
insured credit union must conduct a review and approval of any line 
item construction budget prior to closing the loan;
    (2) A credit union approved requisition and loan disbursement 
process is established;
    (3) Release or disbursement of loan funds occurs only after on-site 
inspections, documented in a written report by qualified personnel 
representing the interests of the federally insured credit union, 
certifying that the work requisitioned for payment has been 
satisfactorily completed, and the remaining funds available to be 
disbursed from the construction and development loan is sufficient to 
complete the project; and

[[Page 37918]]

    (4) Each loan disbursement is subject to confirmation that no 
intervening liens have been filed.


Sec.  723.7  Prohibited activities.

    (a) Ineligible borrowers. A federally insured credit union may not 
grant a commercial loan to the following:
    (1) Any senior management employee, including the federally insured 
credit union 's chief executive officer, any assistant chief executive 
officers, and the chief financial officer (i.e., comptroller), and any 
of their immediate family members;
    (2) Any person meeting the definition of an associated borrower 
with respect to persons identified in paragraph (a)(1) of this section; 
or
    (3) Any compensated director, unless the federally insured credit 
union's board of directors approves granting the loan and the 
compensated director was recused from the board's decision making 
process.
    (b) Equity agreements/joint ventures. A federally insured credit 
union may not grant a commercial loan if any additional income received 
by the federally insured credit union or its senior management 
employees is tied to the profit or sale of any business or commercial 
endeavor that benefits from the proceeds of the loan.
    (c) Conflicts of interest. Any third party used by a federally 
insured credit union to meet the requirements of this part must be 
independent from the commercial loan transaction and may not have a 
participation interest in a loan or an interest in any collateral 
securing a loan that the third party is responsible for reviewing, or 
an expectation of receiving compensation of any sort that is contingent 
on the closing of the loan, with the following exceptions:
    (1) A third party may provide a service to the federally insured 
credit union that is related to the transaction, such as loan 
servicing.
    (2) The third party may provide the requisite experience to a 
federally insured credit union and purchase a loan or a participation 
interest in a loan originated by the federally insured credit union 
that the third party reviewed.
    (3) A federally insured credit union may use the services of a 
credit union service organization that otherwise meets the requirements 
of Sec.  723.3(b)(3) of this part even if the credit union service 
organization is not independent from the transaction, provided the 
federally insured credit union has a controlling financial interest in 
the credit union service organization as determined under GAAP.


Sec.  723.8  Aggregate member business loan limit; exclusions and 
exceptions.

    This section incorporates the statutory limits on the aggregate 
amount of member business loans that may be held by a federally insured 
credit union and establishes the method for calculating a federally 
insured credit union's net member business loan balance for purposes of 
the statutory limits and NCUA form 5300 reporting.
    (a) Statutory limits. The aggregate limit on a federally insured 
credit union's net member business loan balances is the lesser of 1.75 
times the actual net worth of the credit union, or 1.75 times the 
minimum net worth required under section 1790d(c)(1)(A) of the Federal 
Credit Union Act.
    (b) Definition. For the purposes of this section, member business 
loan means any commercial loan as defined in 723.2 of this part, except 
that the following commercial loans are not member business loans and 
are not counted toward the aggregate limit on a federally insured 
credit union's member business loans:
    (1) Any loan in which a federal or state agency (or its political 
subdivision) fully insures repayment, fully guarantees repayment, or 
provides an advance commitment to purchase the loan in full; and
    (2) Any non-member commercial loan or non-member participation 
interest in a commercial loan made by another lender, provided the 
federally insured credit union acquired the non-member loans and 
participation interests in compliance with all relevant laws and 
regulations and it is not, in conjunction with one or more other credit 
unions, trading member business loans to circumvent the aggregate 
limit.
    (c) Exceptions. Any loan secured by a lien on a 1- to 4-family 
residential property that is not the borrower's primary residence, and 
any loan secured by a vehicle manufactured for household use that will 
be used for a commercial, corporate, or other business investment 
property or venture, or agricultural purpose, is not a commercial loan 
but it is a member business loan (if the outstanding aggregate net 
member business loan balance is greater than $50,000) and must be 
counted toward the aggregate limit on a federally insured credit 
union's member business loans.
    (d) Statutory exemptions. A federally insured credit union that has 
a low-income designation, or participates in the Community Development 
Financial Institutions program, or was chartered for the purpose of 
making member business loans, or which as of the date of enactment of 
the Credit Union Membership Access Act of 1998 had a history of 
primarily making commercial loans, is exempt from compliance with the 
aggregate member business loan limits in this section.
    (e) Method of calculation for net member business loan balance. For 
the purposes of NCUA form 5300 reporting, a federally insured credit 
union's net member business loan balance is determined by calculating 
the outstanding loan balance plus any unfunded commitments, reduced by 
any portion of the loan that is secured by shares in the credit union, 
or by shares or deposits in other financial institutions, or by a lien 
on the member's primary residence, or insured or guaranteed by any 
agency of the federal government, a state or any political subdivision 
of such state, or subject to an advance commitment to purchase by any 
agency of the federal government, a state or any political subdivision 
of such state, or sold as a participation interest without recourse and 
qualifying for true sales accounting under generally accepted 
accounting principles.


Sec.  723.9  Transitional provisions.

    This section governs circumstances in which, as of the effective 
date of this part, a federally insured credit union is operating in 
accordance with an approved waiver from NCUA or is subject to any 
enforcement constraint relative to its commercial lending activities.
    (a) Waivers. Upon the effective date of this part, any waiver 
approved by NCUA concerning a federally insured credit union's 
commercial lending activity is rendered moot except for waivers granted 
for borrowing relationships limits as required in section 723.8 of the 
previous rule or similar provision in a grandfathered state rule. 
Borrowing relationships granted a waiver from that provision will be 
grandfathered however the debt associated with those relationships may 
not be increased
    (b) Enforcement Constraints. Limitations or other conditions 
imposed on a federally insured credit union in any written directive 
from NCUA, including but not limited to items specified in any Document 
of Resolution, any published or unpublished Letter of Understanding and 
Agreement, Regional Director Letter, Preliminary Warning Letter, or 
formal enforcement action, are unaffected by the adoption of this part. 
Included within this paragraph are any constraints or conditions 
embedded within any waiver issued by NCUA. As of the effective date of 
this part, all such

[[Page 37919]]

limitations or other conditions remain in place until such time as they 
are modified by NCUA.

PART 741--REQUIREMENTS FOR INSURANCE

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

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

Subpart B--[Amended]

0
6. Amend Sec.  741.203 by revising paragraph (a) to read as follows:


Sec.  741.203  Minimum loan policy requirements.

* * * * *
    (a) Adhere to the requirements stated in part 723 of this chapter 
concerning commercial lending and member business loans, Sec.  
701.21(c)(8) of this chapter concerning prohibited fees, and Sec.  
701.21(d)(5) of this chapter concerning non-preferential loans; and
* * * * *
[FR Doc. 2015-15466 Filed 6-30-15; 8:45 am]
 BILLING CODE 7535-01-P