[Federal Register Volume 86, Number 34 (Tuesday, February 23, 2021)]
[Rules and Regulations]
[Pages 11060-11085]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-28281]



[[Page 11059]]

Vol. 86

Tuesday,

No. 34

February 23, 2021

Part II





 National Credit Union Administration





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12 CFR Parts 701, 702, 709, et al.





Subordinated Debt; Final Rule

Federal Register / Vol. 86, No. 34 / Tuesday, February 23, 2021 / 
Rules and Regulations

[[Page 11060]]


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NATIONAL CREDIT UNION ADMINISTRATION

12 CFR Parts 701, 702, 709 and 741

RIN 3133-AF08


Subordinated Debt

AGENCY: National Credit Union Administration (NCUA).

ACTION: Final rule.

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SUMMARY: The NCUA Board (Board) is amending various parts of the NCUA's 
regulations to permit Low-income Designated Credit Unions, Complex 
Credit Unions, and New Credit Unions to issue Subordinated Debt for 
purposes of Regulatory Capital treatment. The Board issued the proposed 
Subordinated Debt rule at its January 2020 meeting. The Board is 
finalizing the rule largely as proposed, except for a few changes to 
various sections based on comments received. Such changes include 
amending the definition of Accredited Investor, providing a longer 
timeframe in which a credit union may issue Subordinated Debt after 
approval, reducing the required number of years of Pro Forma Financial 
Statements an Issuing Credit Union must provide with its application, 
clarifying the prohibition on Subordinated Debt issuances outside of 
the United States, and clarifying that the Board will publish a fee 
schedule only if it makes a determination to charge a fee.

DATES: This rule is effective January 1, 2022.

FOR FURTHER INFORMATION CONTACT: Policy: Tom Fay, Director of Capital 
Markets, Office of Examination and Insurance or Rick Mayfield, Senior 
Capital Markets Specialist, Office of Examination and Insurance. Legal: 
Justin M. Anderson, Senior Staff Attorney, Office of General Counsel, 
1775 Duke Street, Alexandria, VA 22314-3428. Tom Fay can be reached at 
(703) 518[dash]1179, Rick Mayfield can be reached at (703) 518-6501, 
and Justin Anderson can be reached at (703) 518[dash]6540.

SUPPLEMENTARY INFORMATION:

I. History

    At its January 2020 meeting, the Board issued a proposed 
Subordinated Debt rule (the proposed rule) to permit Low-income 
Designated Credit Unions \1\ (LICUs), Complex Credit Unions, and New 
Credit Unions to issue Subordinated Debt for purposes of Regulatory 
Capital treatment.\2\ This rule finalizes the proposed rule largely as 
proposed except for several amendments, which are discussed later in 
this document. The following is a brief history of secondary capital, 
Risk Based Capital (RBC) for credit unions, and the advent of 
alternative forms of capital, which ultimately resulted in the 
development of the proposed rule and this final rule.
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    \1\ Terms that are capitalized throughout this document are 
defined within the document or in the finalized regulatory text.
    \2\ 85 FR 13892 (March 10, 2020).
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A. Secondary Capital for LICUs

    In 1996, the Board finalized Sec.  701.34 of the NCUA's regulations 
(the Secondary Capital Rule) to permit LICUs to raise secondary capital 
from foundations and other philanthropic-minded non-natural person 
members and non-members.\3\ The Board issued the Secondary Capital Rule 
to provide an additional way for a LICU to attain Regulatory Capital to 
serve two specific purposes: (1) Support greater lending and financial 
services in the communities served by the LICU; and (2) absorb losses 
to prevent the LICU from failing.
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    \3\ See 61 FR 50696 (Sept. 27, 1996) (final rule); see also 61 
FR 3788 (Feb. 2, 1996) (interim final rule); 12 CFR 701.34.
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    In 1998, as part of the Credit Union Membership Access Act 
(CUMAA),\4\ Congress amended the Federal Credit Union Act (the FCU Act) 
to institute a system of prompt corrective action for federally insured 
credit unions based on a credit union's level of Net Worth. Relevant to 
this final rule, CUMAA specifically defined ``net worth'' to include, 
among other things, secondary capital issued by a LICU, provided the 
secondary capital is uninsured and subordinate to all other claims 
against the LICU, including the claims of creditors, shareholders, and 
the National Credit Union Share Insurance Fund (NCUSIF).\5\
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    \4\ Credit Union Membership Access Act of 1998, Public Law 105-
219, sec. 301, 112 Stat. 913, 929 (codified at 12 U.S.C. 
1790d(o)(2)(C) (1998)).
    \5\ Id.
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    In 2006, the Board further amended Sec.  701.34 to require 
regulatory approval of a LICU's secondary capital plan before a LICU 
could issue secondary capital.\6\ In the preamble to the final 2006 
rule, the Board noted that LICUs had sometimes used secondary capital 
to achieve goals different from those for which it was originally 
intended. It also highlighted a pattern of ``lenient practices'' by 
LICUs that issued secondary capital. These practices contributed to 
excessive net operating costs, high losses from loan defaults, and a 
shortfall in revenue.\7\
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    \6\ 71 FR 4234 (Jan. 26, 2006).
    \7\ Id. at 4236. Before 2006, a LICU was required to submit a 
copy of its secondary capital plan to the NCUA, but it was not 
required to obtain preapproval.
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    The Secondary Capital Rule \8\ provides that secondary capital 
accounts must:
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    \8\ 12 CFR 701.34. The last substantive amendment to the 
Secondary Capital Rule was in 2010 with the addition of language 
regarding secondary capital received under the Community Development 
Capital Initiative of 2010. 75 FR 57843 (Sept. 23, 2010).
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    <bullet> Be established as an uninsured secondary capital account 
or another form of non-share account;
    <bullet> Have a minimum maturity of five years;
    <bullet> Not be insured by the NCUSIF or any governmental or 
private entity;
    <bullet> Be subordinate to all other claims against the LICU, 
including those of shareholders, creditors, and the NCUSIF;
    <bullet> Be available to cover losses that exceed the LICU's net 
available reserves and, to the extent funds are so used, a LICU may not 
restore or replenish the account under any circumstances.\9\ Further, 
losses must be distributed pro rata among all secondary capital 
accounts held by the LICU at the time the loss is realized;
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    \9\ This generally means that, when net operating losses exceed 
Retained Earnings, a LICU needs to first use the secondary capital 
funds to cover the excess amount.
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    <bullet> Not be pledged or provided by the investor as security on 
a loan or other obligation with the LICU or any other party;
    <bullet> Be evidenced by a contract agreement between the investor 
and the LICU that reflects the terms and conditions mandated by the 
Secondary Capital Rule and any other terms and conditions not 
inconsistent with that rule;
    <bullet> Be accompanied by a disclosure and acknowledgment form as 
set forth in the appendix to the Secondary Capital Rule;
    <bullet> Not be repaid, including any interest or dividends earned 
thereon, if the Board has prohibited repayment thereof under Sec.  
702.204(b)(11), Sec.  702.304(b), or Sec.  702.305(b) of the NCUA's 
regulations because the LICU is classified as ``Critically 
Undercapitalized''; or, if a LICU is a New Credit Union (as defined 
under Sec.  702.2 of the NCUA's regulations), as ``Moderately 
Capitalized,'' ``Marginally Capitalized,'' ``Minimally Capitalized,'' 
or ``Uncapitalized;''
    <bullet> Be recorded on the LICU's balance sheet; \10\
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    \10\ While the Secondary Capital Rule requires a LICU to record 
secondary capital accounts on its balance sheet as ``equity 
accounts,'' generally accepted accounting principles in the United 
States generally require financial institutions to record secondary 
capital accounts as ``debt.'' See FASB (Financial Accounting 
Standards Board), ASC 942[dash]405[dash]25[dash]3 and 25[dash]4. The 
instructions to the 5300 Call Report require all federally insured 
credit unions to report any secondary capital in the Liability 
section of the Statement of Financial Condition.

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[[Page 11061]]

    <bullet> Be recognized as Net Worth in accordance with the schedule 
for recognizing Net Worth value in paragraph (c)(2) of the Secondary 
Capital Rule;
    <bullet> Be closed and paid out to the account investor in the 
event of merger or other voluntary dissolution of a LICU, to the extent 
the secondary capital is not needed to cover losses at the time of the 
merger or dissolution (does not apply in the case where a LICU merges 
into another LICU); and
    <bullet> Only be repaid at maturity \11\ except that, with the 
prior approval of the NCUA and provided the terms of the account allow 
for early repayment, a LICU may repay any portion of secondary capital 
that is not recognized as Net Worth.\12\
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    \11\ A LICU may not issue a secondary capital account that 
amortizes over its stated term.
    \12\ See 12 CFR 701.34(d).
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    The Secondary Capital Rule also includes requirements related to 
secondary capital plan submissions and approvals, redemption of 
secondary capital, disclosures, and Regulatory Capital treatment.
    As noted previously, since the passage of CUMAA, the NCUA permits a 
LICU that issues secondary capital to include the aggregate outstanding 
principal amount of that secondary capital, in accordance with the 
schedule for Net Worth,\13\ as part of its Net Worth. Further, pursuant 
to the NCUA's currently effective risk-based net worth requirements, 
the NCUA also permits a LICU to include such secondary capital in its 
risk-based net worth calculation. By contrast, a non-LICU does not have 
the statutory authority to issue secondary capital and, to the extent a 
non-LICU issues an instrument that is analogous to secondary capital, 
to include any such instruments in its Net Worth (or its risk-based net 
worth) calculation.
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    \13\ Id. Sec.  701.34(c)(2).
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B. Subordinated Debt for LICUs and Certain Non-LICUs

1. RBC
    In October 2015, the Board finalized a rule to replace the current 
risk-based net worth requirement with an RBC requirement.\14\ Under the 
revised standard, the NCUA permits a LICU to include secondary capital 
in its RBC calculations in the same manner as it currently includes 
secondary capital in its risk-based net worth calculation. Under the 
proposed rule, the Board proposed to grant certain non-LICUs the 
authority to issue instruments in the form of Subordinated Debt and 
allow such credit unions to count those instruments in their respective 
RBC calculations. This new authority, however, would not permit non-
LICUs to include Subordinated Debt in their Net Worth calculations.
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    \14\ 80 FR 66626 (Oct. 29, 2015). The Board has delayed the 
effective date for the final RBC rule two times. First, in 2018, the 
effective date was delayed by one year, from January 1, 2019, to 
January 1, 2020. 83 FR 55467 (Nov. 6, 2018). Second, based on Board 
action at the December 2019 Board meeting, the effective date was 
delayed two additional years, from January 1, 2020 to January 1, 
2022.
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    In the proposed RBC rule issued in 2015,\15\ the Board requested 
stakeholder input on supplemental capital.\16\ A majority of commenters 
that addressed supplemental capital stated it was imperative that the 
Board consider allowing credit unions to issue additional forms of 
capital. The commenters suggested this authority was particularly 
important, as credit unions are at a disadvantage in the financial 
marketplace because most lack access to additional capital outside of 
Retained Earnings.
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    \15\ 80 FR 4340 (Jan. 27, 2015).
    \16\ Id. at 4384. The Board notes that when the agency began to 
consider authorizing non-LICU credit unions to issue instruments 
analogous to secondary capital instruments issued by LICUs, it used 
the term ``supplemental capital'' to refer to those instruments. In 
2017, when the Board issued an advance notice of proposed rulemaking 
on this topic, the NCUA used the umbrella term ``alternative 
capital'' to refer to both supplemental capital and secondary 
capital. In light of FCUs' authority only to issue debt instruments, 
however, the Board believes it is more accurate to use the umbrella 
term ``Subordinated Debt'' to refer to both secondary capital and 
what was once referred to as supplemental capital. It is important 
to note that, unless the context otherwise requires, the term 
``Subordinated Debt'' refers to both types of debt instruments.
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    While none of the commenters offered specific suggestions on how to 
implement supplemental capital, a few suggested that the Board 
promulgate broad, non-prescriptive rules to allow credit unions maximum 
flexibility in issuing supplemental capital.
2. 2017 Advance Notice of Proposed Rulemaking
    On February 8, 2017, the Board published an advance notice of 
proposed rulemaking (ANPR) to solicit comments on alternative forms of 
capital credit unions could use to meet capital standards required by 
statute and regulation.\17\ In response, the Board received 756 
comments.
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    \17\ 82 FR 9691 (Feb. 8, 2017).
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    Of the 756 comments received, 688 appeared to be derived from one 
form letter \18\ that opposed the NCUA proceeding with a supplemental 
capital proposal. In addition to the form letter, the Board received 68 
unique comments in response to the ANPR, most of which supported 
proposing a rule to allow non-LICUs to issue an alternative form of 
capital. A majority of the commenters in favor of the Board issuing a 
proposed rule cited compliance with the NCUA's RBC rule \19\ as the 
main reason for their support. Other justifications for support 
proposed by commenters included credit union growth, protection from 
economic downturns, and providing services demanded by members.
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    \18\ While there were slight modifications to some letters, the 
substance of each was the same.
    \19\ 80 FR 4340 (Jan. 27, 2015).
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    In general, the comments lacked specificity, and very few 
commenters addressed all or even most of the questions posed by the 
Board. Nevertheless, the comments covered a wide range of topics and 
offered varying levels of support for provisions suggested in the ANPR. 
As noted in the proposed rule, the Board considered all comments 
received in response to the ANPR during the Subordinated Debt 
rulemaking process.

II. Proposed Rule

    At its January 2020 meeting, the Board issued the proposed rule to 
permit LICUs, Complex Credit Unions, and New Credit Unions to issue 
Subordinated Debt for purposes of Regulatory Capital treatment.\20\ 
Specifically, the proposed rule included a new subpart in the NCUA's 
final RBC rule \21\ to address the requirements for, and Regulatory 
Capital treatment of, Subordinated Debt. The proposed subpart also 
contained requirements related to credit union eligibility to issue 
Subordinated Debt, applying for NCUA authority to issue Subordinated 
Debt, disclosures, securities laws, the terms of a Subordinated Debt 
Note, and prepayments.
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    \20\ 85 FR 13892 (Mar. 10, 2020).
    \21\ 80 FR 4340 (Jan. 27, 2015).
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    The proposed rule also provided for the grandfathering of any 
secondary capital issued before the effective date of a final 
Subordinated Debt rule (Grandfathered Secondary Capital) and preserved 
the Regulatory Capital treatment of Grandfathered Secondary Capital for 
up to 20 years after the effective date of a final Subordinated

[[Page 11062]]

Debt rule.\22\ Under the proposed rule, Grandfathered Secondary Capital 
would generally remain subject to the requirements in the Secondary 
Capital Rule. For ease of reference, the requirements in the Secondary 
Capital Rule would be moved from their current location to a section in 
the new proposed subpart.
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    \22\ Grandfathered Secondary Capital will be considered as 
Regulatory Capital in accordance with the approved application, 
terms of the note, and the applicable schedule for recognizing 
secondary capital as Net Worth, provided that no such term may 
exceed 20 years.
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    Conversely, any issuances of secondary capital not completed by the 
effective date of this subpart would be subject to the requirements 
applicable to Subordinated Debt discussed elsewhere in this subpart. 
This change would not impact a LICU's ability to include such 
instruments in its Net Worth.
    In addition to these changes, the proposed rule included additions 
and amendments to other parts and sections of the NCUA's regulations. 
Specifically, the proposed rule included:
    <bullet> A new section that addresses limits on loans to other 
credit unions;
    <bullet> An expansion of Sec.  701.38 (``the borrowing rule'') to 
clarify that Federal credit unions (FCUs) can borrow from any source;
    <bullet> Revisions to the RBC rule \23\ and the payout priorities 
in the NCUA's involuntary liquidation rule (12 CFR part 709) to account 
for Subordinated Debt and Grandfathered Secondary Capital; and
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    \23\ 80 FR 4340 (Jan. 27, 2015).
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    <bullet> Cohering changes to part 741 to account for other changes 
that apply to federally insured, state-chartered credit unions 
(FISCUs).
    The proposed rule provided for a 120-day comment period, which 
ended in July 2020.

III. Final Rule and Public Comments on Proposed Rule

    The NCUA received 171 comment letters in response to the proposed 
rule, which included letters from credit union trade associations, 
credit unions, state and regional credit union leagues, bank trade 
organizations, corporate credit unions, banks, law firms, securities 
brokers, and individuals. Of the 171 comment letters, 125 appear to 
have been generated from one form letter opposing the rule.\24\
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    \24\ While there were slight modifications to some letters, the 
substance of each letter was the same.
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    Nearly all the remaining commenters supported the proposed rule, 
but did offer at least one suggested change. Supporting commenters 
generally reiterated the need for Subordinated Debt and the NCUA's 
legal authority to authorize it. These commenters, however, varied 
widely on changes requested in a final Subordinated Debt Rule.
    The Board notes that, in October 2020, the Board finalized a rule 
related to corporate credit unions \25\ in which the Board indicated it 
would finalize a change related to a corporate credit union's purchase 
of Subordinated Debt in a final Subordinated Debt rule. While it is the 
Board's intent to finalize the change to the corporate credit union 
rule, it thought it best to bring that item separately, but in the near 
future.
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    \25\ 85 FR 71817 (Nov. 12, 2020).
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A. Comments Opposing Proposed Rule

    As noted previously, all of the form letters and a few unique 
letters opposed the proposed rule in its entirety. In summary, these 
comments contained three general arguments in opposition to the 
proposed rule.
    First, these commenters stated that allowing credit unions to issue 
Subordinated Debt for Regulatory Capital purposes ``undermines the 
foundation of credit unions' tax exempt status.'' In support of this 
assertion, commenters stated that ``credit unions are afforded tax-
exempt status in part because they lack access to capital markets to 
raise equity. If this rule is adopted, that constraint will be 
obliterated, giving credit unions fuel to grow well beyond their 
mission of serving people of small means.'' These commenters also 
stated that the proposed rule was concerning in ``context of NCUA's 
methodical work to knock down the other pillars of the credit union tax 
exemption compact, including the field of membership expansion, the 
low-income designation expansion, and the proposal to speed credit 
unions' purchases of banks.''
    Second, these commenters generally stated that the proposed rule 
``usurps Congressional authority by approving the use of investor-
raised funds to satisfy regulatory capital requirements, an area 
Congress clearly restricted to retained earnings in the Federal Credit 
Union Act.'' The commenters did not offer further support for this 
statement.
    Finally, these commenters stated that the proposed rule would pose 
significant risk to the NCUSIF. These commenters stated that the NCUA 
has acknowledged that secondary capital has contributed to rapid growth 
and higher failure rates in credit unions that issue secondary capital. 
The commenters went on to state that expanding the authority to issue 
Subordinated Debt to the largest credit unions will pose significant 
risk to the NCUSIF and constitutes irresponsible behavior by the NCUA.
    The Board disagrees with these commenters on all three assertions. 
First, as articulated in the proposed rule and reproduced later in this 
document, FCUs have the legal authority to issue Subordinated Debt, and 
the Board has the authority to include such instruments in the RBC 
calculation.
    With respect to the tax exemption argument, the Board reiterates 
its statements in the proposed rule that, under the FCU Act, FCUs are 
permitted to borrow from any source.\26\ The Board was meticulous in 
crafting this final rule to ensure Subordinated Debt instruments remain 
squarely in the form of borrowings, as permitted by the FCU Act. The 
Board, therefore, has no reason to believe that the continuation of an 
already permissible activity would in any way jeopardize the tax-exempt 
status of FCUs. Further, the Board will require a FISCU to issue an 
instrument that meets the same requirements as an instrument issued by 
an FCU if the FISCU wants such instrument to be included in its RBC 
calculation. This is described more fully later in this document. The 
Board was made this intentional decision in part to help preserve 
FISCUs' tax-exempt status which, as discussed below, differs from that 
of FCUs.
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    \26\ 12 U.S.C. 1757(9).
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    Finally, the Board has included many safeguards in the final rule 
to ensure that Subordinated Debt acts as a buffer to reduce risk to the 
NCUSIF rather than increase risk, as asserted by the aforementioned 
commenters. The Board is confident that the framework of the final rule 
will help protect the NCUSIF.

