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| ## Comptroller of the Currency                                        |
|                                                                       |
| > Administrator of National Banks                                     |
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Washington, DC 20219

##### Interpretive Letter #1032

June 16, 2005 **June 2005**

##### 12 CFR 37

Subject: **( the Company )**, GAP Program

Dear **( )**:

This letter responds to your letters dated November 17, 2004, and
January 20, 2005. In your letters you inquire whether the OCC's rule
governing debt cancellation contracts (DCCs)[^1] applies when a national
bank sells a "GAP Addendum" to borrowers in connection with the bank's
motor vehicle loans, in connection with a program administered by **(
the Company )** (proposed GAP program).

For the reasons discussed below, and based on the specific facts, we
conclude that GAP Addendums that a national bank sells in connection
with the proposed GAP program are DCCs, and are subject to the OCC's
rule governing DCCs.

#### I. Background

The proposed GAP program consists of three elements. First, the lender
enters into a GAP Addendum with borrowers who secure loans with
qualifying vehicles. The GAP Addendum is a contractual agreement between
the lender and its customer that a lender provides, for a fee, as an
addendum to the loan. The GAP Addendum protects a borrower from
financial hardship that may result if the borrower's motor vehicle is
involved in an accident and declared a total loss or if it is stolen and
not recovered, and the borrower is unable to pay the difference between
what his or her automobile insurance pays for the vehicle and the
remaining loan balance. Through the sale of the GAP Addendum, which
modifies the terms of the underlying loan, the lender agrees to cancel
any deficiency balance that may exist on the loan as the result of a
"total loss" or unrecovered theft of the motor vehicle collateral.

The second element involves the lender entering into a "GAP
Administrative Agreement" (Administrative Agreement) with **( )** (the
Company). Pursuant to the Administrative Agreement, the lender agrees to
market and sell a "GAP Addendum" to borrowers who finance their motor
vehicle purchases with the lender.[^2] In addition, the Administrative
Agreement provides that the Company will issue an insurance policy to
the lender that will cover the lender's risk associated with and the
amounts canceled by the lender under the GAP Addendum sold by the lender
to the borrower.[^3]

The third element of the program consists of the lender obtaining
insurance from the Company for each vehicle that is the subject of a GAP
Addendum. There is no direct relationship between the borrower and the
Company, and the borrower does not pay any fee to the Company.

Your letters urge that a GAP Addendum as described above should not be
characterized as a DCC subject to the OCC's rule governing DCCs. For the
reasons discussed below, we disagree.

**II. Discussion**

**A. The GAP Addendum is a DCC Subject to the OCC's Rule Governing
DCCs.**

A GAP Addendum sold by a national bank under the proposed GAP program is
a DCC subject to the OCC's rule. A DCC is "a loan term or contractual
arrangement modifying loan terms under which a bank agrees to cancel all
or part of a customer's obligation to repay an extension of credit from
that bank upon the occurrence of a specified event."[^4] The agreement
may be separate from or part of other loan documents.[^5] The GAP
Addendum is a DCC because it is "a contractual arrangement modifying
loan terms under which a bank agrees to cancel all or part of a
customer's obligation to repay an extension of credit from that bank
upon the occurrence of a specified event," *i.e.*, in this case, the
borrower's vehicle securing the bank's loan becomes a total loss as a
result of theft or physical damage. A national bank's direct sale of a
GAP Addendum is, therefore, subject to the OCC's rule governing
DCCs.[^6]

A national bank's sale of a GAP Addendum under the proposed GAP program
through unaffiliated, non-exclusive agents -- most notably automobile
dealers that make the bank's car loans and DCCs available to customers
-- is also subject to provisions of the OCC's rule governing DCCs.
However, in the context of closed-end consumer loan[^7] transactions
where DCCs are offered by a national bank through unaffiliated,
non-exclusive agents, the OCC has delayed the compliance date for
certain provisions that are linked to the rule's requirement that a
national bank that offers a customer the option to pay the fee for a DCC
in a single payment also offers that customer a *bona fide* option to
pay the fee on a periodic basis.[^8] Accordingly, until further notice,
unaffiliated, non-exclusive agents of a national bank that sell the
bank's GAP Addendum under the proposed GAP program are not required to
comply with certain provisions under the OCC's rule that are linked to
the rule's requirement to offer borrowers a periodic payment option in
connection with their purchase of a national bank's DCC.

B. A National Bank May Purchase Insurance to Cover Its Exposure from Its
Sales of DCCs.

The OCC's rule does not apply to the insurance that the Company provides
to a national bank under the proposed GAP program. The rule does not
prohibit a national bank from purchasing an insurance policy to cover
the bank's risk associated with and the amounts canceled by the bank
under a DCC, such as the GAP Addendum, sold by the bank to a borrower.
The OCC's rule requires a national bank to manage the risks associated
with DCCs in accordance with safe and sound banking principles. The rule
provides as follows:

> A national bank must manage the risks associated with debt
> cancellation contracts and debt suspension agreements in accordance
> with safe and sound banking principles. Accordingly, a national bank
> must establish and maintain effective risk management and control
> processes over its debt cancellation contracts and debt suspension
> agreements. Such processes include appropriate recognition and
> financial reporting of income, expenses, assets and liabilities, and
> appropriate treatment of all expected and unexpected losses associated
> with the products. A bank also should assess the adequacy of its
> internal control and risk mitigation activities in view of the nature
> and scope of its debt cancellation contract and debt suspension
> agreement programs.