B. Comments Supporting, But Suggesting Changes to, the Proposed Rule

    The comments described in this section support the proposed rule, 
but offered suggested changes and amendments. In each section the Board 
briefly summarizes and responds to comments, with an indication of 
whether the Board has changed the final rule or has finalized a section 
as proposed. The Board notes that the following content is organized by 
the number of commenters that addressed a particular topic and the 
impact of a particular section on the rest of the rule. The Board 
believes this organization will help readers ascertain which topics 
were the most commented-on and complex. While the Board chose this 
organization for ease of use, the Board notes that it evaluates all 
comments and

[[Page 11063]]

topics equally, regardless of number or the depth of the comments.
1. Subordinated Debt Is a Security
    The proposed rule included a comprehensive description of 
Subordinated Debt as a security and described general securities law 
that may apply to Subordinated Debt issued by a credit union. This 
section of the proposed rule stated that the NCUA continues to believe 
any Subordinated Debt Note would be deemed a security for purposes of 
Federal and state securities law. This section went on to provide the 
definition of a ``security'' under the Securities Act of 1933 and 
interpretations of such term by various courts, including the U.S. 
Supreme Court.
    Twelve commenters disagreed with the NCUA's assertion that all 
Subordinated Debt issued under the proposed rule would be a security 
for purposes of Federal and state securities laws. The majority of 
these commenters stated that such a classification would result in an 
overly complex and expensive set of requirements, including the 
preparation of an Offering Document and the retention of securities 
counsel, that would make many small issuances of Subordinated Debt 
cost-prohibitive for LICUs.
    One commenter stated that ``currently, the issuance of secondary 
capital is largely accomplished through what is best described as 
bilaterally negotiated lending transactions. The NCUA has not suggested 
that this practice would be discontinued in the case of subordinated 
debt, and it is reasonable to believe that many market offerings would 
continue to be conducted in this way.'' This commenter went on to state 
that, because of the use of these bilateral-type agreements, the NCUA 
should refrain from implementing a blanket approach to securities law 
compliance.
    Other commenters believed a blanket classification of Subordinated 
Debt as a security would negatively impact LICUs and small issuances. 
Further, many of these commenters urged the NCUA to consider a more 
flexible approach that follows the exemptions provided for in the 
Security and Exchange Commission's (SEC's) rules and the Office of the 
Comptroller of the Currency's (OCC's) subordinated debt regulation. 
Specifically, one commenter stated that the proposed rule would require 
an Issuing Credit Union to prepare and deliver an Offering Document to 
potential investors ``even though there is no SEC-mandated disclosure 
requirements for offerings of securities pursuant to the section 
3(a)(5) exemption, and there generally are no SEC-mandated disclosure 
requirements for offerings of securities pursuant to the Rule 506 [17 
CFR 230.506] private placement exemption as long as all purchasers in 
the offering are `accredited investors.' '' This commenter went on to 
state that there ``already exists a U.S. securities law framework which 
applies to such exempt issuances, and that framework stipulates that 
registration and disclosure requirements are not necessary in these 
cases. It is unnecessary, improper, and unduly burdensome for NCUA to 
impose such requirements on exempt credit union issuers when U.S. 
securities law does not impose these requirements.''
    In response to the aforementioned comments, the Board first 
reiterates that section 2(1) of the Securities Act broadly defines the 
term ``security'' to include, among other things, any:
    <bullet> Stock;
    <bullet> Note;
    <bullet> Bond;
    <bullet> Debenture;
    <bullet> Evidence of indebtedness;
    <bullet> Investment contract; or
    <bullet> Interest or instrument commonly known as a security.\27\
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    \27\ 15 U.S.C. 77b.
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    Further, the U.S. Supreme Court has repeatedly emphasized that the 
definition of ``security'' is quite broad. The U.S. Supreme Court, in a 
variety of cases analyzing the boundaries of the definition, has 
stressed that the substantive characteristics of the instrument in 
question and the circumstances surrounding its issuance, rather than 
the mere name or title of the instrument, are of primary significance 
in determining whether the instrument, contract, or arrangement in 
question will be deemed a ``security.'' While lower Federal courts and 
some state courts have sometimes taken a narrower view than the Supreme 
Court, common factors the courts generally consider in their analysis 
(particularly in the context of a debt instrument, contract or 
arrangement) include:
    <bullet> The terms of the offer;
    <bullet> The characteristics of the economic inducement being 
offered to the potential counterparty, and whether the characteristics 
are consistent with a loan or typical extension of credit, or such that 
the counterparty would anticipate a potential return on investment in 
addition to repayment of the obligation and any stated interest;
    <bullet> The plan of distribution;
    <bullet> How an instrument is marketed and to whom it is marketed, 
and whether the potential counterparties are traditional lenders/
providers of credit or investors who would anticipate a potential 
return on investment in addition to repayment of the obligation and any 
stated interest; and
    <bullet> The ``family resemblance'' of the instrument to other 
instruments or arrangements that have been found to fall within the 
definition of a ``security,'' rather than having characteristics more 
akin to a loan or typical extension of credit.
    As the preceding information demonstrates, the definition of a 
security is quite broad and encompassing. As such, the Board again 
acknowledges that Subordinated Debt Notes issued under the Subordinated 
Debt rule, as finalized herein, fit within the definition of a 
security. Inclusion in such definition may subject issuances to various 
Federal and state laws and regulations.
    The Board's statement in both the proposed rule and this final rule 
that Subordinated Debt Notes would be securities is an acknowledgment 
of such fact and has no bearing on the treatment of such notes by the 
SEC or state regulators. Rather, after consultation with outside 
securities law counsel, the Board recognizes that Subordinated Debt 
Notes issued under this final rule are likely (to some degree) to be 
subject to the multitude of Federal and state securities laws--
particularly those related to disclosures and anti-fraud. The Board 
believes it is prudent and responsible to adopt a framework, as 
discussed in the proposed rule, to aid Issuing Credit Unions in 
providing Offering Documents to investors. As a prudential regulator, 
it is incumbent upon the NCUA to include in a rulemaking of this 
complexity provisions to help ensure credit unions comply with 
regulatory or statutory requirements, and to help credit unions avoid 
legal challenges from investors.
    The Board reiterates that for all Issuing Credit Unions, the 
issuance of Subordinated Debt may be a new activity. While LICUs have 
been issuing secondary capital for several decades, this will be the 
first time the NCUA has permitted LICUs to issue instruments to 
qualifying natural persons. Because this is a new and complex activity 
for all Issuing Credit Unions, in consultation with outside counsel, 
the Board views the Offering Document process to as helping Issuing 
Credit Unions navigate complex disclosures and anti-fraud laws. 
However, the Board notes that the Offering Document is independent of 
and, in some cases, additive to any requirements imposed by applicable 
securities laws. The Board reiterates its expectation that credit 
unions

[[Page 11064]]

contemplating an issuance of Subordinated Debt Notes retain 
professional advisors experienced in securities law disclosure matters 
to help them prepare related Offering Documents. In short, the Board 
continues to believe that Subordinated Debt Notes issued under this 
final rule would be securities. Therefore, the Board is taking a 
prudential stance by finalizing, as proposed, the various provisions 
related to securities law that appeared in the proposed rule. The Board 
believes that, in the infancy of Subordinated Debt issuances, such 
provisions are transparent and will help Issuing Credit Unions navigate 
and properly issue Subordinated Debt Notes (in consultation with 
counsel). The Board further notes that the disclosures required by this 
final rule are akin to those most investors are accustomed to seeing in 
the marketplace, which may make issuances of Subordinated Debt Notes 
less costly for some Issuing Credit Unions.
a. Exemptions for Certain Subordinated Debt Issuances
    In addition to the aforementioned comments, several commenters 
stated that the OCC's requirements for national banks offering 
subordinated debt are less restrictive than what the Board proposed for 
credit unions. Commenters noted that the OCC requires banks that issue 
subordinated debt to comply with Sec.  16.5 of the Federal Deposit 
Insurance Corporation's (FDIC's) Securities Offering Disclosure Rule, 
which contains several exemptions to the prospectus delivery 
requirement, including exemptions for nonpublic offerings and small 
issuances made in conformance with applicable SEC rules.\28\ To align 
with regulations issued by the OCC and FDIC, these commenters stated 
that the NCUA should consider a more flexible approach.
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    \28\ 12 CFR 16.5
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    The Board is aware that the FDIC's Securities Offering Disclosure 
Rule \29\ contains exemptions that were not included in the proposed 
rule and are not included in this final rule. First, related to the 
preceding section of this document, the Board notes that while the OCC 
and FDIC provide exemptions for certain issuances, the OCC and FDIC 
still deem such issuances to be securities. Rather, the OCC and FDIC 
have provided exemptions from registration and delivery of an Offering 
Document for issuances of securities that satisfy certain requirements.
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    \29\ Id.
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    Second, the Board notes that the OCC has supervised--and banks have 
engaged in--subordinated debt transactions for many years. As noted 
previously, this final rule will be, to some degree, a new endeavor for 
many Issuing Credit Unions. The Board believes it is both prudent and 
necessary to maintain the proposed guardrails to help Issuing Credit 
Unions comply with applicable securities laws, particularly those 
related to anti-fraud. As the NCUA and credit unions move forward with 
this final rule, the Board will continue to evaluate the rule and may 
undertake future rulemakings to provide exemptions where they are both 
warranted and prudent for Issuing Credit Unions.
2. Offering Document
    In addition to comments related to the applicability of securities 
laws and exemptions from submitting an Offering Document, as discussed 
previously, several commenters offered specific comments on the 
requirement that an Issuing Credit Union create an Offering Document 
for each issuance of Subordinated Debt. Generally, these commenters 
opposed the Offering Document process, or at least requested an 
exemption or streamlined process for certain issuances.
    One commenter stated that the NCUA should include exemptions for 
certain issuances of Subordinated Debt, similar to the OCC and FDIC. 
This commenter contended that such exemptions would lower regulatory 
burden on smaller institutions and bring the NCUA's regulation more in 
line with the OCC's, FDIC's, and SEC's disclosure requirements. This 
commenter went on to state that almost every current issuance of 
secondary capital would be exempt from the Offering Document process 
under the OCC's Subordinated Debt regulation.
    Another commenter stated that ``the NCUA's documentation 
requirement goes beyond that of the OCC, which permits a bank seeking 
to issue securities to tailor its approach to the relevant securities 
registration exemption--and associated market practice--that meets its 
needs.'' This commenter went on to state that ``the NCUA's requirement 
could result in credit unions having higher burdens--and less 
transaction flexibility--than their community bank counterparts.'' 
Finally, this commenter argued that the NCUA's requirements would be 
similar to those imposed by the SEC on public offerings, which, in the 
commenter's view, would hinder the credit union industry, which would 
largely be engaging in small, private issuances.
    Another commenter suggested that instead of the NCUA's proposed 
approach to Offering Documents, the NCUA should require a potential 
credit union issuer--as part of its initial application to issue 
Subordinated Debt--to explain how its approach to due diligence, 
disclosure, and securities law considerations is reasonable given the 
specifics of an issuance. In support, this commenter stated that this 
approach would provide flexibility while accounting for the varying 
types of issuances and varying degrees of investor sophistication.
    Another commenter suggested the Board detach the Offering Document 
from the application process, and instead make approval contingent on 
the inclusion of an offering circular to comply with 17 CFR 240.10b-5 
and other disclosures the NCUA deems appropriate. This commenter stated 
that this would allow a credit union to defer the legal costs 
associated with preparing an Offering Document until the credit union 
was ready to execute its Subordinated Debt strategy.
    Finally, one commenter requested that the NCUA explicitly require 
issuers to disclose all pending legal or other items that could have a 
negative impact on the credit union's capital, income, or operating 
performance. This commenter stated that such information was necessary 
for an investor to make a well-informed decision.
    For the reasons articulated in the proposed rule and those 
discussed previously, the Board is finalizing the sections relating to 
the Offering Document as proposed. In addition to the previous 
discussion related to Subordinated Debt as a security, the Board 
continues to believe that a robust Offering Document is prudent for 
credit unions that issue Subordinated Debt.
    As noted in the proposed rule, the Offering Document is designed to 
provide investors with disclosures that provide the information they 
need to make an informed decision on purchasing Subordinated Debt. 
Further, the Board modeled the Offering Document from disclosures 
common in the marketplace for this type of instrument. Because 
Subordinated Debt is a security and thus subject to the broad antifraud 
provisions of the Securities Exchange Act, as codified in the SEC's 
regulations,\30\ the Board intends the Offering Document to be an aid 
for credit unions and an extra level of protection for investors.
---------------------------------------------------------------------------

    \30\ 17 CFR 240.10b-5.
---------------------------------------------------------------------------

    In response to commenters seeking an exemption for certain types of 
Subordinated Debt transactions, the Board may consider such actions in 
future rulemakings. However, as noted

[[Page 11065]]

previously, because this is a new endeavor for many Complex and New 
Credit unions and this is the first time LICUs will be permitted to 
issue Subordinated Debt to natural persons, the Board believes it is 
important to take a measured approach to the issuance of these 
instruments. The Board believes a ``walk before you run'' approach in 
this area is both prudent and necessary.
    Finally, the Board believes that third parties may produce Offering 
Document templates to help credit unions issue Subordinated Debt more 
efficiently, while still complying with this rule and applicable 
securities laws. The creation of such templates may help defray some of 
the cost for Issuing Credit Unions. The Board encourages such 
collaboration in the industry, provided it is compliant with the final 
rule and all applicable securities laws. The Board notes, however, that 
the use of any template Offering Document must be customized to a 
credit union's specific issuance and accurately disclose the specific 
aspects that are unique to the Issuing Credit Union.
    For the reasons discussed above, the Board is finalizing the 
Offering Document, and sections related thereto, as proposed.
3. Preapproval To Issue Subordinated Debt
    The proposed rule required that eligible credit unions submit an 
application and receive written preapproval from the NCUA before 
issuing Subordinated Debt. The proposed application process consisted 
of an eligible credit union providing the Appropriate Supervision 
Office information on 15 topics as part of the initial application. In 
addition, the Board proposed to amend the NCUA's review time of such 
application from 45 days with automatic approval (as in the Secondary 
Capital Rule) to 60 days, with no automatic approval. The Board also 
proposed to expire any approval granted under the rule one-year from 
the date of such approval.
    Most of the commenters that supported the proposal addressed at 
least some aspect of the proposed application process. The commenters 
generally focused on:
    <bullet> Reducing the complexity of the application process;
    <bullet> The timing for NCUA approval of an application;
    <bullet> The requirement to issue Subordinated Debt within one-year 
from the approval of an application;
    <bullet> Subordinated Debt Note restrictions; and
    <bullet> The requirement to provide at least five years of Pro 
Forma Financial Statements.
a. Application Requirements
    Approximately 13 commenters either stated that the preapproval 
requirements to issue Subordinated Debt were too burdensome or 
requested that the NCUA streamline the process. While some commenters 
appreciated the clarity in the proposed preapproval requirements, this 
subset of commenters felt that the preapproval requirements were too 
cumbersome and would discourage many credit unions from issuing 
Subordinated Debt.
    Some commenters stated that the preapproval process should not be a 
one-size-fits-all approach, but should reflect the complexity of the 
proposed issuance. Several of these commenters stated that the NCUA 
should retain its current ``Secondary Capital Plan'' requirements. In 
addition, two commenters stated that if the NCUA retains the proposed 
preapproval requirements, the final rule should provide for a 
streamlined process for subsequent preapproval requests from previously 
approved credit unions.
    As stated in the proposed rule, the Board remains dedicated to a 
requirement for an eligible credit union to obtain written preapproval 
before issuing Subordinated Debt, as it views this step as an important 
prudential safeguard. The Board believes a preapproval process is part 
of a credit union's sound management plan, and will help the NCUA 
ensure that a planned issuance of Subordinated Debt is structured in 
such a manner as to appropriately protect the Issuing Credit Union and 
the NCUSIF.
    While the Board recognizes the many potential benefits that an 
issuance of Subordinated Debt Notes may confer on an Issuing Credit 
Union, it also appreciates the complexities and risks of such issuance. 
The decision to offer and sell Subordinated Debt Notes should be made 
only after careful consideration, preparation, and diligence by the 
Issuing Credit Union, including seeking professional advice as 
warranted. For these reasons, the Board is retaining this important 
prudential safeguard and will adopt the preapproval requirements as 
proposed.
b. NCUA Review Time of Application
    As noted previously, the proposed rule increased the review time of 
an initial application to 60 days from the Secondary Capital Rule's 
period of 45 days.\31\ In addition, the proposed rule removed the 
automatic approval that exists in the Secondary Capital Rule if the 
NCUA fails to respond before the expiration of the 45-day period. 
Approximately 13 commenters opposed these proposed changes.
---------------------------------------------------------------------------

    \31\ 12 CFR 701.34(b)(2)).
---------------------------------------------------------------------------

    Generally, these commenters stated that a longer approval process 
with no automatic approval would impose unnecessary burdens on credit 
unions seeking to issue Subordinated Debt. These commenters urged the 
NCUA to retain the approval timing and structure in the Secondary 
Capital Rule. One commenter stated that the NCUA should concurrently 
review a credit union's application and Offering Document, asserting 
that consecutive rather than concurrent reviews could place a credit 
union at a competitive disadvantage and frustrate a credit union's 
efforts to issue Subordinated Debt. Further, this commenter stated that 
an overly long review process could result in ``stale'' data, which may 
not be useful to the NCUA or investors.
    As stated in the proposed rule, the Board believes the expanded 
requirements for initial applications are broader than the Secondary 
Capital Rule requirements and that the enhanced description of 
diligence expectations will require a more thorough review by the 
Appropriate Supervision Office. While the Board anticipates that the 
clear, transparent structure of the application requirements will lead 
to increased efficiency from both credit unions and the agency, the 
Board believes the extra time is warranted to ensure an application is 
sufficient for an Appropriate Supervision Office to make a well-
informed decision. Further, the Board notes that the complexity of a 
Subordinated Debt issuance will drive both the veracity of a credit 
union's application and the NCUA's review time. As such, the Board 
anticipates that the increased time for review will have little impact 
on most smaller, simple issuances. Therefore, the Board is retaining, 
as proposed, the 60-day timeframe for NCUA review of applications.
c. Expiration of Authority
    The proposed rule included a provision that would require the 
expiration of an Issuing Credit Union's authority to issue Subordinated 
Debt Notes one year from the later of:
    <bullet> The date the Issuing Credit Union received NCUA approval 
of its initial application (if the proposed offering is to be made 
solely to Entity Accredited Investors); or
    <bullet> The ``approved for use'' date of the applicable Offering 
Document (if the

[[Page 11066]]

proposed offering will include any Natural Person Accredited 
Investors).
    The Board included a question in this section of the proposed rule 
preamble asking if a one-year expiration would negatively impact 
Issuing Credit Unions. Approximately 16 commenters responded to this 
question and disagreed with the proposed requirement that a credit 
union complete a Subordinated Debt issuance within one year from the 
date of receiving NCUA approval. Most of these commenters stated that 
one year is an arbitrary deadline that may force a credit union to make 
a rushed decision or not be able to adequately account for the 
complexities necessary to execute a beneficial offering. Most of the 
commenters sought an extension of the one-year period, rather than an 
outright abolishment of it.
    In addition, two commenters stated that the NCUA could use the 
quarterly regulatory reporting to monitor credit unions with 
Subordinated Debt authority and determine if there had been changes in 
a credit union's condition that would require a revocation of the 
NCUA's approval. These commenters stated that such an approach would 
account for material changes in a credit union's condition without 
subjecting all credit unions to an arbitrary deadline.
    The Board has considered these comments and will increase the 
expiration period to two years in the final rule. The Board understands 
that business and/or economic conditions can change rapidly, as has 
occurred during the global pandemic of 2020, and that a credit union 
may need a longer period to meet its strategic goals using Subordinated 
Debt. The Board believes this change in the final rule will provide 
credit unions with a longer issuance window and increased flexibility 
to issue Subordinated Debt. After thorough consideration, the Board has 
determined that a two-year expiration period strikes an appropriate 
balance between the competing concerns the Board noted in the proposed 
rule: ensuring that an Issuing Credit Union does not offer and sell 
Subordinated Debt Notes following a material change in the information 
on which the NCUA relied in approving the offer and sale of that 
Issuing Credit Union's Subordinated Debt Notes, and not unduly 
hindering the marketability of Subordinated Debt Notes.
    In addition to expanding the expiration period, the Board is 
retaining, as proposed, a provision that allows an Issuing Credit Union 
to file a written request for one or more extensions of the two-year 
limit with the Appropriate Supervision Office, provided the request is 
filed at least 30 calendar days before the expiration of authority. The 
Board believes finalization of this provision, coupled with the 
expiration extension, will provide Issuing Credit Unions sufficient 
time to complete a Subordinated Debt issuance.
    The Board notes, however, that in the event an Issuing Credit 
Union's circumstances materially change after the NCUA has approved an 
initial application but before the closing of the relevant offer and 
sale of Subordinated Debt Notes, the final rule requires an Issuing 
Credit Union to submit an amended application before it continues its 
Subordinated Debt Notes offering. The Board believe this provision is 
necessary to account for material changes in an Issuing Credit Union's 
conditions that may occur between approval and the final sale of 
Subordinated Debt.
d. Pro Forma Financial Statements
    The proposed rule included an extension of the time horizon of the 
Pro Forma Financial Statements to five years compared to the Secondary 
Capital Rule's requirement of two years.\32\ The Board requested 
comment on this extension and its impact on Issuing Credit Unions. 
Approximately five commenters addressed the proposed requirement that a 
credit union submit at least five years of Pro Forma Financial 
Statements with its application. Three of these commenters disagreed 
with the proposed increase from two to five years. One commenter stated 
that the NCUA should request Pro Forma Financial Statements based on 
the complexity of a proposed transaction rather than implementing a 
one-size-fits-all approach. Another commenter believed that two years 
of data was sufficient, as such data is mainly for the benefit of an 
investor. This commenter stated that an investor could request 
additional years of Pro Forma Financial Statements if needed.
---------------------------------------------------------------------------

    \32\ Id.
---------------------------------------------------------------------------

    Two commenters agreed with the proposed increase and sought 
additional information as part of the application and disclosure 
process. One commenter agreed with the breadth of the required pro 
forma data but suggested that the NCUA should also require credit 
unions to include tables that reflect actual results for the prior 
three-year period and a detailed narrative on how the issuer intends to 
secure the level of earnings presented in its Pro Forma Financial 
Statement. This commenter went on to suggest that such additional data 
should include a modest level of sensitivity analysis indicating likely 
performance under stressed conditions.
    The Board has considered these comments and is reducing the minimum 
number of years for the Pro Forma Financial Statement requirement as 
part of the initial application from five years to two years for the 
final rule. The Board believes that an extended Pro Forma Financial 
Statement analysis of five years, which aligns with the minimum 
maturity of a Subordinated Debt Note, may provide useful information. 
However, the Board recognizes that the veracity of the analysis is 
equally important. Further, the quality of the assumptions and range of 
plausible scenarios used in the projections are as much a priority--and 
perhaps superior to--the number of years a credit union applied to 
those assumptions and scenarios. As such, the Board believes a 
reduction in the number of years from the proposed five to two is 
appropriate and will provide, in most cases, the necessary information 
for an Appropriate Supervision Office to render a decision on an 
initial application. The Board notes, however, that included in both 
the proposed rule and this final rule is a provision that permits an 
Appropriate Supervision Office to request additional information, such 
as additional years of Pro Forma Financial Statements, to support a 
credit union's application.
e. Filing Fees
    Five commenters opposed any filing fees associated with the 
issuance of Subordinated Debt. These commenters generally stated that 
such fees may make such issuance cost prohibitive and overly 
burdensome, particularly in light of the other requirements in the 
proposed rule.
    In response, the Board notes that both the proposed rule and this 
final rule do not require a filing fee, but do reserve the right of the 
Board to charge such a fee if warranted. The Board believes it is 
important to retain this flexibility to ensure that, if needed, the 
Board can assess an appropriate fee on applicants to cover the NCUA's 
cost of reviewing and processing such application. The Board notes that 
it would not impose a fee without a sufficient justification and may 
provide exceptions for smaller or low-income credit unions. Therefore, 
the Board is retaining this provision as proposed. However, the Board 
is clarifying in this final rule that the Board will publish a fee 
schedule on the NCUA's website only if the Board institutes a fee in 
the future.

[[Page 11067]]

4. Investors
    In the proposed rule, the Board limited the investors that could 
purchase Subordinated Debt to only Accredited Investors as defined by 
the SEC,\33\ except that credit union ``insiders'' were specifically 
prohibited from purchasing or holding Subordinated Debt. Further, the 
proposed rule bifurcated the category of Accredited Investors into 
Natural Person Accredited Investors and Entity Accredited Investors. 
Finally, the proposed rule limited the permissible investor base to 
only U.S. investors.
---------------------------------------------------------------------------

    \33\ 17 CFR 230.501(a).
---------------------------------------------------------------------------

    Eight commenters addressed the issue of investors. The majority of 
these commenters sought additional flexibility in determining who may 
invest in Subordinated Debt. However, three commenters sought 
additional limitations on the type of investors or solicitation 
thereof.
    Two commenters stated that permissible investors should not be 
limited to only U.S. investors. These commenters believed this would 
unduly restrain credit unions from conducting beneficial offerings of 
Subordinated Debt. Two other commenters, for similar reasons as the 
preceding commenters, requested that the NCUA allow permissible 
investors to include those other than Accredited Investors. Finally, 
one commenter requested the NCUA remove the limit on the number of 
permissible investors. This commenter felt any limit on the number of 
investors could limit a credit union's ability to conduct an issuance 
that it determines to be in its best interest.
    Differing from the aforementioned commenters, three commenters 
sought additional limitations on the permissible investors or the 
solicitation thereof. Two commenters requested that the NCUA prohibit 
any federally insured credit union from investing in the Subordinated 
Debt of other credit unions. These commenters believed this prohibition 
would remove risk from the credit union system and offer a higher 
degree of protection for the NCUSIF. The Board notes that it discusses 
these comments in the section of this document related to FCUs being 
both an issuer and investor of Subordinated Debt. Finally, one 
commenter believed that credit unions should be prohibited from 
soliciting or offering Subordinated Debt at credit union branches. This 
commenter stated that this practice could introduce unnecessary 
reputation risk to credit unions that solicit or offer Subordinated 
Debt to unsophisticated members.
    The Board is finalizing the sections on Investors as proposed, with 
one minor change. As noted in the preamble to the proposed rule, at the 
time, the SEC had proposed amendments to the definition of ``Accredited 
Investor.'' The SEC has now finalized these amendments.\34\ These 
changes, which are effective December 8, 2020, expand the definition of 
``Accredited Investor'' by adding several new categories of natural 
persons or entities the SEC considers Accredited Investors. The Board 
is adopting these changes to the definition of ``Accredited Investor'' 
by modifying the definitions of Entity and Natural Person Accredited 
Investor in this final rule. The proposed rule enumerated specific 
paragraphs of 17 CFR 230.501(a) that the NCUA would consider either 
Natural Person Accredited Investors or Entity Investors. To encompass 
the recent change by the SEC and future changes by the SEC, the Board 
is removing the specific citation references to 17 CFR 230.501(a). This 
is largely a technical change and is not intended to change the 
substantive definition of Entity or Natural Person Accredited 
Investors.
---------------------------------------------------------------------------

    \34\ 85 FR 64234 (Oct. 9, 2020).
---------------------------------------------------------------------------

    As noted previously, several commenters sought additional 
flexibilities for investors or the removal of investor limits 
completely. The Board does not believe it is prudent to remove the 
limitations on investors, as such limits were designed to protect 
investors and credit unions. As discussed in the proposed rule, 
disclosures are largely based on the sophistication of the investor. 
Therefore, the Board opted to limit investors to those that meet the 
SEC's definition of Accredited Investor. The Board believes this 
strikes an appropriate balance between providing credit unions with a 
wide investor base and helping credit unions avoid additional risks by 
offering Subordinated Debt to less-sophisticated investors.
    Further, in response to the commenter that sought the ability to 
offer Subordinated Debt to non-U.S. citizens, the Board, as noted in 
the proposed rule, deliberately limited the issuance of Subordinated 
Debt to only U.S. citizens. This decision is based, in large part, on 
the additional complexities of issuing to foreign persons, which could 
subject Issuing Credit Unions to additional risk that could ultimately 
be passed on to the NCUSIF.
    Except as discussed above, the Board is finalizing the sections on 
investors, as proposed.
a. Prohibition of an Issuing Credit Union's Board Members, Senior 
Executive Officers, or Their Immediate Family Members To Purchase or 
Hold Subordinated Debt Notes
    The Board proposed to expand a credit union's current authority for 
permissible investors by allowing a credit union to issue Subordinated 
Debt to Natural Person Accredited Investors and Entity Accredited 
Investors, with the following restrictions on who may purchase or hold 
a Subordinated Debt Note issued by an Issuing Credit Union:
    <bullet> Board member or Senior Executive Officer of the Issuing 
Credit Union; and
    <bullet> Immediate Family Member of such board member or Senior 
Executive Officer of the Issuing Credit Union.
    One commenter requested the NCUA reconsider these proposed 
prohibitions. The commenter noted that the Federal banking regulators 
do not prohibit related parties and insiders from buying stock in a 
mutual to stock conversion of a thrift institution. The commenter 
stated that educating board members, senior officers, and others within 
the sphere of concern should suffice to mitigate this concern by 
requiring insider trading policies and procedures regarding the 
management of material non-public information and related party 
transactions. The commenter also stated the Offering Document would 
have disclosures related to investments by related parties and 
insiders, and would disclose any potential conflict of interests. Given 
the NCUA's concern, the commenter stated the NCUA may wish to consider 
adding a requirement to the initial application requiring an applicant 
credit union to disclose whether any such individuals are anticipated 
investors. The commenter stated that a wholesale exclusion unduly 
limits the marketability and functionality of Subordinated Debt 
issuances by a credit union.
    The Board continues to believe it is inappropriate to permit an 
Issuing Credit Union's board members, Senior Executive Officers, or 
their Immediate Family Members to purchase or hold Subordinated Debt 
Notes. The Board has concerns about potential conflicts of interest and 
fraud that could arise because such individuals may exercise control 
over an Issuing Credit Union and could have, or gain, access to 
material non-public information related to the Issuing Credit Union 
and/or the Subordinated Debt Notes. Despite commenters' assertions, the 
Board does not believe disclosures would be sufficient to address these 
concerns. For these reasons, the Board is retaining the prohibition on 
an Issuing Credit Union's

[[Page 11068]]

board members, Senior Executive Officers, or their Immediate Family 
Members purchasing or holding Subordinated Debt Notes in the final 
rule, without amendment.
5. Subordinated Debt Note Default Restriction
    The proposed rule included a restriction on a Subordinated Debt 
Note including a term or condition that would trigger an event of 
default based on an Issuing Credit Union's default on other debts. 
Approximately five commenters opposed this restriction. One commenter 
suggested that the NCUA adopt a similar provision to the other banking 
agencies and use a certain threshold to determine when default on other 
debts would render an Issuing Credit Union in default on its 
Subordinated Debt. Other commenters suggested that default clauses are 
standard in debt obligations to allow parties to restructure deals in 
the event of material changes to the financial condition of the issuer.
    After considering these comments, the Board is finalizing this 
restriction as proposed. While the Board recognizes that other banking 
regulators may impose a different requirement, the Board believes this 
restriction is prudent given the relative newness of the issuance of 
Subordinated Debt. In conjunction with the other provisions in this 
final rule, including interest repayment and repudiation safe harbors, 
the Board does not believe this restriction will cause an overly 
negative impact on the sale of Subordinated Debt Notes.
6. Minimum Denominations
    To provide additional protections to Natural Person Accredited 
Investors that purchase Subordinated Debt Notes, the Board proposed 
that Subordinated Debt Notes sold or transferred to a Natural Person 
Accredited Investor be made in minimum denominations of $100,000 or 
$10,000, respectively. Approximately eight commenters addressed the 
issue of minimum denominations. The vast majority of these commenters 
sought lower minimum denomination amounts. One commenter, however, 
requested a higher minimum denomination amount.
    Commenters that favored a lower minimum denomination amount 
generally agreed that the proposed limit of $100,000 was too high, 
particularly given the requirement that all investors qualify as 
Accredited Investors. The majority of these commenters argued that 
$10,000 was an appropriate minimum denomination. Some of these 
commenters cited the NCUA's proposed resale minimum denomination of 
$10,000 as a basis for selecting this amount as an overall minimum 
denomination. In addition, other commenters stated that a $10,000 
minimum denomination would benefit small LICUs while being more than 
sufficient to help a small LICU avoid prompt corrective action.
    As noted previously, one commenter sought a higher minimum 
denomination amount. This commenter urged the NCUA to adopt the OCC's 
$250,000 minimum denomination to discourage access by less financially 
sophisticated investors.
    The Board has considered the comments on minimum denomination of a 
Subordinated Debt note when issued to a Natural Person Accredited 
Investor(s) and will retain the proposed minimum denomination of 
$100,000. As the Board stated in the proposed rule, the minimum 
denomination provides additional protection to Natural Person 
Accredited Investors that purchase Subordinated Debt Notes. The Board 
reiterates that such minimum denominations would not apply to Entity 
Accredited Investors because those purchasers are corporate entities 
that, in the Board's view, are generally sufficiently sophisticated in 
financial matters such that the additional protections afforded by 
minimum denominations are not necessary. The Board will retain no 
minimum denomination requirements for Subordinated Debt Notes sold to 
an Entity Accredited Investor.
    The Board also stated requiring larger denomination notes will help 
ensure that the purchasers of the Subordinated Debt Notes are 
financially sophisticated and have substantial net worth. The Board 
disagrees that this provision will overly impact most LICUs. Currently 
LICUs may only issue secondary capital to entities. This final rule 
retains LICUs' ability to issue Subordinated Debt to an Entity 
Accredited Investor in any amount. The minimum denomination would only 
apply if a LICU sought to issue Subordinated Debt to the newly 
permissible category of Natural Person Accredited Investors.
7. Prohibition on an FCU Issuing and Investing in Subordinated Debt
    The proposed rule included a requirement that an FCU investing in 
Subordinated Debt, Grandfathered Secondary Capital, or in loans and 
obligations issued by privately insured credit unions that are 
subordinate to a private insurer must not be an Issuing Credit Union of 
Subordinated Debt or Grandfathered Secondary Capital, or currently have 
approval from the NCUA to issue Subordinated Debt or Grandfathered 
Secondary Capital.
    Approximately 12 commenters requested the NCUA reconsider the 
proposed prohibition on a credit union being both an issuer and 
investor in Subordinated Debt. The majority of these commenters stated 
that this type of investment scenario would not increase the magnitude 
of a loss to the NCUSIF. These commenters contended that the loss may 
be spread across multiple institutions, thereby mutualizing the risk of 
a loss. Further, one commenter stated that ``the investment of one 
credit union in the [Subordinated Debt] of another could benefit the 
credit union system overall because it is likely, or at least possible, 
that credit unions with higher net worth ratios will invest in those 
with lower net worth ratios.''
    Commenters in favor of this type of investment scenario stated that 
concentration limits would serve as protection against extensive loss 
transfers, because the investing credit unions would only stand to lose 
the amount invested, which would be prudentially regulated by the NCUA.
    Commenters also suggested that the NCUA add a line item to the Call 
Report to exclude all amounts invested in the Subordinated Debt of 
other credit unions. These commenters contended that, because this is 
primarily a reporting issue, adding a new item to the Call Report to 
reflect such investments would properly reflect the loss-absorbing 
capacity of the credit union system. Further, these commenters stated 
that this would address the NCUA's concern where an FCU issuing and 
investing in Subordinated Debt causes the appearance of increased net 
worth in the credit union system, while the actual loss-absorbing 
capacity of the system remains unchanged.
    Conversely, two commenters requested that the NCUA prohibit any 
federally insured credit union from investing in the Subordinated Debt 
of other credit unions. These commenters believed this prohibition 
would remove risk from the credit union system and offer a higher 
degree of protection of the NCUSIF.
    While most these commenters believe an FCU should be able to be an 
issuer and investor of Subordinated Debt, the Board continues to 
believe that an Issuing Credit union should not provide Regulatory 
Capital to other natural person credit unions. The Board continues to 
believe the potential to transmit losses between multiple credit unions 
that have both issued and invested in Subordinated Debt could

[[Page 11069]]

increase the risk of credit union failure and risk to the NCUSIF. The 
Board also notes that adding a line in the Call Report, as recommended 
by some commenters, would not decrease the potential risk of credit 
union failure due to loss transmission and would not decrease the risk 
to the NCUSIF. An added line to the Call Report would only provide 
information, and not risk mitigation. For these reasons, the Board is 
retaining the prohibition of an FCU issuing and investing in 
Subordinated Debt in the final rule without amendment.
8. Federally Insured, State-Chartered Credit Unions
    The proposed rule required FISCUs to be subject to largely the same 
requirements related to the issuance of Subordinated Debt as FCUs. 
These include, but are not limited to, requirements related to the 
features and structure of the instrument. Approximately seven 
commenters addressed the issue of FISCUs being subject to the 
requirements of the NCUA's final Subordinated Debt rule. All but one of 
these commenters opposed the proposed rule as overly restrictive on 
FISCUs.
    Commenters opposing this proposal stated that it would be in 
opposition to the dual-chartering system and could stifle innovation 
among FISCUs that have authorities beyond those of FCUs. One commenter 
stated that state regulators are sufficiently equipped to supervise the 
innovation of FISCUs as it develops.
    One commenter also opposed the potential requirement for a FISCU to 
obtain an opinion that its issuance would not subject the credit union 
to state and Federal income taxes. This commenter stated that it is not 
clear that such an opinion would be needed under the proposed 
structure, because FISCUs would be held to the same standard as FCUs. 
Further, this commenter, in light of the cost of such an opinion, 
sought assurance from the NCUA that the request for such an opinion 
would be the exception rather than the norm.
    Finally, as noted previously, one commenter was not completely 
opposed to FISCUs being subject to the same requirements as FCUs. This 
commenter stated it was unlikely that any instrument other than 
Subordinated Debt would be of much interest in the marketplace. 
Further, this commenter argued that all credit unions issuing the same 
form of instrument would help the market become more familiar with 
Subordinated Debt, thereby increasing investor interest and reducing 
the cost of issuing Subordinated Debt. This commenter did state, 
however, that while they saw benefits to all credit unions issuing the 
same instrument, they did not believe that a FISCU which was permitted 
by state law to issue a Subordinated Debt hybrid instrument should be 
restricted from doing so by the proposed rule.
    As stated in the proposed rule, FISCUs may not be restricted under 
applicable state law and regulation to issuing only debt instruments. 
However, as administrator of the NCUSIF the Board continues to believe 
the framework for the types of instruments that would qualify for 
Regulatory Capital should be consistent for all credit unions. The 
Board notes that such structure may also help FISCUs retain their tax 
exemption, as debt issuances are likely not to be viewed as capital 
stock issuances.\35\
---------------------------------------------------------------------------

    \35\ State chartered credit unions without capital stock, 
organized and operated for mutual purposes and without profit are 
exempt from Federal income tax under Internal Revenue Code 
501(c)(14)(A). 26 U.S.C. 501(c)(14)(A).
---------------------------------------------------------------------------

    While the Board fully supports the dual-chartering system and 
innovation among all credit unions, it notes that all LICUs--both 
federally and state-chartered--are currently subject to the same 
Secondary Capital (or Prompt Corrective Action) requirements. Further, 
as articulated in the proposed rule, FISCUs may only issue Subordinated 
Debt if permitted under state law. The Board believes that requiring 
consistency among the types of instruments issued for Regulatory 
Capital treatment is in the best interest of both the NCUSIF and 
FISCUs. As such, the Board is finalizing, as proposed, those provisions 
that apply to FISCUs without amendment.
9. Prepayment
    The proposed rule required a credit union to receive prior written 
approval from the Appropriate Supervision Office before the credit 
union prepays Subordinated Debt. Approximately five commenters 
addressed the issue of prepayment. The majority of these commenters 
sought a removal of the application process to prepay Subordinated Debt 
or a shortening of the timeframe for the NCUA to render a decision on 
such application.
    These commenters stated that an application process was in 
opposition to the requirements contained in the OCC's regulation and 
could put credit unions at a competitive disadvantage. These commenters 
recommend allowing adequately capitalized credit unions to prepay any 
portion of their Subordinated Debt for which they no longer receive 
regulatory credit without prior regulatory approval.
    In addition, one commenter stated that the NCUA should allow credit 
unions to draft agreements that allow for the redemption of discounted 
capital so they could count the remaining balance, in whole, as 
capital.
    Another commenter stated that credit unions should have the 
flexibility to structure Subordinated Debt agreements with the ability 
to refinance the debt if the parties agreed to the concept of 
refinancing within an outlined placement agreement.
    Finally, one commenter stated that inclusion of prepayment 
obligations and acceleration features is common in the capital markets, 
even for deeply subordinated instruments, and would be expected by many 
market participants. This commenter went on to recommend the NCUA allow 
for these features--particularly because the NCUA can protect the 
issuer and the NCUSIF by requiring an issuer to receive NCUA approval 
before making any payments.
    The Board has reviewed the comments relating to prepayment of 
Subordinated Debt and will retain the provision of receiving prior 
approval in the proposed rule, with a 45-day timeframe for the NCUA to 
approve the application. While the 45-day approval timeframe is similar 
to the Secondary Capital Rule, the Board has eliminated the provision 
for automatic approval if a credit union is not notified of a decision 
by the Appropriate Supervision Office within the 45 days. The Board 
believes the regulatory relief in the proposed rule, including the 
ability to prepay any portion of the Subordinated Debt and a 
streamlined application (compared to the Secondary Capital Rule), 
provide sufficient regulatory relief to offset any burden imposed by 
removing the automatic approval. However, the Board sees the 
requirement for preapproval for prepayment as an important way to 
confirm that a credit union has sufficient capital and liquidity to 
repay Subordinated Debt without unduly increasing risk to the NCUSIF.
10. Limits on Loans to Other Credit Unions
    The proposed rule included a new single-borrower limit for FCUs 
that make loans to other credit unions. The single-borrower limit would 
be the greater of 15 percent of an FCU's Net Worth or $100,000, plus an 
additional 10 percent of an FCU's Net Worth if that additional 10 
percent is fully secured at all times with a perfected security 
interest by readily marketable collateral