12 C.F.R. § 37.8.

If appropriately structured, a national bank's purchase of insurance to
cover the bank's risk associated with, and the amounts canceled by, the
bank under a DCC can be consistent with the

safety and soundness requirements of the OCC's rule.[^9] If you have any
questions concerning this letter, please contact Asa L. Chamberlayne,
Counsel, Securities and Corporate Practices Division, at (202) 874-5210.

Sincerely,

/s/

Daniel P. Stipano

Acting Chief Counsel

**[Appendix A]{.underline}**

The provisions in the OCC's rule governing DCCs for which, until further
notice, compliance is not required when a national bank offers DCCs
through non-affiliated, non-exclusive agents, are as follows:

-   The requirement to offer a periodic payment option set forth in 12
    C.F.R. § 37.5.

-   The requirement set forth in 12 C.F.R. § 37.4(a) that a bank that
    offers a customer a DCC without a refund provision also must offer
    that customer a *bona fide* option to purchase a comparable DCC that
    provides for a refund.

-   The long-form disclosure requirement set forth in 12 C.F.R. § 37.6.

-   The second disclosure set forth in Appendix A to Part 37 (Short Form
    Disclosures), entitled "Lump sum payment of fee," informing the
    customer that he or she has the option to pay the fee in a single
    lump sum or in periodic payments.

-   The third disclosure set forth in Appendix A to Part 37 (Short Form
    Disclosures), entitled "Lump sum payment of fee with no refund,"
    informing the customer that he or she has the option to purchase a
    DCC with a refund provision.

-   The fifth disclosure set forth in Appendix A to Part 37 (Short Form
    Disclosures), entitled "Additional disclosures," indicating that the
    customer will receive additional information before being required
    to pay for the DCC.

-   The requirement to obtain a customer's written acknowledgment of
    receipt of disclosures set forth at 12 C.F.R. § 37.7(a).

68 Fed. Reg. 35284 (June 13, 2003).

Banks offering DCCs through non-affiliated, non-exclusive agents remain
subject to the following requirements:

-   The bank may not extend credit or alter the terms or conditions of
    an extension of credit conditioned upon the customer's purchase of a
    DCC.

-   The bank may not engage in any practice or use any advertisement
    that could mislead or otherwise cause a reasonable person to reach
    an erroneous belief with respect to information that must be
    disclosed under Part 37.

-   The bank may not offer DCCs that contain terms giving the bank the
    right unilaterally to modify the contract unless the modification is
    favorable to the customer and is made without additional charge to
    the customer; or the customer is notified of any proposed change and
    is provided a reasonable opportunity to cancel the contract without
    penalty before the change goes into effect.

-   If a DCC is terminated, the bank must refund to the customer any
    unearned fees paid for the contract unless the contract provides
    otherwise.

-   The bank shall calculate the amount of a refund using a method at
    least as favorable to the customer as the actuarial method.

-   If a bank offers the customer the option to finance the fee for a
    DCC, the bank must disclose to the customer whether and, if so, the
    time period during which, the customer may cancel the agreement and
    receive a refund.

-   A national bank must provide to the customer at the time of the
    initial solicitation of the DCC, the short form disclosures
    described in Appendix A to Part 37, as modified to reflect delay of
    the compliance date for providing the periodic payment option and
    related changes. The form of the short form disclosures must be
    readily understandable and meaningful. The short form disclosures
    also must be included in advertisements and other promotional
    material for DCCs, unless they are of a general nature.

-   Before entering into a contract, the bank must obtain a customer's
    written affirmative election to purchase the DCC. The written
    election must be conspicuous, simple, direct, readily
    understandable, and designed to call attention to its significance.

-   A national bank must manage the risks associated with DCCs in
    accordance with safe and sound banking principles.

*Id*.

[^1]: 12 C.F.R. Part 37.

[^2]: Under the terms of the Administrative Agreement, the lender also
    agrees to provide the Company a premium remittance report containing
    information regarding all of the lender's new GAP Addendum sales by
    the fifteenth (15) day of the month, accompanied by the appropriate
    premium remittance amounts the lender must pay the Company.

[^3]: Under the terms of the Administrative Agreement, the Company
    agrees that upon its receipt of a premium remittance report and the
    correct premium remittances from the lender, the Company will
    provide coverage under the GAP insurance policy for the collateral
    the lender specifies in the premium remittance report. In addition,
    the GAP Addendum provides that a borrower's claim under the GAP
    Addendum must be submitted to the Company.

[^4]: 12 C.F.R. § 37.2(f).

[^5]: *Id.*

[^6]: A national bank participating in the proposed GAP program must
    comply with all applicable provisions of the OCC's regulation
    governing DCCs, including the anti-tying requirement at 12 C.F.R.
    § 37.3(a).

[^7]: The term "closed-end consumer loan" refers to consumer credit
    other than open-end credit, as defined in 12 C.F.R. § 37.2(h).

[^8]: Attachment A describes the provisions in the OCC's rule governing
    DCCs for which, until further notice, compliance is not required
    when a national bank offers DCCs through non-affiliated,
    non-exclusive agents. Attachment A also describes the requirements
    in the OCC's rule with which national banks offering DCCs through
    non-affiliated, non-exclusive agents must continue to comply.

[^9]: *See* 67 Fed. Reg. 58,962, 58971 (September 19, 2002) (preamble to
    final rule adopting 12 C.F.R. § 37.8) (stating that the OCC's rule
    requires a bank to assess the adequacy of its internal control and
    risk mitigation activities, which would include the bank's purchase
    of third-party insurance, in view of the nature and scope of its DCC
    program).