[[Page 11070]]

as defined in Sec.  723.2.\36\ The limit would include Subordinated 
Debt and Grandfathered Secondary Capital, and would be in addition to 
the aggregate limit on such loans specified in the FCU Act. One 
commenter requested the NCUA not impose the proposed additional 
restrictions on loans to other credit unions.
---------------------------------------------------------------------------

    \36\ 12 CFR 723.2.
---------------------------------------------------------------------------

    The Board notes that the proposed single borrower limit is 
consistent with the single borrower limit in the NCUA's commercial 
lending and MBL rule.\37\ Because credit unions share many similarities 
with traditional corporate borrowers, the Board continues to believe 
that basing the proposed single-borrower limit in this rule on the 
commercial and MBL rule limit is appropriate. Furthermore, the 15 
percent of Net Worth single-borrower limit for FCUs that make loans to 
other credit unions would generally limit catastrophic losses to an FCU 
if the borrower defaults.
---------------------------------------------------------------------------

    \37\ Id. Sec.  723.4(c).
---------------------------------------------------------------------------

    For these reasons, the Board is retaining the limits of an FCU 
making loans to other credit unions in the final rule without 
amendment.
11. Pooling
    The Board did not include a provision for the pooling of 
Subordinated Debt issuances in the proposed rule. The Board notes that 
pooling generally involves combining more than one issuance in a 
standalone structure. Approximately three commenters advocated for the 
NCUA to explicitly permit pooling arrangements in any final 
Subordinated Debt rule. These commenters stated that allowing for pools 
of Subordinated Debt could make it easier and less expensive for credit 
unions to take issuances to the market. These commenters also believed 
that pools would reduce the risk of loss to investors by spreading loss 
across multiple credit unions rather than just one. Finally, one 
commenter argued that pooling would allow for larger issuances that may 
be able to be rated, thereby providing investors additional confidence 
in the issuance.
    While the Board is not including a specific provision on pooling in 
this final rule, the Board notes that there is no prohibition in this 
final rule or the proposed rule on Subordinated Debt being pooled and 
sold to investors. The Board notes, however, that any such pool must 
comply with all of the NCUA's regulations and any applicable securities 
laws.
    Finally, the Board notes that general investment authority in part 
703 only permits FCUs to purchase pooled Subordinated Debt in the form 
of a registered investment company or collective investment fund, as 
long as the prospectus of the company or fund restricts the investment 
portfolio to investments and investment transactions that are 
permissible for FCUs.\38\
---------------------------------------------------------------------------

    \38\ 12 CFR 703.14(c).
---------------------------------------------------------------------------

IV. Legal Authority

A. Authority To Issue Subordinated Debt

    The borrowing authority granted to FCUs by the FCU Act, along with 
FCUs' statutory authority to enter into contracts and exercise 
incidental powers necessary or required to enable the FCUs to 
effectively carry on their business, supports the legal analysis that 
FCUs are authorized to incur indebtedness through the issuance of debt 
securities of the type contemplated by this final rule. Section 1757(9) 
of the FCU Act authorizes FCUs to borrow, in accordance with such rules 
and regulations as may be prescribed by the Board, from any source, in 
an aggregate amount not exceeding, except as authorized by the Board in 
carrying out the provisions of subchapter III, 50 per centum of its 
paid-in and unimpaired capital and surplus: Provided, that any Federal 
credit union may discount with or sell to any Federal intermediate 
credit bank any eligible obligations up to the amount of its paid-in 
and unimpaired capital.\39\
---------------------------------------------------------------------------

    \39\ 12 U.S.C. 1757(9).
---------------------------------------------------------------------------

    Other than the provisions codified in Sec.  701.38 of the NCUA's 
regulations, which address borrowed funds from natural persons, the FCU 
Act does not provide any details regarding the mechanisms FCUs may use 
to borrow.\40\ Further, section 201(b)(7) of the FCU Act implicitly 
allows credit unions to issue securities.\41\ Conversely, nothing in 
section 1757(9) or other provisions of the FCU Act impose any specific 
restrictions or limitations on the mechanisms FCUs may employ to 
borrow; specific limiting language, examples or illustrative 
transactions or situations, or otherwise, do not exist to introduce 
specific restrictions or limitations. This stands in sharp contrast to 
many other subsections of section 1757 of the FCU Act which, for 
example, go into significant detail describing the types and terms of 
loans and extensions of credit that FCUs are permitted to make,\42\ and 
define the types of investments FCUs are permitted to make.\43\ In 
addition, the NCUA's regulations do not impose any specific 
restrictions or limitations on the mechanisms an FCU may employ to 
borrow, through the use of specific limiting language, examples, 
illustrative transactions, or situations.
---------------------------------------------------------------------------

    \40\ In contrast, certain provisions of Title 12 of the United 
States Code relating to the regulation of other types of financial 
institutions expand on the institutions' basic authority to borrow 
money, including through the issuance of securities. For example, a 
Farm Credit System member is specifically authorized to:
    <bullet> Borrow money from or loan to any other institution of 
the System, borrow from any commercial bank or other lending 
institution, issue its notes or other evidence of debt on its own 
individual responsibility and full faith and credit, and invest its 
excess funds in such sums, at such times, and on such terms and 
conditions as it may determine.
    <bullet> Issue its own notes, bonds, debentures, or other 
similar obligations, fully collateralized as provided in section 
2154(c) by the notes, mortgages, and security instruments it holds 
in the performance of its functions under this chapter in such sums, 
maturities, rates of interest, and terms and conditions of each 
issue as it may determine with approval of the Farm Credit 
Administration.
    12 U.S.C. 2153(a) (b).
    \41\ Id. section 1781(b)(7).
    \42\ Id. section 1757(5).
    \43\ Id. section 1757(7); (15).
---------------------------------------------------------------------------

    Overall, the lack of specific restrictions or limitations on the 
mechanisms that may be used and the specific authority granted in 
section 1757(9) to borrow ``from any source'' indicate that borrowings 
need not be limited to the types of arrangements typically entered into 
with banks, other credit unions, and other financial institutions 
(namely, loans, lines of credit, and similar arrangements). Further, 
the specific authority provided in section 1757(1) of the FCU Act that 
empowers FCUs to enter into contracts \44\ further supports the 
conclusion that FCUs have the power to enter into a variety of 
different arrangements with respect to borrowing.\45\ In addition, in 
the absence of specific restrictions and limitations, the ``incidental 
powers'' granted to FCUs in section 1757(17) of the FCU Act give 
significant discretion to FCUs with respect to how borrowings are 
effectuated.
---------------------------------------------------------------------------

    \44\ Id. section 1757(1).
    \45\ Typical loan and line of credit arrangements entered into 
with banks, other credit unions, and other financial institutions 
are clearly contractual in nature. Debt securities are also 
generally viewed as primarily contractual in nature, in large 
measure because of the terms of the securities themselves or the 
terms incorporated into the securities through an indenture, an 
issuing and paying agent agreement or similar agreement. This view 
of debt securities has been expressed in a wide variety of court 
cases. See, e.g., Katz v. Oak Industries, Inc., 508 A.2d 873, 878 
(Del. Ch. 1986)) (``Under our law--and the law generally--the 
relationship between a corporation and the holders of its debt 
securities, even convertible debt securities, is contractual in 
nature.'').
---------------------------------------------------------------------------

    Further support for the position that FCUs have the authority to 
issue debt

[[Page 11071]]

securities may be found in U.S. GAAP treatment of items that fall in 
the category of ``borrowings.'' Under U.S. GAAP, liabilities relating 
to borrowed money are presented as indebtedness on an entity's balance 
sheet, and the interest paid is presented as interest expense on its 
income statement whether the borrowings are related to typical loan 
transactions, advances under lines of credit, or the issuance of debt 
securities. While the details of the different types of indebtedness 
for borrowed money are presented as separate line items in an entity's 
balance sheet and income statement, the treatment of ``straight'' 
indebtedness (indebtedness that does not have equity/residual ownership 
features, such as convertibility into shares) as liabilities, and 
interest paid thereon as interest expense, is essentially the same. In 
addition, while the details of the different types of indebtedness for 
borrowed money are presented as separate line items in the statement of 
cash flows, borrowings (whether in the form of loans from financial 
institutions or from the issuance of debt securities) are all presented 
in the ``cash flows from financing activities'' section of the 
statement.
    Throughout this final rule, the Board has included requirements to 
ensure that any Subordinated Debt issued by an Issuing Credit Union 
would be properly characterized as debt in accordance with U.S. GAAP. 
These requirements, include that the Subordinated Debt or the 
Subordinated Debt Note, as applicable, must:
    <bullet> Be in the form of a written, unconditional promise to pay 
on a specified date a sum certain in money in return for adequate 
consideration in money;
    <bullet> Have, at the time of issuance, a fixed stated maturity of 
at least five years and not more than 20 years from issuance. The 
stated maturity of the Subordinated Debt Note may not reset and may not 
contain an option to extend the maturity; and
    <bullet> Be properly characterized as debt in accordance with U.S. 
GAAP.
    The Board notes that a FISCU's legal authority to issue 
Subordinated Debt derives from applicable state law and regulation. For 
the Subordinated Debt issued by a FISCU to qualify as Regulatory 
Capital under this final rule, however, a FISCU must comply with all of 
the provisions of this rule, including the FISCU-specific provisions.

B. Board Authority To Design RBC Standards

    In addition to credit unions' authority to issue Subordinated Debt, 
the FCU Act provides the Board broad discretion to design the risk-
based net worth standards.\46\ Specifically, the FCU Act provides, in 
relevant part: ``The Board shall design the risk-based net worth 
requirement to take account of any material risks against which the net 
worth ratio required for an insured credit union to be ``Adequately 
Capitalized'' may not provide adequate protection.'' \47\
---------------------------------------------------------------------------

    \46\ As discussed previously, in 2015, the Board finalized a 
rule to replace the regulatory risk-based net worth requirement with 
an RBC requirement. This rule is effective January 1, 2022.
    \47\ 12 U.S.C. 1790d(d).
---------------------------------------------------------------------------

    In designing such a risk-based net worth standard, Congress did not 
restrict the types of instruments the Board may include in its 
calculation of risk-based net worth, except that such calculation must 
take account of material risks that the Net Worth Ratio alone may not 
protect against. The Board, as discussed in this preamble, is proposing 
this rule to grant authority to LICUs, Complex Credit Unions, and New 
Credit Unions to issue Subordinated Debt that will count as Regulatory 
Capital. Based on the requirements in this final rule, the Board 
believes Subordinated Debt will be an additional tool that accounts for 
material risks faced by credit unions against which the Net Worth Ratio 
alone may not protect.
    While the Board has broad discretion to create the risk-based net 
worth standard, it does not have the authority to amend the statutory 
definition of Net Worth. The statutory definition of Net Worth 
currently includes secondary capital issued by a LICU that is uninsured 
and subordinate to all claims against the LICU.\48\ As such, the Board 
notes two points with respect to Subordinated Debt and Net Worth. 
First, Subordinated Debt issued by a non-LICU is not included in that 
credit union's Net Worth or Net Worth Ratio. Second, Subordinated Debt 
issued by a LICU after the effective date of this final rule will be 
included in that credit union's Net Worth and Net Worth Ratio.
---------------------------------------------------------------------------

    \48\ 12 U.S.C. 1790d(o)(2).
---------------------------------------------------------------------------

V. Regulatory Procedures

A. Paperwork Reduction Act

    The Paperwork Reduction Act of 1995 (PRA) (44 U.S.C. 3501 et seq.) 
requires that the Office of Management and Budget (OMB) approve all 
collections of information by a Federal agency from the public before 
they can be implemented. Respondents are not required to respond to any 
collection of information unless it displays a valid OMB control 
number. In accordance with the PRA, the information collection 
requirements included in this final rule have been submitted to OMB for 
approval under control number 3133-0207.

B. Executive Order 13132

    Executive Order 13132 encourages independent regulatory agencies to 
consider the impact of their actions on state and local interests. The 
NCUA, an independent regulatory agency as defined in 44 U.S.C. 3502(5), 
voluntarily complies with the executive order to adhere to fundamental 
federalism principles.
    This final rule does not have substantial direct effects on the 
states, on the relationship between the National Government and the 
states, or on the distribution of power and responsibilities among the 
various levels of government. The NCUA has therefore determined that 
this final rule does not constitute a policy that has federalism 
implications for purposes of the Executive order.

C. Assessment of Federal Regulations and Policies on Families

    The NCUA has determined that this rule will not affect family well-
being within the meaning of section 654 of the Treasury and General 
Government Appropriations Act, 1999, Public Law 105-277, 112 Stat. 2681 
(1998).

D. Small Business Regulatory Enforcement Fairness Act

    The Small Business Regulatory Enforcement Fairness Act of 1996 
(Pub. L. 104-121) (SBREFA) generally provides for congressional review 
of agency rules. A reporting requirement is triggered in instances 
where the NCUA issues a final rule as defined by section 551 of the 
APA. An agency rule, in addition to being subject to congressional 
oversight, may also be subject to a delayed effective date if the rule 
is a ``major rule.'' The NCUA does not believe this rule is a ``major 
rule'' within the meaning of the relevant sections of SBREFA. As 
required by SBREFA, the NCUA will submit this final rule to the Office 
of Management and Budget for it to determine if the final rule is a 
``major rule'' for purposes of SBREFA. After the Office of Management 
and Budget makes it determination, the NCUA will file all appropriate 
reports.

List of Subjects

12 CFR Part 701

    Advertising, Aged, Civil rights, Credit, Credit unions, Fair 
housing, Individuals with disabilities, Insurance, Marital status 
discrimination, Mortgages,

[[Page 11072]]

Religious discrimination, Reporting and recordkeeping requirements, Sex 
discrimination, Signs and symbols, Surety bonds.

12 CFR Part 702

    Credit unions, Reporting and recordkeeping requirements.

12 CFR Part 709

    Claims, Credit unions.

12 CFR Part 741

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

    By the NCUA Board on December 17, 2020.
Melane Conyers-Ausbrooks,
Secretary of the Board.

    For the reasons discussed in the preamble, NCUA amends 12 CFR parts 
701, 702, 709, 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:

    Authority:  12 U.S.C. 1752(5), 1755, 1756, 1757, 1758, 1759, 
1761a, 1761b, 1766, 1767, 1782, 1784, 1785, 1786, 1787, 1788, 1789. 
Section 701.6 is also authorized by 15 U.S.C. 3717. Section 701.31 
is also authorized by 15 U.S.C. 1601 et seq.; 42 U.S.C. 1981 and 
3601-3610. Section 701.35 is also authorized by 42 U.S.C. 4311-4312.


0
2. Add Sec.  701.25 to read as follows:


Sec.  701.25  Loans to credit unions.

    (a) Limits. A Federal credit union may make loans, including 
investments in Subordinated Debt, to other credit unions, including 
corporate credit unions and privately insured credit unions, subject to 
the following limits:
    (1) Aggregate limit. The aggregate principal amount of loans to 
other credit unions may not exceed 25 percent of the Federal credit 
union's paid-in and unimpaired capital and surplus.
    (2) Single borrower limit. The aggregate principal amount of loans 
made to any one credit union may not exceed the greater of 15 percent 
of the Federal credit union's net worth, as defined in part 702 of this 
chapter, at the time of the closing of the loan or $100,000, plus an 
additional 10 percent of the Federal credit union's net worth if the 
amount that exceeds the Federal credit union's 15 percent general limit 
is fully secured at all times with a perfected security interest by 
readily marketable collateral as defined in Sec.  723.2 of this 
chapter.
    (b) Approval and policies. A Federal credit union's board of 
directors must approve all loans to other credit unions and establish 
written policies for making such loans. The written policies must, at a 
minimum, include the following:
    (1) How the Federal credit union will manage the credit risk of 
loans to other credit unions; and
    (2) The limits on the aggregate principal amount of loans the 
Federal credit union can make to other credit unions. The policies must 
specify the limits on the aggregate principal amount of loans the 
Federal credit union can make to all other credit unions and the 
aggregate principal amount of loans the Federal credit union can make 
to any single credit union; provided that any limits included in such 
policies do not exceed the limits in this section.
    (c) Investment in Subordinated Debt--(1) Eligibility. A Federal 
credit union may only invest, directly or indirectly, in the 
Subordinated Debt of federally insured, natural person credit unions, 
or in loans or obligations issued by a privately insured credit union 
that are subordinate to the private insurer; provided that the 
investing Federal credit union:
    (i) Has at the time of the investment, a capital classification of 
``well capitalized,'' as defined in part 702 of this chapter;
    (ii) Does not have any outstanding Subordinated Debt or 
Grandfathered Secondary Capital, in each case with respect to which it 
was the Issuing Credit Union (as defined in part 702 of this chapter); 
and
    (iii) Is not eligible to issue Subordinated Debt or Grandfathered 
Secondary Capital pursuant to an unexpired approval from the NCUA under 
subpart D of part 702 of this chapter.
    (2) Aggregate limit--(i) Aggregate limit. A Federal credit union's 
aggregate investment (direct or indirect) in the Subordinated Debt and 
Grandfathered Secondary Capital of any federally insured, natural 
person credit union, and in loans or obligations issued by a privately 
insured credit union that are subordinate to the private insurer, may 
not cause such aggregate investment to exceed, at the time of the 
investment, the lesser of:
    (A) 25 percent of the investing Federal credit union's net worth at 
the time of the investment; and
    (B) Any amount of net worth in excess of seven percent (7%) of 
total assets.
    (ii) Calculation of aggregate limit. The amount subject to the 
limit in paragraph (c)(2)(i)(A) of this section is calculated at the 
time of investment, and is based on a Federal credit union's aggregate 
outstanding:
    (A) Investment in Subordinated Debt;
    (B) Investment in Grandfathered Secondary Capital;
    (C) Investment in loans or obligations issued by a privately 
insured credit union that are subordinate to the private insurer; and
    (D) Loans or portion of loans made by the credit union that is 
secured by any Subordinated Debt, Grandfathered Secondary Capital, or 
loans or obligations issued by a privately insured credit union that 
are subordinate to the private insurer.
    (3) Indirect investment. A Federal credit union must determine its 
indirect exposure by calculating its proportional ownership share of 
each exposure held in a fund, or similar indirect investment. The 
Federal credit union's exposure to the fund is equal to the exposure 
held by the fund as if they were held directly by the Federal credit 
union, multiplied by the Federal credit union's proportional ownership 
share of the fund.

0
3. In Sec.  701.34:
0
a. Revise the section heading;
0
b. Remove and reserve paragraph (b); and
0
c. Remove paragraphs (c) and (d) and the appendix to Sec.  701.34.
    The revision reads as follows:


Sec.  701.34   Designation of low income status.

* * * * *

0
4. Revise Sec.  701.38 to read as follows:


Sec.  701.38   Borrowed funds.

    (a) Federal credit unions may borrow funds from any source; 
provided that:
    (1) The borrowing is evidenced by a written contract, such as a 
signed promissory note, that sets forth the terms and conditions 
including, at a minimum, maturity, prepayment, interest rate, method of 
computation of interest, and method of payment; and
    (2) The written contract and any solicitation with respect to such 
borrowing contain clear and conspicuous language indicating that:
    (i) The funds represent money borrowed by the Federal credit union; 
and
    (ii) The funds do not represent shares and, therefore, are not 
insured by the National Credit Union Administration.
    (b) A Federal credit union is subject to the maximum borrowing 
authority of an aggregate amount not exceeding 50 percent of its paid-
in and unimpaired capital and surplus. Provided that any Federal credit 
union may discount with or sell to any Federal intermediate credit bank 
any eligible obligations up to the amount of its paid-in and unimpaired 
capital (12 U.S.C. 1757(9)).

[[Page 11073]]

PART 702--CAPITAL ADEQUACY

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

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


0
6. In Sec.  702.2:
0
a. Add a sentence after the first sentence of the introductory text;
0
b. Add a definition for ``Grandfathered Secondary Capital'' in 
alphabetical order;
0
c. Amend the definition of ``Net worth'' by revising the introductory 
text and paragraphs (1) and (2); and
0
d. Add a definition for ``Subordinated Debt'' in alphabetical order.
    The additions and revisions read as follows:


Sec.  702.2   Definitions.

    * * * All accounting terms not otherwise defined in this section 
have meanings consistent with the commonly-accepted meanings under 
United States generally accepted accounting principles (U.S. GAAP). * * 
*
    Grandfathered Secondary Capital means any secondary capital issued 
under 12 CFR 701.34 (revised as of January 1, 2021) or, in the case of 
a federally insured, state-chartered credit union, with Sec.  
741.204(c) of this chapter, before January 1, 2022. (12 CFR 701.34 was 
recodified as Sec.  702.414 as of January 1, 2022.)
* * * * *
    Net worth means, with respect to any federally insured, natural 
person credit union, as of any date of determination:
    (1) The retained earnings balance of the credit union at the most 
recent quarter end, as determined in accordance with U.S. GAAP, subject 
to paragraph (3) of this definition.
    (2) With respect to a low-income designated credit union, the 
outstanding principal amount of Subordinated Debt treated as Regulatory 
Capital in accordance with Sec.  702.407, and the outstanding principal 
amount of Grandfathered Secondary Capital treated as Regulatory Capital 
in accordance with Sec.  702.414, in each case that is:
    (i) Uninsured; and
    (ii) Subordinate to all other claims against the credit union, 
including claims of creditors, shareholders, and the National Credit 
Union Share Insurance Fund.
* * * * *
    Subordinated Debt has the meaning as provided in subpart D of this 
part.
* * * * *

0
7. In Sec.  702.104, revise paragraph (b)(1)(vii) and add paragraph 
(c)(2)(v)(B)(9) to read as follows:


Sec.  702.104   Risk-based capital ratio.

* * * * *
    (b) * * *
    (1) * * *
    (vii) The outstanding principal amount of Subordinated Debt treated 
as Regulatory Capital in accordance with Sec.  702.407 and the 
outstanding principal amount of Grandfathered Secondary Capital treated 
as Regulatory Capital in accordance with Sec.  702.414; and
* * * * *
    (c) * * *
    (2) * * *
    (v) * * *
    (B) * * *
    (9) Natural person credit union Subordinated Debt, Grandfathered 
Secondary Capital, and loans or obligations issued by a privately 
insured credit union that are subordinate to the private insurer.
* * * * *

0
8. Amend Sec.  702.109 by:
0
a. Redesignating paragraphs (a)(3) and (4) as paragraphs (a)(4) and 
(5), respectively;
0
b. Adding new paragraph (a)(3); and
0
c. Revising paragraph (b)(11).
    The addition and revision read as follows:


Sec.  702.109   Prompt corrective action for critically 
undercapitalized credit unions.

    (a) * * *
    (3) Restrictions on payments on Subordinated Debt. Beginning 60 
days after the effective date of a federally insured, natural person 
credit union being classified by the NCUA as ``critically 
undercapitalized'', that credit union shall not pay principal of or 
interest on its Subordinated Debt, except that unpaid interest shall 
continue to accrue under the terms of the related Subordinated Debt 
Note (as defined in subpart D of this part), to the extent permitted by 
law;
* * * * *
    (b) * * *
    (11) Restrictions on payments on Grandfathered Secondary Capital. 
Beginning 60 days after the effective date of classification of a 
credit union as ``critically undercapitalized'', prohibit payments of 
principal, dividends or interest on the credit union's Grandfathered 
Secondary Capital (as defined in subpart D of this part), except that 
unpaid dividends or interest shall continue to accrue under the terms 
of the account to the extent permitted by law;
* * * * *

0
10. Revise Sec.  702.205(d) to read as follows:


Sec.  702.205  Prompt corrective action for uncapitalized new credit 
unions.

* * * * *
    (d) Discretionary liquidation of an uncapitalized new credit union. 
In lieu of paragraph (c) of this section, an uncapitalized new credit 
union may be placed into liquidation on grounds of insolvency pursuant 
to 12 U.S.C. 1787(a)(1)(A).


Sec.  702.206  [Amended]

0
11. Amend Sec.  702.206 by removing paragraph (d) and redesignating 
paragraphs (e) through (h) as (d) through (g), respectively.


Sec.  Sec.  702.207 through 702.210  [Redesignated as Sec. Sec.  
702.208 through 702.211]

0
12. Redesignate Sec. Sec.  702.207 through 702.210 as Sec. Sec.  
702.208 through 702.211, respectively.

0
13. Add new Sec.  702.207 to read as follows:


Sec.  702.207   Consideration of Subordinated Debt and Grandfathered 
Secondary Capital for new credit unions.

    (a) Exception from prompt corrective action for new credit unions. 
The requirements of Sec. Sec.  702.204 and 702.205 do not apply to a 
new credit union if, as of the applicable date of determination, each 
of the following conditions is satisfied:
    (1) The new credit union has outstanding Subordinated Debt or 
Grandfathered Secondary Capital;
    (2) The Subordinated Debt or Grandfathered Secondary Capital would 
be treated as Regulatory Capital under subpart D of this part if the 
new credit union were a complex credit union or a low income-designated 
credit union;
    (3) The ratio of the new credit union's net worth (including the 
amount of its Subordinated Debt and Grandfathered Secondary Capital 
treated as Regulatory Capital (as defined in subpart D of this part)) 
to its total assets is at least seven percent (7%); and
    (4) The new credit union's net worth is increasing in a manner 
consistent with the new credit union's approved initial business plan 
or RBP.
    (b) Consideration of Subordinated Debt and Grandfathered Secondary 
Capital in evaluating an RBP. The NCUA shall, in evaluating an RBP 
under this subpart, consider a new credit union's aggregate outstanding 
principal amount of Subordinated Debt and Grandfathered Secondary 
Capital.
    (c) Prompt corrective action based on other supervisory criteria--
(1) Application of prompt corrective action to an exempt new credit 
union. The NCUA Board may apply prompt corrective action to a new 
credit union

[[Page 11074]]

that is otherwise exempt under paragraph (a) of this section in the 
following circumstances:
    (i) Unsafe or unsound condition. The NCUA Board has determined, 
after providing the new credit union with written notice and 
opportunity for hearing pursuant to Sec.  747.2003 of this chapter, 
that the new credit union is in an unsafe or unsound condition; or
    (ii) Unsafe or unsound practice. The NCUA Board has determined, 
after providing the new credit union with written notice and 
opportunity for hearing pursuant to Sec.  747.2003 of this chapter, 
that the new credit union has not corrected a material unsafe or 
unsound practice of which it was, or should have been, aware.
    (2) Non-delegation. The NCUA Board may not delegate its authority 
under paragraph (c) of this section.
    (3) Consultation with state officials. The NCUA Board shall consult 
and seek to work cooperatively with the appropriate state official 
before taking action under paragraph (c) of this section and shall 
promptly notify the appropriate state official of its decision to take 
action under paragraph (c) of this section.
    (d) Discretionary liquidation. Notwithstanding paragraph (a) of 
this section, the NCUA may place a new credit union into liquidation 
pursuant to 12 U.S.C. 1787(a)(3)(A), provided that the new credit 
union's ratio under paragraph (a)(3) of this section is, as of the 
applicable date of determination, below six percent (6%) and the new 
credit union has no reasonable prospect of becoming ``adequately 
capitalized'' under Sec.  702.202.
    (e) Restrictions on payments on Subordinated Debt. Beginning 60 
days after the effective date of a new credit union being classified by 
the NCUA as ``uncapitalized'', the new credit union shall not pay 
principal of or interest on its Subordinated Debt, except that unpaid 
interest shall continue to accrue under the terms of the related 
Subordinated Debt Note, to the extent permitted by law.

0
14. Add subpart D to read as follows:
Subpart D--Subordinated Debt, Grandfathered Secondary Capital, and 
Regulatory Capital
Sec.
702.401 Purpose and scope.
702.402 Definitions.
702.403 Eligibility.
702.404 Requirements of the Subordinated Debt and Subordinated Debt 
Note.
702.405 Disclosures.
702.406 Requirements related to the offer, sale, and issuance of 
Subordinated Debt Notes.
702.407 Discounting of amount treated as Regulatory Capital.
702.408 Preapproval to issue Subordinated Debt.
702.409 Preapproval for federally insured, state-chartered credit 
unions to issue Subordinated Debt.
702.410 Interest payments on Subordinated Debt.
702.411 Prior written approval to prepay Subordinated Debt.
702.412 Effect of a merger or dissolution on the treatment of 
Subordinated Debt as Regulatory Capital.
702.413 Repudiation safe harbor.
702.414 Regulations governing Grandfathered Secondary Capital.
Appendix A to Subpart D of Part 702--Disclosure and Acknowledgement 
Form

Subpart D--Subordinated Debt, Grandfathered Secondary Capital, and 
Regulatory Capital


Sec.  702.401  Purpose and scope.

    (a) Subordinated Debt. This subpart sets forth the requirements 
applicable to all Subordinated Debt issued by a federally insured, 
natural person credit union, including the NCUA's review and approval 
of that credit union's application to issue or prepay Subordinated 
Debt. This subpart shall apply to a federally insured, state-chartered 
credit union only to the extent that such federally insured, state-
chartered credit union is permitted by applicable state law to issue 
debt instruments of the type described in this subpart. To the extent 
that such state law is more restrictive than this subpart with respect 
to the issuance of such debt instruments, that state law shall apply. 
Any secondary capital, as that term is used in the Federal Credit Union 
Act, issued after January 1, 2022, is Subordinated Debt and subject to 
the requirements of this subpart.
    (b) Grandfathered Secondary Capital. Any secondary capital issued 
under Sec.  701.34 of this chapter before January 1, 2022, is governed 
by Sec.  702.414. Grandfathered Secondary Capital will no longer be 
treated as Regulatory Capital as of January 1, 2042.


Sec.  702.402  Definitions.

    To the extent they differ, the definitions in this section apply 
only to Subordinated Debt and not to Grandfathered Secondary Capital. 
(Definitions applicable to Grandfathered Secondary Capital are in Sec.  
702.414.) All other terms in this subpart and not expressly defined in 
this section have the meanings assigned to them elsewhere in this part. 
For ease of use, certain key terms are included in this section using 
cross citations to other sections of this part where those terms are 
defined.
    Accredited Investor means a Natural Person Accredited Investor or 
an Entity Accredited Investor, as applicable.
    Appropriate Supervision Office means, with respect to any credit 
union, the Regional Office or Office of National Examinations and 
Supervision that is responsible for supervision of that credit union.
    Complex credit union has the same meaning as in subpart A of this 
part.
    Entity Accredited Investor means an entity that, at the time of 
offering and closing of the issuance and sale of Subordinated Debt to 
that entity, meets the requirements of 17 CFR 230.501(a).
    Grandfathered Secondary Capital means any secondary capital issued 
under 12 CFR 701.34 (revised as of January 1, 2021) or, in the case of 
a federally insured, state-chartered credit union, with Sec.  
741.204(c) of this chapter, before January 1, 2022. (12 CFR 701.34 was 
recodified as Sec.  702.414 as of January 1, 2022.)
    Immediate Family Member means spouse, child, sibling, parent, 
grandparent, or grandchild (including stepparents, stepchildren, 
stepsiblings, and adoptive relationships).
    Issuing Credit Union means, for purposes of this subpart, a credit 
union that has issued, or is in the process of issuing, Subordinated 
Debt or Grandfathered Secondary Capital in accordance with the 
requirements of this subpart.
    Low-income designated credit union (LICU) is a credit union 
designated as having low-income status in accordance with Sec.  701.34 
of this chapter.
    Natural Person Accredited Investor means a natural person who, at 
the time of offering and closing of the issuance and sale of 
Subordinated Debt to that person, meets the requirements of 17 CFR 
230.501(a); provided that, for purposes of purchasing or holding any 
Subordinated Debt Note, this term shall not include any board member or 
Senior Executive Officer of the Issuing Credit Union or any Immediate 
Family Member of any board member or Senior Executive Officer of the 
Issuing Credit Union.
    Net worth has the same meaning as in Sec.  702.2.
    Net worth ratio has the same meaning as in Sec.  702.2.
    New credit union has the same meaning as in Sec.  702.201.
    Offering Document means the document(s) required by Sec.  702.408, 
including any term sheet, offering memorandum, private placement 
memorandum, offering circular, or other similar document used to offer 
and sell Subordinated Debt Notes.

[[Page 11075]]

    Pro Forma Financial Statements means projected financial statements 
that show the effects of proposed transactions as if they actually 
occurred in a variety of plausible scenarios, including both optimistic 
and pessimistic assumptions, over measurement horizons that align with 
the credit union's expected activities.
    Qualified Counsel means an attorney licensed to practice law in the 
relevant jurisdiction(s) who has expertise in the areas of Federal and 
state securities laws and debt transactions similar to those described 
in this subpart.
    Regulatory Capital means:
    (1) With respect to an Issuing Credit Union that is a LICU and not 
a complex credit union, the aggregate outstanding principal amount of 
Subordinated Debt and, until January 1, 2042, Grandfathered Secondary 
Capital that is included in the credit union's net worth ratio;
    (2) With respect to an Issuing Credit Union that is a complex 
credit union and not a LICU, the aggregate outstanding principal amount 
of Subordinated Debt that is included in the credit union's RBC Ratio;
    (3) With respect to an Issuing Credit Union that is both a LICU and 
a complex credit union, the aggregate outstanding principal amount of 
Subordinated Debt and, until January 1, 2042, Grandfathered Secondary 
Capital that is included in its net worth ratio and in its RBC Ratio; 
and
    (4) With respect to a new credit union, the aggregate outstanding 
principal amount of Subordinated Debt and, until January 1, 2042, 
Grandfathered Secondary Capital that is considered pursuant to Sec.  
702.207.
    Retained Earnings has a meaning that is consistent with the one for 
this term under United States GAAP.
    Risk-based capital (RBC) ratio has the same meaning as in Sec.  
702.2.
    Senior Executive Officer means a credit union's chief executive 
officer (for example, president or treasurer/manager), any assistant 
chief executive officer (e.g., any assistant president, any vice 
president or any assistant treasurer/manager) and the chief financial 
officer (controller). The term ``Senior Executive Officer'' also 
includes employees and contractors of an entity, such as a consulting 
firm, hired to perform the functions of positions covered by the term 
Senior Executive Officer.
    Subordinated Debt means an Issuing Credit Union's borrowing that 
meets the requirements of this subpart, including all obligations and 
contracts related to such borrowing.
    Subordinated Debt Note means the written contract(s) evidencing the 
Subordinated Debt.


Sec.  702.403  Eligibility.

    (a) Subject to receiving approval under Sec.  702.408 or Sec.  
702.409, a credit union may issue Subordinated Debt only if, at the 
time of such issuance, the credit union is:
    (1) A complex credit union with a capital classification of at 
least ``undercapitalized,'' as defined in Sec.  702.102;
    (2) A LICU;
    (3) Able to demonstrate to the satisfaction of the NCUA that it 
reasonably anticipates becoming either a complex credit union meeting 
the requirements of paragraph (a)(1) of this section or a LICU within 
24 months after issuance of the Subordinated Debt Notes; or
    (4) A new credit union with Retained Earnings equal to or greater 
than one percent (1%) of assets.
    (b) At the time of issuance of any Subordinated Debt, an Issuing 
Credit Union may not have any investments, direct or indirect, in 
Subordinated Debt or Grandfathered Secondary Capital (or any interest 
therein) of another credit union. If a credit union acquires 
Subordinated Debt or Grandfathered Secondary Capital in a merger or 
other consolidation, the Issuing Credit Union may still issue 
Subordinated Debt, but it may not invest (directly or indirectly) in 
the Subordinated Debt or Grandfathered Secondary Capital of any other 
credit union while any Subordinated Debt Notes issued by the Issuing 
Credit Union remain outstanding.
    (c) If the Issuing Credit Union is a complex credit union that is 
not also a LICU, the aggregate outstanding principal amount of all 
Subordinated Debt issued by that Issuing Credit Union may not exceed 
100 percent of its net worth, as determined at the time of each 
issuance of Subordinated Debt.


Sec.  702.404  Requirements of the Subordinated Debt and Subordinated 
Debt Note.

    (a) Requirements. At a minimum, the Subordinated Debt or the 
Subordinated Debt Note, as applicable, must:
    (1) Be in the form of a written, unconditional promise to pay on a 
specified date a sum certain in money in return for adequate 
consideration in money;
    (2) Have, at the time of issuance, a fixed stated maturity of at 
least five years and not more than 20 years from issuance. The stated 
maturity of the Subordinated Debt Note may not reset and may not 
contain an option to extend the maturity;
    (3) Be subordinate to all other claims in liquidation under Sec.  
709.5(b) of this chapter, and have the same payout priority as all 
other outstanding Subordinated Debt and Grandfathered Secondary 
Capital;
    (4) Be properly characterized as debt in accordance with U.S. GAAP;
    (5) Be unsecured, including, without limitation, prohibiting the 
establishment of any legally enforceable claim against funds earmarked 
for payment of the Subordinated Debt through:
    (i) A compensating balance or any other funds or assets subject to 
a legal right of offset, as defined by applicable state law; or
    (ii) A sinking fund, such as a fund formed by periodically setting 
aside money for the gradual repayment of the Subordinated Debt;
    (6) Be applied by the Issuing Credit Union at the end of each of 
its fiscal years (or more frequently as determined by the Issuing 
Credit Union) in which the Subordinated Debt remains outstanding to 
cover any deficit in Retained Earnings on a pro rata basis among all 
holders of the Subordinated Debt and Grandfathered Secondary Capital of 
the Issuing Credit Union; it being understood that any amounts applied 
to cover a deficit in Retained Earnings shall no longer be considered 
due and payable to the holder(s) of the Subordinated Debt or 
Grandfathered Secondary Capital;
    (7) Except as provided in Sec. Sec.  702.411 and 702.412(c), be 
payable in full by the Issuing Credit Union or its successor or 
assignee only at maturity;
    (8) Disclose any prepayment penalties or restrictions on 
prepayment;
    (9) Be offered, issued, and sold only to Entity Accredited 
Investors or Natural Person Accredited Investors, in accordance Sec.  
702.406; and
    (10) Be re-offered, reissued, and resold only to an Entity 
Accredited Investor (if the initial offering, issuance, and sale was 
solely made to Entity Accredited Investors) or any Accredited Investor 
(if the initial offering, issuance, and sale involved one or more 
Natural Person Accredited Investors).
    (b) Restrictions. The Subordinated Debt or the Subordinated Debt 
Note, as applicable, must not:
    (1) Be structured or identified as a share, share account, or any 
other instrument in the Issuing Credit Union that is insured by the 
National Credit Union Administration;
    (2) Include any express or implied terms that make it senior to any 
other Subordinated Debt issued under this subpart or Grandfathered 
Secondary Capital;

[[Page 11076]]

    (3) Cause the Issuing Credit Union to exceed the borrowing limit in 
Sec.  741.2 of this chapter or, for federally insured, state-chartered 
credit unions, any more restrictive state borrowing limit;
    (4) Provide the holder thereof with any management or voting rights 
in the Issuing Credit Union;
    (5) Be eligible to be pledged or provided by the investor as 
security for a loan from, or other obligation owing to, the Issuing 
Credit Union;
    (6) Include any express or implied term, condition, or agreement 
that would require the Issuing Credit Union to prepay or accelerate 
payment of principal of or interest on the Subordinated Debt prior to 
maturity, including investor put options;
    (7) Include an express or implied term, condition, or agreement 
that would trigger an event of default based on the Issuing Credit 
Union's default on other debts;
    (8) Include any condition, restriction, or requirement based on the 
Issuing Credit Union's credit quality or other credit-sensitive 
feature; or
    (9) Require the Issuing Credit Union to make any form of payment 
other than in cash.
    (c) Negative covenants. A Subordinated Debt Note must not include 
any provision or covenant that unduly restricts or otherwise acts to 
unduly limit the authority of the Issuing Credit Union or interferes 
with the NCUA's supervision of the Issuing Credit Union. This includes, 
but is not limited to, a provision or covenant that:
    (1) Requires the Issuing Credit Union to maintain a minimum amount 
of Retained Earnings or other metric, such as a minimum net worth ratio 
or minimum asset, liquidity, or loan ratios;
    (2) Unreasonably restricts the Issuing Credit Union's ability to 
raise capital through the issuance of additional Subordinated Debt;
    (3) Provides for default of the Subordinated Debt as a result of 
the Issuing Credit Union's compliance with any law, regulation, or 
supervisory directive from the NCUA or, if applicable, the state 
supervisory authority;
    (4) Provides for default of the Subordinated Debt as the result of 
a change in the ownership, management, or organizational structure or 
charter of the Issuing Credit Union; provided that, following such 
change, the Issuing Credit Union or the resulting institution, as 
applicable:
    (i) Agrees to perform all of the obligations, terms, and conditions 
of the Subordinated Debt; and
    (ii) At the time of such change, is not in material default of any 
provision of the Subordinated Debt Note, after giving effect to the 
applicable cure period described in paragraph (d) of this section; and
    (5) Provides for default of the Subordinated Debt as the result of 
an act or omission of any third party, including but not limited to a 
credit union service organization, as defined in Sec.  712.1(d) of this 
chapter.
    (d) Default covenants. A Subordinated Debt Note that includes 
default covenants must provide the Issuing Credit Union with a 
reasonable cure period of not less than 30 calendar days.
    (e) Minimum denominations of issuances to Natural Person Accredited 
Investors. An Issuing Credit Union may only issue Subordinated Debt 
Notes to Natural Person Accredited Investors in minimum denominations 
of $100,000, and cannot exchange any such Subordinated Debt Notes after 
the initial issuance or any subsequent resale for Subordinated Debt 
Notes of the Issuing Credit Union in denominations less than $10,000. 
Each such Subordinated Debt Note, if issued in certificate form, must 
include a legend disclosing that it cannot be exchanged for 
Subordinated Debt Notes of the Issuing Credit Union in denominations 
less than $100,000, and Subordinated Debt Notes issued in book-entry or 
other uncertificated form shall include appropriate instructions 
prohibiting the exchange of such Subordinated Debt Notes for 
Subordinated Debt Notes of the Issuing Credit Union in denominations 
that would violate the foregoing restrictions.


Sec.  702.405  Disclosures.

    (a) An Issuing Credit Union must disclose the following language 
clearly, in all capital letters, on the face of a Subordinated Debt 
Note:

    <bullet> THIS OBLIGATION IS NOT A SHARE IN THE ISSUING CREDIT 
UNION AND IS NOT INSURED BY THE NATIONAL CREDIT UNION 
ADMINISTRATION.
    <bullet> THIS OBLIGATION IS UNSECURED AND SUBORDINATE TO ALL 
CLAIMS AGAINST THE ISSUING CREDIT UNION AND IS INELIGIBLE AS 
COLLATERAL FOR A LOAN BY THE ISSUING CREDIT UNION.
    <bullet> AMOUNTS OTHERWISE PAYABLE HEREUNDER MAY BE REDUCED IN 
ORDER TO COVER ANY DEFICIT IN RETAINED EARNINGS OF THE ISSUING 
CREDIT UNION. AMOUNTS APPLIED TO COVER ANY SUCH DEFICIT WILL RESULT 
IN A CORRESPONDING REDUCTION OF THE PRINCIPAL AMOUNT OF ALL 
OUTSTANDING SUBORDINATED DEBT ISSUED BY THE ISSUING CREDIT UNION, 
AND WILL NO LONGER BE DUE AND PAYABLE TO THE HOLDERS OF SUCH 
SUBORDINATED DEBT. AMOUNTS APPLIED TO COVER ANY SUCH DEFICIT MUST BE 
APPLIED AMONG ALL HOLDERS OF SUCH SUBORDINATED DEBT PRO RATA BASED 
ON THE AGGREGATE AMOUNT OF SUBORDINATED DEBT OWED BY THE ISSUING 
CREDIT UNION TO EACH SUCH HOLDER AT THE TIME OF APPLICATION.
    <bullet> THIS OBLIGATION CAN ONLY BE REPAID AT MATURITY OR IN 
ACCORDANCE WITH 12 CFR 702.411. THIS OBLIGATION MAY ALSO BE REPAID 
IN ACCORDANCE WITH 12 CFR PART 710 IF THE ISSUING CREDIT UNION 
VOLUNTARILY LIQUIDATES.
    <bullet> THE NOTE EVIDENCING THIS OBLIGATION HAS NOT BEEN AND 
WILL NOT BE REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED 
(THE ``SECURITIES ACT''), OR THE SECURITIES LAWS OF ANY STATE OF THE 
UNITED STATES OR ANY OTHER JURISDICTION, AND MAY BE ISSUED, SOLD, 
PLEDGED, OR OTHERWISE TRANSFERRED ONLY (A) AS PERMITTED IN THE NOTE 
AND TO A PERSON WHOM THE ISSUER OR SELLER REASONABLY BELIEVES IS [AN 
``ACCREDITED INVESTOR'' (AS DEFINED IN 12 CFR 702.402)] [AN ``ENTITY 
ACCREDITED INVESTOR'' (AS DEFINED IN 12 CFR 702.402)] (THAT IS NOT A 
MEMBER OF THE ISSUING CREDIT UNION'S BOARD, A SENIOR EXECUTIVE 
OFFICER OF THE ISSUING CREDIT UNION (AS THAT TERM IS DEFINED IN 12 
CFR 702.402), OR ANY IMMEDIATE FAMILY MEMBER OF ANY SUCH BOARD 
MEMBER OR SENIOR EXECUTIVE OFFICER), PURCHASING FOR ITS OWN ACCOUNT, 
(1) TO WHOM NOTICE IS GIVEN THAT THE SALE, PLEDGE, OR OTHER TRANSFER 
IS BEING MADE IN RELIANCE ON THE EXEMPTION FROM SECURITIES ACT 
REGISTRATION PROVIDED BY SECTION 3(a)(5) OF THE SECURITIES ACT, OR 
(2) IN ACCORDANCE WITH ANOTHER EXEMPTION FROM THE REGISTRATION 
REQUIREMENTS OF THE SECURITIES ACT (SUBJECT TO THE DELIVERY OF SUCH 
CERTIFICATIONS, LEGAL OPINIONS, OR OTHER INFORMATION AS THE ISSUING 
CREDIT UNION MAY REASONABLY REQUIRE TO CONFIRM THAT SUCH SALE, 
PLEDGE, OR TRANSFER IS BEING MADE PURSUANT TO AN EXEMPTION FROM, OR 
IN A TRANSACTION NOT SUBJECT TO, THE REGISTRATION REQUIREMENTS OF 
THE SECURITIES ACT), (B) IN COMPLIANCE WITH THE CERTIFICATION AND 
OTHER REQUIREMENTS SPECIFIED IN THE [INDENTURE OR OTHER DOCUMENT 
PURSUANT TO WHICH THE SUBORDINATED DEBT NOTE IS ISSUED] REFERRED TO 
HEREIN, AND (C) IN ACCORDANCE WITH ANY APPLICABLE SECURITIES LAWS OF 
ANY STATE OF THE UNITED STATES AND ANY OTHER APPLICATION 
JURISDICTION.

    (b) An Issuing Credit Union must also clearly and accurately 
disclose in the Subordinated Debt Note:
    (1) The payout priority and level of subordination, as described in 
Sec.  709.5(b) of this chapter, that would apply in the event of the 
involuntary liquidation of the Issuing Credit Union;

[[Page 11077]]

    (2) A general description of the NCUA's regulatory authority that 
includes, at a minimum:
    (i) If the Issuing Credit Union is ``undercapitalized'' or, if the 
Issuing Credit Union is a New Credit Union, ``moderately capitalized'' 
(each as defined in this part), and fails to submit an acceptable net 
worth restoration plan, capital restoration plan, or revised business 
plan, as applicable, or materially fails to implement such a plan that 
was approved by the NCUA, the Issuing Credit Union may be subject to 
all of the additional restrictions and requirements applicable to a 
``significantly undercapitalized'' credit union or, if the Issuing 
Credit Union is a new credit union, a ``marginally capitalized'' new 
credit union; and
    (ii) Beginning 60 days after the effective date of an Issuing 
Credit Union being classified as ``critically undercapitalized'' or, in 
the case of a new credit union, ``uncapitalized,'' the Issuing Credit 
Union shall not pay principal of or interest on its Subordinated Debt, 
until reauthorized to do so by the NCUA; provided, however, that unpaid 
interest shall continue to accrue under the terms of the Subordinated 
Debt Note, to the extent permitted by law; and
    (3) The risk factors associated with the NCUA's or, if applicable, 
the state supervisory authority's, authority to conserve or liquidate a 
credit union under the Federal Credit Union Act (FCU Act) or applicable 
state law.


Sec.  702.406  Requirements related to the offer, sale, and issuance of 
Subordinated Debt Notes.

    (a) Offering Document. An Issuing Credit Union or person acting on 
behalf of or at the direction of any Issuing Credit Union may only 
issue and sell Subordinated Debt Notes if, a reasonable time prior to 
the issuance and sale of any Subordinated Debt Notes, each purchaser of 
a Subordinated Debt Note receives an Offering Document that meets the 
requirements of Sec.  702.408(e) and such further material information, 
if any, as may be necessary to make the required disclosures in that 
Offering Document, in the light of the circumstances under which they 
are made, not misleading.
    (b) Territorial limitations. An Issuing Credit Union may only 
offer, issue, and sell Subordinated Debt Notes in the United States of 
America (including any one of the states thereof and the District of 
Columbia), its territories, and its possessions. This limitation 
includes a prohibition on non-U.S. investors holding or purchasing 
Subordinated Debt Notes.
    (c) Accredited Investors. An Issuing Credit Union may only offer, 
issue, and sell Subordinated Debt to Accredited Investors, and the 
terms of any Subordinated Debt Note must include the restrictions in 
Sec.  702.404(a)(10); provided that no Subordinated Debt Note may be 
issued, sold, resold, pledged, or otherwise transferred to a member of 
the board of the Issuing Credit Union, any Senior Executive Officer of 
the Issuing Credit Union, or any Immediate Family Member of any such 
board member or Senior Executive Officer. Prior to the offer of any 
Subordinated Debt Note, the Issuing Credit Union must receive a signed, 
unambiguous certification from any potential investor of a Subordinated 
Debt Note. The certification must be in substantially the following 
form:

CERTIFICATE OF ACCREDITED INVESTOR STATUS

    Except as may be indicated by the undersigned below, the 
undersigned is an accredited investor, as that term is defined in 
Regulation D under the Securities Act of 1933, as amended (the 
``Act''). In order to demonstrate the basis on which it is 
representing its status as an accredited investor, the undersigned 
has checked one of the boxes below indicating that the undersigned 
is:
    [ ] Any bank as defined in section 3(a)(2) of the Act, or any 
savings and loan association or other institution as defined in 
section 3(a)(5)(A) of the Act whether acting in its individual or 
fiduciary capacity; any broker or dealer registered pursuant to 
section 15 of the Securities Exchange Act of 1934; any investment 
adviser registered pursuant to section 203 of the Investment 
Advisers Act of 1940 or registered pursuant to the laws of a state; 
any investment adviser relying on the exemption from registering 
with the Securities and Exchange Commission under section 203(l) or 
(m) of the Investment Advisers Act of 1940; any insurance company as 
defined in section 2(a)(13) of the Act; any investment company 
registered under the Investment Company Act of 1940 or a business 
development company as defined in section 2(a)(48) of that act; any 
Small Business Investment Company licensed by the U.S. Small 
Business Administration under section 301(c) or (d) of the Small 
Business Investment Act of 1958; any Rural Business Investment 
Company as defined in section 384A of the Consolidated Farm and 
Rural Development Act; any plan established and maintained by a 
state, its political subdivisions, or any agency or instrumentality 
of a state or its political subdivisions, for the benefit of its 
employees, if such plan has total assets in excess of $5,000,000; 
any employee benefit plan within the meaning of the Employee 
Retirement Income Security Act of 1974 if the investment decision is 
made by a plan fiduciary, as defined in section 3(21) of such act, 
which is either a bank, savings and loan association, insurance 
company, or registered investment adviser, or if the employee 
benefit plan has total assets in excess of $5,000,000 or, if a self-
directed plan, with investment decisions made solely by persons that 
are accredited investors; [ ] A private business development company 
as defined in section 202(a)(22) of the Investment Advisers Act of 
1940;
    [ ] Any organization described in section 501(c)(3) of the 
Internal Revenue Code, corporation, Massachusetts or similar 
business trust, partnership, or limited liability company, not 
formed for the specific purpose of acquiring the securities offered, 
with total assets in excess of $5,000,000; [ ] Any natural person 
whose individual net worth, or joint net worth with that person's 
spouse or spousal equivalent, exceeds $1,000,000; (excluding the 
value of the person's primary residence). For the purposes of 
calculating joint net worth in this paragraph: joint net worth can 
be the aggregate net worth of the investor and spouse or spousal 
equivalent; assets need not be held jointly to be included in the 
calculation;
    [ ] Any natural person who had an individual income in excess of 
$200,000 in each of the two most recent years or joint income with 
that person's spouse or spousal equivalent in excess of $300,000 in 
each of those years and has a reasonable expectation of reaching the 
same income level in the current year; [ ] A trust with total assets 
in excess of $5,000,000, not formed for the specific purpose of 
acquiring the securities offered, whose purchase is directed by a 
person who has such knowledge and experience in financial and 
business matters that he or she is capable of evaluating the merits 
and risks of the prospective investment;
    [ ] An entity in which all of the equity holders are accredited 
investors by virtue of their meeting one or more of the above 
standards;
    [ ] Any entity, of a type not listed in paragraph (a)(1), (2), 
(3), (7), or (8) of 17 CFR 230.501(a), not formed for the specific 
purpose of acquiring the securities offered, owning investments in 
excess of $5,000,000;
    [ ] Any natural person holding in good standing one or more 
professional certifications or designations or credentials from an 
accredited educational institution that the Securities and Exchange 
Commission has designated as qualifying an individual for accredited 
investor status;
    [ ] Any natural person who is a ``knowledgeable employee,'' as 
defined in rule 3c5(a)(4) under the Investment Company Act of 1940 
(17 CFR 270.3c-5(a)(4)), of the issuer of the securities being 
offered or sold where the issuer would be an investment company, as 
defined in section 3 of such act, but for the exclusion provided by 
either section 3(c)(1) or section 3(c)(7) of such act;
    [ ] Any ``family office,'' as defined in rule 202(a)(11)(G)-1 
under the Investment Advisers Act of 1940 (17 CFR 275.202(a)(11)(G)-
1): (i) With assets under management in excess of $5,000,000, (ii) 
That is not formed for the specific purpose of acquiring the 
securities offered, and (iii) Whose prospective investment is 
directed by a person who has such knowledge and experience in 
financial and business matters

[[Page 11078]]

that such family office is capable of evaluating the merits and 
risks of the prospective investment; and
    [ ] Any ``family client,'' as defined in rule 202(a)(11)(G)-1 
under the Investment Advisers Act of 1940 (17 CFR 275.202(a)(11)(G)-
1)), of a family office meeting the requirements in paragraph 
(a)(12) of Sec.  275.202(a)(11)(G)-1 and whose prospective 
investment in the issuer is directed by such family office pursuant 
to paragraph (a)(12)(iii) of Sec.  275.202(a)(11)(G)-1.
    The undersigned understands that [NAME OF ISSUING CREDIT UNION] 
(the ``Credit Union'') is required to verify the undersigned's 
accredited investor status AND ELECTS TO DO ONE OF THE FOLLOWING:
    [ ] Allow the Credit Union's representative to review the 
undersigned's tax returns for the two most recently completed years 
and provide a written representation of the undersigned's reasonable 
expectation of reaching the income level necessary to qualify as an 
accredited investor during the current year;
    [ ] Allow the Credit Union's representative to: (1) obtain a 
written representation from the undersigned that states that all 
liabilities necessary to make a determination of net worth have been 
disclosed; and (2) review one or more of the following types of 
documentation dated within the past three months: bank statements, 
brokerage statements, tax assessments, appraisal reports as to 
assets, or a consumer report from a nationwide consumer reporting 
agency;
    [ ] Provide the Credit Union with a written confirmation from 
one of the following persons or entities that such person or entity 
has taken reasonable steps to verify that the undersigned is an 
accredited investor within the prior three months and has determined 
that the undersigned is an accredited investor:
    <bullet> A registered broker-dealer;
    <bullet> An investment adviser registered with the Securities 
Exchange Commission;
    <bullet> A licensed attorney who is in good standing under the 
laws of the jurisdictions in which such attorney is admitted to 
practice law; or
    <bullet> A certified public accountant who is duly registered 
and in good standing under the laws of the place of such 
accountant's residence or principal office.
    IN WITNESS WHEREOF, the undersigned has executed this 
Certificate of Accredited Investor Status effective as of 
______________, 20___.

-----------------------------------------------------------------------
Name of Investor

-----------------------------------------------------------------------
[Name of Authorized Representative

-----------------------------------------------------------------------
Title of Authorized Representative]

-----------------------------------------------------------------------
Signature

-----------------------------------------------------------------------
Address

-----------------------------------------------------------------------
Address

-----------------------------------------------------------------------
Phone Number

-----------------------------------------------------------------------
Email Address

    (d) Use of trustees. If using a trustee in connection with the 
offer, issuance, and sale of Subordinated Debt Notes, the trustee must 
meet the requirements set forth in the Trust Indenture Act of 1939, as 
amended, including requirements for qualification set forth in section 
310 thereof; any rules related to such act in 17 CFR parts 260, 261, 
and 269; and any applicable state law.
    (e) Offers, issuances, and sales of Subordinated Debt Notes. Offers 
issuances, and sales of Subordinated Debt Notes are required to be made 
in accordance with the following requirements:
    (1) Application to offer, issue, and sell at offices of Issuing 
Credit Union. If the Issuing Credit Union intends to offer and sell 
Subordinated Debt Notes at one or more of its offices, the Issuing 
Credit Union must first apply in writing to the Appropriate Supervision 
Office indicating that it intends to offer, issue, and sell 
Subordinated Debt Notes at one or more of its offices. The application 
must include, at a minimum, the physical locations of such offices and 
a description of how the Issuing Credit Union will comply with the 
requirements of this paragraph (e);
    (2) Decision on application. Within 60 calendar days (which may be 
extended by the Appropriate Supervision Office) after the date of 
receipt of a complete application described in paragraph (e)(1) of this 
section, the Appropriate Supervision Office will provide the Issuing 
Credit Union with a written determination on its application to conduct 
offering and sales activity from its office(s). Any denial of an 
Issuing Credit Union's application under this section will include the 
reasons for such denial;
    (3) Commissions, bonuses, or comparable payments. In connection 
with any offering and sale of Subordinated Debt Notes (whether or not 
conducted at offices of the Issuing Credit Union), an Issuing Credit 
Union shall not pay, directly or indirectly, any commissions, bonuses, 
or comparable payments to any employee of the Issuing Credit Union or 
any affiliated Credit Union Service Organizations (CUSOs) assisting 
with the offer, issuance, and sale of such Subordinated Debt Notes, or 
to any other person in connection with the offer, issuance, and sale of 
Subordinated Debt Notes; except that compensation and commissions 
consistent with industry norms may be paid to securities personnel of 
registered broker-dealers as otherwise permitted by applicable law;
    (4) Issuances by tellers. No offers or sales may be made by tellers 
at the teller counter of any Issuing Credit Union, or by comparable 
persons at comparable locations;
    (5) Permissible issuing personnel. In connection with an offering 
or sale of Subordinated Debt Notes (whether or not conducted at offices 
of the Issuing Credit Union), such activity may be conducted only by 
regular, full-time employees of the Issuing Credit Union or by 
securities personnel who are subject to supervision by a registered 
broker-dealer, which securities personnel may be employees of the 
Issuing Credit Union's affiliated CUSO that is assisting the Issuing 
Credit Union with the offer, issuance, and sale of the Subordinated 
Debt Notes;
    (6) Issuance practices, advertisements, and other literature used 
in connection with the offer and sale of Subordinated Debt Notes. In 
connection with an offering or sale of Subordinated Debt Notes (whether 
or not conducted at offices of the Issuing Credit Union), issuance 
practices, advertisements, and other issuance literature used in 
connection with offers and issuances of Subordinated Debt Notes by 
Issuing Credit Unions or any affiliated CUSOs assisting with the offer 
and issuance of such Subordinated Debt Notes shall be subject to the 
requirements of this subpart; and
    (7) Office of an Issuing Credit Union. For purposes of this 
paragraph (e), an ``office'' of an Issuing Credit Union means any 
premises used by the Issuing Credit Union that is identified to the 
public through advertising or signage using the Issuing Credit Union's 
name, trade name, or logo.
    (f) Securities laws. An Issuing Credit Union must comply with all 
applicable Federal and state securities laws.
    (g) Resales. All resales of Subordinated Debt Notes issued by an 
Issuing Credit Union by holders of such Subordinated Debt Notes must be 
made pursuant to 17 CFR 230.144 (Rule 144 under the Securities Act of 
1933, as amended) (other than paragraphs (c), (e), (f), (g) and (h) of 
such Rule), 17 CFR 230.144A (Rule 144A under the Securities Act of 
1933, as amended), or another exemption from registration under the 
Securities Act of 1933, as amended. Subordinated Debt Notes must 
include the restrictions on resales in Sec.  702.404(a)(10).


Sec.  702.407  Discounting of amount treated as Regulatory Capital.

    The amount of outstanding Subordinated Debt that may be treated as 
Regulatory Capital shall reduce by 20 percent per annum of the initial 
aggregate principal amount of the applicable Subordinated Debt (as

[[Page 11079]]

reduced by prepayments or amounts extinguished to cover a deficit under 
Sec.  702.404(a)(6)), as required by the following schedule:

                        Table 1 to Sec.   720.407
------------------------------------------------------------------------
                                                      Balance treated as
                 Remaining maturity                        regulatory
                                                          capital  %
------------------------------------------------------------------------
Four to less than five years........................                  80
Three to less than four years.......................                  60
Two to less than three years........................                  40
One to less than two years..........................                  20
Less than one year..................................                   0
------------------------------------------------------------------------

Sec.  702.408  Preapproval to issue Subordinated Debt.

    (a) Scope. This section requires all credit unions to receive 
written preapproval from the NCUA before issuing Subordinated Debt. 
Procedures related specifically to applications from federally insured, 
state-chartered credit unions are contained in Sec.  702.409. A credit 
union seeking approval to offer and sell Subordinated Debt at one or 
more of its offices must also follow the application procedures in 
Sec.  702.406(e). All approvals under this section are subject to the 
expiration limits specified in paragraph (k) of this section.
    (b) Initial application to issue Subordinated Debt. A credit union 
requesting approval to issue Subordinated Debt must first submit an 
application to the Appropriate Supervision Office that, at a minimum, 
includes:
    (1) A statement indicating how the credit union qualifies to issue 
Subordinated Debt given the eligibility requirements of Sec.  702.403 
with additional supporting analysis if anticipating to meet the 
requirements of a LICU or complex credit union within 24 months after 
issuance of the Subordinated Debt;
    (2) The maximum aggregate principal amount of Subordinated Debt 
Notes and the maximum number of discrete issuances of Subordinated Debt 
Notes that the credit union is proposing to issue within the period 
allowed under paragraph (k) of this section;
    (3) The estimated number of investors and the status of such 
investors (Natural Person Accredited Investors and/or Entity Accredited 
Investors) to whom the credit union intends to offer and sell the 
Subordinated Debt Notes;
    (4) A statement identifying any outstanding Subordinated Debt or 
Grandfathered Secondary Capital previously issued by the credit union;
    (5) A copy of the credit union's strategic plan, business plan, and 
budget, and an explanation of how the credit union intends to use the 
Subordinated Debt in conformity with those plans;
    (6) An analysis of how the credit union will provide for liquidity 
to repay the Subordinated Debt upon maturity of the Subordinated Debt;
    (7) Pro Forma Financial Statements (balance sheet, income 
statement, and statement of cash flows), including any off-balance 
sheet items, covering at least two years. Analytical support for key 
assumptions and key assumption changes must be included in the 
application. Key assumptions include, but are not limited to, interest 
rate, liquidity, and credit loss scenarios;
    (8) A statement indicating how the credit union will use the 
proceeds from the issuance and sale of the Subordinated Debt;
    (9) A statement identifying the governing law specified in the 
Subordinated Debt Notes and the documents pursuant to which the 
Subordinated Debt Notes will be issued;
    (10) A draft written policy governing the offer, and issuance, and 
sale of the Subordinated Debt, developed in consultation with Qualified 
Counsel, which, at a minimum, addresses:
    (i) Compliance with all applicable Federal and state securities 
laws and regulations;
    (ii) Compliance with applicable securities laws related to 
communications with investors and potential investors, including, but 
not limited to: Who may communicate with investors and potential 
investors; what information may be provided to investors and potential 
investors; ongoing disclosures to investors; who will review and ensure 
the accuracy of the information provided to investors and potential 
investors; and to whom information will be provided;
    (iii) Compliance with any laws that may require registration of 
credit union employees as broker-dealers; and
    (iv) Any use of outside agents, including broker-dealers, to assist 
in the marketing and issuance of Subordinated Debt, and any limitations 
on such use;
    (11) A schedule that provides an itemized statement of all expenses 
incurred or expected to be incurred by the credit union in connection 
with the offer, issuance, and sale of the Subordinated Debt Notes to 
which the initial application relates, other than underwriting 
discounts and commissions or similar compensation payable to broker-
dealers acting as placement agents. The schedule must include, as 
applicable, fees and expenses of counsel, auditors, any trustee or 
issuing and paying agent or any transfer agent, and printing and 
engraving expenses. If the amounts of any items are not known at the 
time of filing of the initial application, the credit union must 
provide estimates, clearly identified as such;
    (12) In the case of a new credit union, a statement that it is 
subject to either an approved initial business plan or revised business 
plan, as required by this part, and how the proposed Subordinated Debt 
would conform with the approved plan. Unless the new credit union has a 
LICU designation pursuant to Sec.  701.34 of this chapter, it must also 
include a plan for replacing the Subordinated Debt with Retained 
Earnings before the credit union ceases to meet the definition of new 
credit union in Sec.  702.2;
    (13) A statement describing any investments the credit union has in 
the Subordinated Debt of any other credit union, and the manner in 
which the credit union acquired such Subordinated Debt, including 
through a merger or other consolidation;
    (14) A signature page signed by the credit union's principal 
executive officer, principal financial officer or principal accounting 
officer, and a majority `of the members of its board of directors. 
Amendments to an initial application must be signed and filed with the 
NCUA in the same manner as the initial application; and
    (15) Any additional information requested in writing by the 
Appropriate Supervision Office.

[[Page 11080]]

    (c) Decision on initial application. Upon receiving an initial 
application submitted under this paragraph (c) and any additional 
information requested in writing by the Appropriate Supervision Office, 
the Appropriate Supervision Office will evaluate, at a minimum, the 
credit union's compliance with this subpart and all other NCUA 
regulations in this chapter, the credit union's ability to manage and 
safely offer, issue, and sell the proposed Subordinated Debt, the 
safety and soundness of the proposed use of the Subordinated Debt, the 
overall condition of the credit union, and any other factors the 
Appropriate Supervision Office determines are relevant.
    (1) Written determination. Within 60 calendar days (which may be 
extended by the Appropriate Supervision Office) after the date of 
receipt of a complete application, the Appropriate Supervision Office 
will provide the credit union with a written determination on its 
application. In the case of a full or partial denial, or conditional 
approval under paragraph (c)(2) of this section, the written decision 
will state the reasons for the denial or conditional approval.
    (2) Conditions of approval. Any approval granted by an Appropriate 
Supervision Office under this section may include one or more of the 
following conditions:
    (i) Approval of an aggregate principal amount of Subordinated Debt 
that is lower than what the credit union requested;
    (ii) Any applicable minimum level of net worth that the credit 
union must maintain while the Subordinated Debt Notes are outstanding;
    (iii) Approved uses of the Subordinated Debt; and
    (iv) Any other limitations or conditions the Appropriate 
Supervision Office deems necessary to protect the NCUSIF.
    (d) Offering Document. Following receipt of written approval of its 
initial application, an Issuing Credit Union must prepare an Offering 
Document for each issuance of Subordinated Debt Notes. In addition, as 
required in paragraph (f) of this section, an Issuing Credit Union that 
intends to offer Subordinated Debt Notes to any Natural Person 
Accredited Investors must have the related Offering Document declared 
``approved for use'' by the NCUA before its first use. At a reasonable 
time prior to any issuance and sale of Subordinated Debt Notes, the 
Issuing Credit Union must provide each investor with an Offering 
Document as described in this section. All Offering Documents must be 
filed with the NCUA within two business days after their respective 
first use.
    (e) Requirements for all Offering Documents--(1) Minimum 
information required in an Offering Document. An Offering Document 
must, at a minimum, include the following information:
    (i) The name of the Issuing Credit Union and the address of its 
principal executive office;
    (ii) The initial principal amount of the Subordinated Debt being 
issued;
    (iii) The name(s) of any underwriter(s) or placement agents being 
used for the issuance;
    (iv) A description of the material risk factors associated with the 
purchase of the Subordinated Debt Notes, including any special or 
distinctive characteristics of the Issuing Credit Union's business, 
field of membership, or geographic location that are reasonably likely 
to have a material impact on the Issuing Credit Union's future 
financial performance;
    (v) The disclosures described in Sec.  702.405 and such additional 
material information, if any, as may be necessary to make the required 
disclosures, in the light of the circumstances under which they are 
made, not misleading;
    (vi) Provisions related to the interest, principal, payment, 
maturity, and prepayment of the Subordinated Debt Notes;
    (vii) All material affirmative and negative covenants that may or 
will be included in the Subordinated Debt Note, including, but not 
limited to, the covenants discussed in this subpart;
    (viii) Any legends required by applicable state law; and
    (ix) The following legend, displayed on the cover page in prominent 
type or in another manner:

    None of the Securities and Exchange Commission (the ``SEC''), 
any state securities commission or the National Credit Union 
Administration has passed upon the merits of, or given its approval 
of, the purchase of any Subordinated Debt Notes offered or the terms 
of the offering, or passed on the accuracy or completeness of any 
Offering Document or other materials used in connection with the 
offer, issuance, and sale of the Subordinated Debt Notes. Any 
representation to the contrary is unlawful. These Subordinated Debt 
Notes have not been registered under the Securities Act of 1933, as 
amended (the ``Act'') and are being offered and sold to [an Entity 
Accredited Investor][an Accredited Investor] (as defined in 12 CFR 
702.402) pursuant to an exemption from registration under the Act; 
however, neither the SEC nor the NCUA has made an independent 
determination that the offer and issuance of the Subordinated Debt 
Notes are exempt from registration.

    (2) Legibility requirements. An Issuing Credit Union's Offering 
Document must comply with the following legibility requirements:
    (i) Information in the Offering Document must be presented in a 
clear, concise, and understandable manner, incorporating plain English 
principles. The body of all printed Offering Documents shall be in type 
at least as large and as legible as 10-point type. To the extent 
necessary for convenient presentation, however, financial statements 
and other tabular data, including tabular data in notes, may be in type 
at least as large and as legible as 8-point type. Repetition of 
information should be avoided. Cross-referencing of information within 
the document is permitted; and
    (ii) Where an Offering Document is distributed through an 
electronic medium, the Issuing Credit Union may satisfy legibility 
requirements applicable to printed documents, such as paper size, type 
size and font, bold-face type, italics and red ink, by presenting all 
required information in a format readily communicated to offerees and, 
where indicated, in a manner reasonably calculated to draw the 
attention of offerees to specific information.
    (f) Offering Documents approved for use in offerings of 
Subordinated Debt to any Natural Person Accredited Investors--(1) 
Filing of a Draft Offering Document. An Issuing Credit Union that 
intends to offer Subordinated Debt Notes to any Natural Person 
Accredited Investors must file a draft Offering Document with the NCUA 
and have such draft Offering Document declared ``approved for use'' by 
the NCUA before its first use.
    (i) Request for additional information, clarifications, or 
amendments. Prior to declaring any Offering Document ``approved for 
use,'' the NCUA may ask questions, request clarifications, or direct 
the Issuing Credit Union to amend certain sections of the draft 
Offering Document. The NCUA will make any such requests in writing.
    (ii) Written determination. Within 60 calendar days (which may be 
extended by the NCUA) after the date of receipt of each of the initial 
filing and each filing of additional information, clarifications, or 
amendments requested by the NCUA under paragraph (f)(1)(i) of this 
section, the NCUA will provide the Issuing Credit Union with a written 
determination on the applicable filing. The written determination will 
include any requests for additional information, clarifications, or 
amendments, or a statement that the Offering Document is ``approved for 
use.''
    (2) Filing of a final Offering Document. At such time as the NCUA

[[Page 11081]]

declares an Offering Document ``approved for use'' in accordance with 
paragraph (f)(1)(ii) of this section, the Issuing Credit Union may then 
use that Offering Document in the offer and sale of the Subordinated 
Debt Notes. The Issuing Credit Union must file a copy of each of its 
Offering Documents with the NCUA within two business days after their 
respective first use.
    (g) Filing of an Offering Document for offerings of Subordinated 
Debt exclusively to Entity Accredited Investors. An Issuing Credit 
Union that is offering Subordinated Debt exclusively to Entity 
Accredited Investors is not required to have its Offering Document 
``approved for use'' by the NCUA under paragraph (f) of this section 
before using it to offer and sell the Subordinated Debt Notes. As 
described in this section, however, the Issuing Credit Union must file 
a copy of each of its Offering Documents with the NCUA within two 
business days after their respective first use.
    (h) Material changes to any initial application or Offering 
Document--(1) Reapproval of initial application. If any material event 
arises or material change in fact occurs after the approval of the 
initial application by the NCUA, but prior to the completion of the 
offer and sale of the related Subordinated Debt Notes, then no person 
shall offer or sell Subordinated Debt Notes to any other person until 
an amendment to the Offering Document reflecting the event or change 
has been filed with and approved by the NCUA.
    (2) Reapproval of Offering Document. If an Offering Document must 
be approved for use under paragraph (f) of this section, and any event 
arises or change in fact occurs after the approval for use of any 
Offering Document, and that event or change in fact, individually or in 
the aggregate, results in the Offering Document containing any untrue 
statement of material fact, or omitting to state a material fact 
necessary in order to make statements made in the Offering Document not 
misleading in light of the circumstances under which they were made, 
then no person shall offer or sell Subordinated Debt Notes to any other 
person until an amendment reflecting the event or change has been filed 
with and ``approved for use'' by the NCUA.
    (3) Failure to request reapproval. If an Issuing Credit Union fails 
to comply with paragraph (h)(1) or (2) of this section, the NCUA may, 
at its discretion, exercise the full range of administrative remedies 
available under the FCU Act, including:
    (i) Prohibiting the Issuing Credit Union from issuing any 
additional Subordinated Debt for a specified period; and/or
    (ii) Determining not to treat the Subordinated Debt as Regulatory 
Capital.
    (i) Notification. Not later than 10 business days after the closing 
of a Subordinated Debt Note issuance and sale, the Issuing Credit Union 
must submit to the Appropriate Supervision Office:
    (1) A copy of each executed Subordinated Debt Note;
    (2) A copy of each executed purchase agreement, if any;
    (3) Any indenture or other transaction document used to issue the 
Subordinated Debt Notes;
    (4) Copies of signed certificates of Accredited Investor status, in 
a form similar to that in Sec.  702.406(c), from all investors;
    (5) All documentation provided to investors related to the offer 
and sale of the Subordinated Debt Note (other than any Offering 
Document that was previously filed with the NCUA); and
    (6) Any other material documents governing the issuance, sale or 
administration of the Subordinated Debt Notes.
    (j) Resubmissions. An Issuing Credit Union that receives any 
adverse written determination from the Appropriate Supervision Office 
with respect to the approval of its initial application or any 
amendment thereto or, if applicable, the approval for use of an 
Offering Document or any amendment thereto, may cure any reasons noted 
in the written determination and refile under the requirements of this 
section. This paragraph (j) does not prohibit an Issuing Credit Union 
from appealing an Appropriate Supervision Office's decision under 
subpart A of part 746 of this chapter.
    (k) Expiration of authority to issue Subordinated Debt. (1) Any 
approvals to issue Subordinated Debt Notes under this section expire 
two years from the later of the date the Issuing Credit Union receives:
    (i) Approval of its initial application, if the Issuing Credit 
Union is offering Subordinated Notes exclusively to Entity Accredited 
Investors; or
    (ii) The initial approval for use of its Offering Document, if the 
Issuing Credit Union is offering Subordinated Debt Notes to any Natural 
Person Accredited Investors.
    (2) Failure to issue all or part of the maximum aggregate principal 
amount of Subordinated Debt Notes approved in the initial application 
process within the applicable period specified in paragraph (k) of this 
section will result in the expiration of the NCUA's approval. An 
Issuing Credit Union may file a written extension request with the 
Appropriate Supervision Office. The Issuing Credit Union must 
demonstrate good cause for any extension(s), and must file the request 
at least 30 calendar days before the expiration of the applicable 
period specified in paragraph (k) of this section or any extensions 
granted under paragraph (k) of this section. In any such written 
application, the Issuing Credit Union must address whether any such 
extension poses any material securities law implications.
    (l) Filing requirements and inspection of documents. (1) Except as 
otherwise provided in this section, all initial applications, Offering 
Documents, amendments, notices, or other documents must be filed with 
the NCUA electronically. The NCUA will publish on its website, http://www.NCUA.gov, the web address for electronic filings. Documents may be 
signed electronically using the signature provision in 17 CFR 230.402 
(Rule 402 under the Securities Act of 1933, as amended).
    (2) Provided the Issuing Credit Union filing the document has 
complied with all requirements regarding the filing in this section, 
the date of filing of the document is the date the NCUA receives the 
filing. An electronic filing that is submitted on a business day by 
direct transmission commencing on or before 5:30 p.m. Eastern Standard 
or Daylight Savings Time, whichever is then currently in effect, would 
be deemed received by the NCUA on the same business day. An electronic 
filing that is submitted by direct transmission commencing after 5:30 
p.m. Eastern Standard or Daylight Savings Time, whichever is then 
currently in effect, or on a Saturday, Sunday, or Federal holiday, 
would be deemed received by the NCUA on the next business day. If an 
electronic filer in good faith attempts to file a document with the 
NCUA in a timely manner, but the filing is delayed due to technical 
difficulties beyond the electronic filer's control, the electronic 
filer may request that the NCUA adjust the filing date of such 
document. The NCUA may grant the request if it appears that such 
adjustment is appropriate and consistent with the public interest and 
the protection of investors.
    (3) If an Issuing Credit Union experiences unanticipated technical 
difficulties preventing the timely preparation and submission of an 
electronic filing, the Issuing Credit Union may, upon notice to the 
Appropriate Supervision Office, file the subject filing in paper format 
no later

[[Page 11082]]

than one business day after the date on which the filing was to be 
made.
    (4) Any filing of amendments or supplements to an Offering Document 
must include two copies, one of which must be marked to indicate 
clearly and precisely, by underlining or in some other conspicuous 
manner, the changes made from the previously filed Offering Document.
    (m) Filing fees. (1) The NCUA may require filing fees to accompany 
certain filings made under this subpart before it will accept those 
filings. If the NCUA requires the aforementioned filing fee, the NCUA 
will publish an applicable fee schedule on its website at http://www.NCUA.gov.
    (2) Filing fees must be paid to the NCUA by electronic transfer.


Sec.  702.409   Preapproval for federally insured, state-chartered 
credit unions to issue Subordinated Debt.

    (a) A federally insured, state-chartered credit union is required 
to submit the information required under Sec.  702.408 and, if 
applicable, paragraph (b) of this section to both the Appropriate 
Supervision Office and its state supervisory authority. The Appropriate 
Supervision Office will issue decisions approving a federally insured, 
state-chartered credit union's application only after obtaining the 
concurrence of the federally insured, state-chartered credit union's 
state supervisory authority. The NCUA will notify a federally insured, 
state-chartered credit union's state supervisory authority before 
issuing a decision to ``approve for use'' a federally insured, state-
chartered credit union's Offering Document and any amendments thereto, 
under Sec.  702.408, if applicable.
    (b) If the Appropriate Supervision Office has reason to believe 
that an issuance by a federally insured, state-chartered credit union 
under this subpart could subject that federally insured, state-
chartered credit union to Federal income taxation, the Appropriate 
Supervision Office may require the federally insured, state-chartered 
credit union to provide:
    (1) A written legal opinion, satisfactory to the NCUA, from 
nationally recognized tax counsel or letter from the Internal Revenue 
Service indicating whether the proposed Subordinated Debt would be 
classified as capital stock for Federal income tax purposes and, if so, 
describing any material impact of Federal income taxes on the federally 
insured, state-chartered credit union's financial condition; or
    (2) A Pro Forma Financial Statement (balance sheet, income 
statement, and statement of cash flows), covering a minimum of two 
years, that shows the impact of the federally insured, state-chartered 
credit union being subject to Federal income tax.
    (c) If the Appropriate Supervision Office requires additional 
information from a federally insured, state-chartered credit union 
under paragraph (b) of this section, the federally insured, state-
chartered credit union may determine, in its sole discretion, whether 
the information it provides is in the form described in paragraph 
(b)(1) or (2) of this section.


Sec.  702.410   Interest payments on Subordinated Debt.

    (a) Requirements for interest payments. An Issuing Credit Union is 
prohibited from paying interest on Subordinated Debt in accordance with 
Sec.  702.109.
    (b) Accrual of interest. Notwithstanding nonpayment pursuant to 
paragraph (a) of this section, interest on the Subordinated Debt may 
continue to accrue according to terms provided for in the Subordinated 
Debt Note and as otherwise permitted in this subpart.
    (c) Interest safe harbor. Except as otherwise provided in this 
section, the NCUA shall not impose a discretionary supervisory action 
that requires the Issuing Credit Union to suspend interest with respect 
to the Subordinated Debt if:
    (1) The issuance and sale of the Subordinated Debt complies with 
all requirements of this subpart;
    (2) The Subordinated Debt is issued and sold in an arms-length, 
bona fide transaction;
    (3) The Subordinated Debt was issued and sold in the ordinary 
course of business, with no intent to hinder, delay, or defraud the 
Issuing Credit Union or its creditors; and
    (4) The Subordinated Debt was issued and sold for adequate 
consideration in U.S. dollars.
    (d) Authority, rights, and powers of the NCUA and the NCUA Board. 
This section does not waive, limit, or otherwise affect the authority, 
rights, or powers of the NCUA or the NCUA Board in any capacity, 
including the NCUA Board as conservator or liquidating agent, to take 
any action or to exercise any power not specifically mentioned, 
including but not limited to any rights, powers, or remedies of the 
NCUA Board as conservator or liquidating agent regarding transfers or 
other conveyances taken in contemplation of the Issuing Credit Union's 
insolvency or with the intent to hinder, delay, or defraud the Issuing 
Credit Union or the creditors of such Issuing Credit Union, or that is 
fraudulent under applicable law.


Sec.  702.411   Prior written approval to prepay Subordinated Debt.

    (a) Prepayment option. An Issuing Credit Union may include in the 
terms of its Subordinated Debt an option that allows the Issuing Credit 
Union to prepay the Subordinated Debt in whole or in part prior to 
maturity, provided, however, that the Issuing Credit Union is required 
to:
    (1) Clearly disclose the requirements of this section in the 
Subordinated Debt Note; and
    (2) Obtain approval under paragraph (b) of this section before 
exercising a prepayment option.
    (b) Prepayment application. Before an Issuing Credit Union can, in 
whole or in part, prepay Subordinated Debt prior to maturity, the 
Issuing Credit Union must first submit to the Appropriate Supervision 
Office an application that must include, at a minimum, the information 
required in paragraph (d) of this section.
    (c) Federally insured, state-chartered credit union prepayment 
applications. Before a federally insured, state-chartered credit union 
may submit an application for prepayment to the Appropriate Supervision 
Office, it must obtain written approval from its state supervisory 
authority to prepay the Subordinated Debt it is proposing to prepay. A 
federally insured, state-chartered credit union must provide evidence 
of such approval as part of its application to the Appropriate 
Supervision Office.
    (d) Application contents. An Issuing Credit Union's application to 
prepay Subordinated Debt must include, at a minimum, the following:
    (1) A copy of the Subordinated Debt Note and any agreement(s) 
reflecting the terms and conditions of the Subordinated Debt the 
Issuing Credit Union is proposing to prepay;
    (2) An explanation why the Issuing Credit Union believes it still 
would hold an amount of capital commensurate with its risk exposure 
notwithstanding the proposed prepayment or a description of the 
replacement Subordinated Debt, including the amount of such instrument, 
and the time frame for issuance, the Issuing Credit Union is proposing 
to use to replace the prepaid Subordinated Debt; and
    (3) Any additional information the Appropriate Supervision Office 
requests.
    (e) Decision on application to prepay. (1) Within 45 calendar days 
(which may be extended by the Appropriate Supervision Office) after the 
date of receipt of a complete application, the Appropriate Supervision 
Office will

[[Page 11083]]

provide the Issuing Credit Union with a written determination on its 
application. In the case of a full or partial denial, including a 
conditional approval under paragraph (e)(2) of this section, the 
written decision will state the reasons for the denial or conditional 
approval.
    (2) The written determination from the Appropriate Supervision 
Office may approve the Issuing Credit Union's request, approve the 
Issuing Credit Union's request with conditions, or deny the Issuing 
Credit Union's request. In the case of a denial or conditional 
approval, the Appropriate Supervision Office will provide the Issuing 
Credit Union with a description of why it denied the Issuing Credit 
Union's request or imposed conditions on the approval of such request.
    (3) If the Issuing Credit Union proposes or the NCUA requires the 
Issuing Credit Union to replace the Subordinated Debt, the Issuing 
Credit Union must receive affirmative approval under this subpart and 
must issue and sell the replacement instrument prior to or concurrently 
with prepaying the Subordinated Debt.
    (f) Resubmissions. An Issuing Credit Union that receives an adverse 
written determination on its application to prepay, in whole or in 
part, may cure any deficiencies noted in the Appropriate Supervision 
Office's written determination and reapply under the requirements of 
this section. This paragraph (f) does not prohibit an Issuing Credit 
Union from appealing the Appropriate Supervision Office's adverse 
decision under subpart A of part 746 of this chapter.


Sec.  702.412   Effect of a merger or dissolution on the treatment of 
Subordinated Debt as Regulatory Capital.

    (a) In the event of a merger of an Issuing Credit Union into or the 
assumption of its Subordinated Debt by another federally insured credit 
union, the Subordinated Debt will be treated as Regulatory Capital only 
to the extent that the resulting credit union is either a LICU, a 
complex credit union, and/or a new credit union.
    (b) In the event the resulting credit union is not a LICU, a 
complex credit union, or a new credit union, the Subordinated Debt of 
the merging credit union can either be:
    (1) If permitted by the terms of the Subordinated Debt Note, repaid 
by the resulting credit union upon approval by the NCUA under Sec.  
702.411; or
    (2) Continue to be held by the resulting credit union as 
Subordinated Debt, but will not be classified as Regulatory Capital 
under this subpart, unless the resulting credit union meets the 
eligibility requirements of Sec.  702.403.
    (c) In the event of a voluntary dissolution of an Issuing Credit 
Union that has outstanding Subordinated Debt, the Subordinated Debt may 
be repaid in full according to 12 CFR part 710, subject to the 
requirements in Sec.  702.411.


Sec.  702.413   Repudiation safe harbor.

    (a) The NCUA Board as conservator for a federally insured credit 
union, or its lawfully appointed designee, shall not exercise its 
repudiation authorities under 12 U.S.C. 1787(c) with respect to 
Subordinated Debt if:
    (1) The issuance and sale of the Subordinated Debt complies with 
all requirements of this subpart;
    (2) The Subordinated Debt was issued and sold in an arms-length, 
bona fide transaction;
    (3) The Subordinated Debt was issued and sold in the ordinary 
course of business, with no intent to hinder, delay, or defraud the 
Issuing Credit Union or its creditors; and
    (4) The Subordinated Debt was issued and sold for adequate 
consideration in U.S. dollars.
    (b) This section does not authorize the attachment of any 
involuntary lien upon the property of either the NCUA Board as 
conservator or liquidating agent or its lawfully appointed designee. 
Nor does this section waive, limit, or otherwise affect the authority, 
rights, or powers of the NCUA or the NCUA Board in any capacity to take 
any action or to exercise any power not specifically mentioned, 
including but not limited to any rights, powers, or remedies of the 
NCUA Board as conservator or liquidating agent (or its lawfully 
appointed designee) regarding transfers or other conveyances taken in 
contemplation of the Issuing Credit Union's insolvency or with the 
intent to hinder, delay or defraud the Issuing Credit Union or the 
creditors of such Issuing Credit Union, or that is fraudulent under 
applicable law.


Sec.  702.414   Regulations governing Grandfathered Secondary Capital.

    This section recodifies the requirements from 12 CFR 701.34(b), 
(c), and (d) that were in effect as of January 1, 2021, with minor 
modifications. The terminology used in this section is specific to this 
section. All secondary capital issued under 12 CFR 701.34 (revised as 
of January 1, 2021) before January 1, 2022, or, in the case of a 
federally insured, state-chartered credit union, Sec.  741.204(c) of 
this chapter, that is referred to elsewhere in this subpart as 
``Grandfathered Secondary Capital,'' is subject to the requirements set 
forth in this section.
    (a) Secondary capital is subject to the following conditions:
    (1) Secondary capital plan. A credit union that has Grandfathered 
Secondary Capital under this section must have a written, NCUA-approved 
``Secondary Capital Plan'' that, at a minimum:
    (i) States the maximum aggregate amount of uninsured secondary 
capital the LICU plans to accept;
    (ii) Identifies the purpose for which the aggregate secondary 
capital will be used, and how it will be repaid;
    (iii) Explains how the LICU will provide for liquidity to repay 
secondary capital upon maturity of the accounts;
    (iv) Demonstrates that the planned uses of secondary capital 
conform to the LICU's strategic plan, business plan, and budget; and
    (v) Includes supporting pro forma financial statements, including 
any off-balance sheet items, covering a minimum of the next two years.
    (2) Issuances not completed before January 1, 2022. Any issuances 
of secondary capital not completed by January 1, 2022, are, as of 
January 1, 2022, subject to the requirements applicable to Subordinated 
Debt discussed elsewhere in this subpart.
    (3) Nonshare account. The secondary capital account is established 
as an uninsured secondary capital account or other form of non-share 
account.
    (4) Minimum maturity. The maturity of the secondary capital account 
is a minimum of five years.
    (5) Uninsured account. The secondary capital account is not insured 
by the National Credit Union Share Insurance Fund or any governmental 
or private entity.
    (6) Subordination of claim. The secondary capital account 
investor's claim against the LICU is subordinate to all other claims 
including those of shareholders, creditors and the National Credit 
Union Share Insurance Fund.
    (7) Availability to cover losses. Funds deposited into a secondary 
capital account, including interest accrued and paid into the secondary 
capital account, are available to cover operating losses realized by 
the LICU that exceed its net available reserves (exclusive of secondary 
capital and allowance accounts for loan and lease losses), and to the 
extent funds are so used, the LICU must not restore or replenish the 
account under any circumstances. The LICU may, in lieu of paying 
interest into the secondary capital account, pay accrued interest 
directly to the investor or into a separate account from which the 
secondary capital investor may make withdrawals. Losses must be 
distributed pro-rata among all secondary capital accounts held by the 
LICU at the

[[Page 11084]]

time the losses are realized. In instances where a LICU accepted 
secondary capital from the United States Government or any of its 
subdivisions under the Community Development Capital Initiative of 2010 
(``CDCI secondary capital'') and matching funds were required under the 
Initiative and are on deposit in the form of secondary capital at the 
time a loss is realized, a LICU must apply either of the following pro-
rata loss distribution procedures to its secondary capital accounts 
with respect to the loss:
    (i) If not inconsistent with any agreements governing other 
secondary capital on deposit at the time a loss is realized, the CDCI 
secondary capital may be excluded from the calculation of the pro-rata 
loss distribution until all of its matching secondary capital has been 
depleted, thereby causing the CDCI secondary capital to be held as 
senior to all other secondary capital until its matching secondary 
capital is exhausted. The CDCI secondary capital should be included in 
the calculation of the pro-rata loss distribution and is available to 
cover the loss only after all of its matching secondary capital has 
been depleted.
    (ii) Regardless of any agreements applicable to other secondary 
capital, the CDCI secondary capital and its matching secondary capital 
may be considered a single account for purposes of determining a pro-
rata share of the loss and the amount determined as the pro-rata share 
for the combined account must first be applied to the matching 
secondary capital account, thereby causing the CDCI secondary capital 
to be held as senior to its matching secondary capital. The CDCI 
secondary capital is available to cover the loss only after all of its 
matching secondary capital has been depleted.
    (8) Security. The secondary capital account may not be pledged or 
provided by the account investor as security on a loan or other 
obligation with the LICU or any other party.
    (9) Merger or dissolution. In the event of merger or other 
voluntary dissolution of the LICU, other than merger into another LICU, 
the secondary capital accounts will be closed and paid out to the 
account investor to the extent they are not needed to cover losses at 
the time of merger or dissolution.
    (10) Contract agreement. A secondary capital account contract 
agreement must have been executed by an authorized representative of 
the account investor and of the LICU reflecting the terms and 
conditions mandated by this section and any other terms and conditions 
not inconsistent with this section.
    (11) Disclosure and acknowledgement. An authorized representative 
of the LICU and of the secondary capital account investor each must 
have executed a ``Disclosure and Acknowledgment'' as set forth in the 
appendix to this subpart at the time of entering into the account 
agreement. The LICU must retain an original of the account agreement 
and the ``Disclosure and Acknowledgment'' for the term of the 
agreement, and a copy must be provided to the account investor.
    (12) Prompt corrective action. As provided in this part, the NCUA 
may prohibit a LICU as classified ``critically undercapitalized'' or, 
if ``new,'' as ``moderately capitalized'', ``marginally capitalized'', 
``minimally capitalized'' or ``uncapitalized,'' as the case may be, 
from paying principal, dividends, or interest on its uninsured 
secondary capital accounts established after August 7, 2000, except 
that unpaid dividends or interest will continue to accrue under the 
terms of the account to the extent permitted by law.
    (b) Accounting treatment; Recognition of net worth value of 
accounts--(1) Debt. A LICU that issued secondary capital accounts 
pursuant to paragraph (a) of this section must record the funds on its 
balance sheet as a debt titled ``uninsured secondary capital account.''
    (2) Schedule for recognizing net worth value. The LICU's reflection 
of the net worth value of the accounts in its financial statement may 
never exceed the full balance of the secondary capital on deposit after 
any early redemptions and losses. For accounts with remaining 
maturities of less than five years, the LICU must reflect the net worth 
value of the accounts in its financial statement in accordance with the 
lesser of:
    (i) The remaining balance of the accounts after any redemptions and 
losses; or
    (ii) The amounts calculated based on the following schedule:

                     Table 1 to Paragraph (b)(2)(ii)
------------------------------------------------------------------------
                                                              Net worth
                                                               value of
                     Remaining maturity                        original
                                                               balance
                                                              (percent)
------------------------------------------------------------------------
Four to less than five years...............................           80
Three to less than four years..............................           60
Two to less than three years...............................           40
One to less than two years.................................           20
Less than one year.........................................            0
------------------------------------------------------------------------

    (3) Financial statement. The LICU must reflect the full amount of 
the secondary capital on deposit in a footnote to its financial 
statement.
    (c) Redemption of secondary capital. With the written approval of 
NCUA, secondary capital that is not recognized as net worth under 
paragraph (b)(2) of this section (``discounted secondary capital'' re-
categorized as Subordinated Debt) may be redeemed according to the 
remaining maturity schedule in paragraph (c)(3) of this section.
    (1) Request to redeem secondary capital. A request for approval to 
redeem discounted secondary capital may be submitted in writing at any 
time, must specify the increment(s) to be redeemed and the schedule for 
redeeming all or any part of each eligible increment, and must 
demonstrate to the satisfaction of NCUA that:
    (i) The LICU will have a post-redemption net worth classification 
of at least ``adequately capitalized'' under this part;
    (ii) The discounted secondary capital has been on deposit at least 
two years;
    (iii) The discounted secondary capital will not be needed to cover 
losses prior to final maturity of the account;
    (iv) The LICU's books and records are current and reconciled;
    (v) The proposed redemption will not jeopardize other current 
sources of funding, if any, to the LICU; and
    (vi) The request to redeem is authorized by resolution of the 
LICU's board of directors.
    (2) Decision on request. A request to redeem discounted secondary 
capital may be granted in whole or in part. If a LICU is not notified 
within 45 days of receipt of a request for approval to redeem secondary 
capital that its request is either granted or denied, the LICU may 
proceed to redeem secondary capital accounts as proposed.
    (3) Schedule for redeeming secondary capital.

                       Table 2 to Paragraph (c)(3)
------------------------------------------------------------------------
                                                            Redemption
                                                             limit as
                   Remaining maturity                       percent of
                                                             original
                                                            balance (%)
------------------------------------------------------------------------
Four to less than five years............................              20
Three to less than four years...........................              40
Two to less than three years............................              60
One to less than two years..............................              80
------------------------------------------------------------------------

    (4) Early redemption exception. Subject to the written approval of 
NCUA obtained pursuant to the requirements of paragraphs (c)(1) and (2) 
of this section, a LICU can redeem all or part of secondary capital 
accepted from the United States Government or any of its subdivisions 
at any time after the

[[Page 11085]]

secondary capital has been on deposit for two years. If the secondary 
capital was accepted under conditions that required matching secondary 
capital from a source other than the Federal Government, the matching 
secondary capital may also be redeemed in the manner set forth in the 
preceding sentence. For purposes of obtaining NCUA's approval, all 
secondary capital a LICU accepts from the United States Government or 
any of its subdivisions, as well as its matching secondary capital, if 
any, is eligible for early redemption regardless of whether any part of 
the secondary capital has been discounted pursuant to paragraph (b)(2) 
of this section.

Appendix A to Subpart D of Part 702--Disclosure and Acknowledgement 
Form

    A LICU that is authorized to accept uninsured secondary capital 
accounts and each investor in such an account must have executed and 
dated the following ``Disclosure and Acknowledgment'' form, a signed 
original of which must be retained by the credit union:

Disclosure and Acknowledgment

    [Name of CU] and [Name of investor] hereby acknowledge and agree 
that [Name of investor] has committed [amount of funds] to a 
secondary capital account with [name of credit union] under the 
following terms and conditions:
    1. Term. The funds committed to the secondary capital account 
are committed for a period of _ years.
    2. Redemption prior to maturity. Subject to the conditions set 
forth in 12 CFR 702.414, the funds committed to the secondary 
capital account are redeemable prior to maturity only at the option 
of the LICU and only with the prior written approval of NCUA.
    3. Uninsured, non-share account. The secondary capital account 
is not a share account and the funds committed to the secondary 
capital account are not insured by the National Credit Union Share 
Insurance Fund or any other governmental or private entity.
    4. Prepayment risk. Redemption of U.S.C. prior to the account's 
original maturity date may expose the account investor to the risk 
of being unable to reinvest the repaid funds at the same rate of 
interest for the balance of the period remaining until the original 
maturity date. The investor acknowledges that it understands and 
assumes responsibility for prepayment risk associated with the [name 
of credit union]'s redemption of the investor's U.S.C. account prior 
to the original maturity date.
    5. Availability to cover losses. The funds committed to the 
secondary capital account and any interest paid into the account may 
be used by [name of credit union] to cover any and all operating 
losses that exceed the credit union's net worth exclusive of 
allowance accounts for loan losses, and in the event the funds are 
so used, (name of credit union) will under no circumstances restore 
or replenish those funds to [name of institutional investor]. 
Dividends are not considered operating losses and are not eligible 
to be paid out of secondary capital.
    6. Accrued interest. By initialing below, [name of credit union] 
and [name of institutional investor] agree that accrued interest 
will be:

__Paid into and become part of the secondary capital account;
__Paid directly to the investor;
__Paid into a separate account from which the investor may make 
withdrawals; or
__Any combination of the above provided the details are specified 
and agreed to in writing.

    7. Subordination of claims. In the event of liquidation of [name 
of credit union], the funds committed to the secondary capital 
account will be subordinate to all other claims on the assets of the 
credit union, including claims of member shareholders, creditors and 
the National Credit Union Share Insurance Fund.
    8. Prompt Corrective Action. Under certain net worth 
classifications (see 12 CFR 702.204(b)(11), 702.304(b) and 
702.305(b), as the case may be), the NCUA may prohibit [name of 
credit union] from paying principal, dividends or interest on its 
uninsured secondary capital accounts established after August 7, 
2000, except that unpaid dividends or interest will continue to 
accrue under the terms of the account to the extent permitted by 
law.
    ACKNOWLEDGED AND AGREED TO this __ day of [month and year] by:

-----------------------------------------------------------------------
[name of investor's official]

[title of official]

[name of investor]

[address and phone number of investor]

[investor's tax identification number]

-----------------------------------------------------------------------
[name of credit union official]

[title of official]

PART 709--INVOLUNTARY LIQUIDATION OF FEDERAL CREDIT UNIONS AND 
ADJUDICATION OF CREDITOR CLAIMS INVOLVING FEDERALLY INSURED CREDIT 
UNIONS IN LIQUIDATION

0
15. The authority citation for part 709 continues to read as follows:

    Authority:  12 U.S.C. 1757, 1766, 1767, 1786(h), 1786(t), and 
1787(b)(4), 1788, 1789, 1789a.


0
16. Amend Sec.  709.5 by revising paragraph (b)(8) to read as follows:


Sec.  709.5   Payout priorities in involuntary liquidation.

* * * * *
    (b) * * *
    (8) Outstanding Subordinated Debt (as defined in part 702 of this 
chapter) or outstanding Grandfathered Secondary Capital (as defined in 
part 702 of this chapter); and
* * * * *

PART 741--REQUIREMENTS FOR INSURANCE

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

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


0
18. Amend Sec.  741.204 by revising paragraph (c) and removing 
paragraph (d) to read as follows:


Sec.  741.204   Maximum public unit and nonmember accounts, and low-
income designation.

* * * * *
    (c) Follow the requirements of Sec.  702.414 of this chapter for 
any Grandfathered Secondary Capital (as defined in part 702 of this 
chapter) issued before January 1, 2022.

0
19. Add Sec. Sec.  741.226 and 741.227 to read as follows:


Sec.  741.226   Subordinated Debt.

    Any credit union that is insured, or that makes application for 
insurance, pursuant to title II of the Act must follow the requirements 
of subpart D of part 702 of this chapter before it may issue 
Subordinated Debt, as that term is defined in Sec.  702.402 of this 
chapter, and to the extent not inconsistent with applicable state law 
and regulation.


Sec.  741.227   Loans to credit unions.

    Any credit union that is insured pursuant to Title II of the Act 
must adhere to the requirements in Sec.  701.25 of this chapter.

[FR Doc. 2020-28281 Filed 2-22-21; 8:45 am]
BILLING CODE 7535-01-P