4234 Federal Register / Vol. 71, No. 17 / Thursday, January 26, 2006 / Rules and Regulations 

1The NCUA Board is authorized by law to define 

‘‘credit unions serving predominantly low-income 

members.’’ 12 U.S.C. 1757(6). To be so designated 

by the appropriate Regional Director, the NCUA 

Board generally requires the majority of a credit 

union’s members to earn less than 80 percent of the 

average national wage as determined by the Bureau 

of Labor Statistics, or to have annual household 

incomes below 80 percent of the national median 

as determined by the Census Bureau. 12 CFR 

701.34(a)(2)–(3). 

2The ‘‘net worth’’ of a LICU is defined by law as 

its retained earnings under GAAP plus any USC on 

deposit. 12 U.S.C. 1790d(o)(2); 12 CFR 702.2(f). The 

‘‘net worth ratio’’ of a credit union is the ratio of 

its net worth to its total assets. 12 U.S.C. 

1790d(o)(3); 12 CFR 702.2(g) and (k). 

in paragraphs (a) through (d) of this 

section by; 

(2) The Olympic average of estimated 

pounds of cottonseed per pound of 

ginned cotton lint, as determined by 

CCC, for the five years preceding the 

2004 crop year. 

■ 10. Revise § 1427.1108 to read as 

follows: 

§ 1427.1108 Total payment quantity. 

The total quantity of 2004-crop 

cottonseed eligible under this subpart 

shall be based on the total payment 

quantity of cottonseed as determined 

under this subpart for which timely 

applications are filed. Eligible 

cottonseed for which no application is 

received according to announced 

application instructions shall not be 

included in the total payment quantity 

of cottonseed. The total payment 

quantity of cottonseed (ton-basis) shall 

be calculated by multiplying: 

(a) The total weight of cotton lint, 

converted to tons, for which payment is 

requested by all applicants, as approved 

by CCC, by 

(b) The Olympic average of estimated 

pounds of cottonseed per pound of 

ginned cotton lint, as determined by 

CCC for the five years preceding the 

2004 crop year. 

■ 11. Revise § 1427.1109 to read as 

follows: 

§ 1427.1109 Payment rate. 

The payment rate (dollars per ton) 

shall be determined by CCC by dividing 

the total available program funds by the 

total eligible payment quantity of 

cottonseed. However, in no event may 

the total payment to an eligible 

applicant exceed $114 per ton of 

cottonseed multiplied by the applicant’s 

total eligible payment quantity. 

■ 12. Amend § 1427.1111 by revising 

paragraph (d) to read as follows: 

§ 1427.1111 Liability of first handler. 

* * * * * 

(d) For 3 years after the date of the 

application for 2004-crop payments, the 

applicant shall keep records, including 

records supporting the quantity of 

cottonseed for which payment was 

requested, and furnish such information 

and reports relating to the application to 

CCC as requested. Such records shall be 

available at all reasonable times for an 

audit or inspection by authorized 

representatives of CCC, United States 

Department of Agriculture, or the 

Comptroller General of the United 

States. Failure to keep, or make 

available, such records may result in 

refund to CCC of all payments received, 

plus interest thereon, as determined by 

CCC. In the event of a controversy 

concerning payments, records must be 

kept for such longer period as may be 

specified by CCC until such controversy 

is resolved. Destruction of records at 

any time is at the risk of the applicant. 

Signed in Washington, DC, on January 12, 

2006. 

Teresa C. Lasseter, 

Executive Vice President, Commodity Credit 

Corporation. 

[FR Doc. 06–742 Filed 1–25–06; 8:45 am] 

BILLING CODE 3410–05–P 

NATIONAL CREDIT UNION 

ADMINISTRATION 

12 CFR Parts 701 and 741 

Uninsured Secondary Capital 

AGENCY: National Credit Union 

Administration (NCUA). 

ACTION: Final rule. 

SUMMARY: The National Credit Union 

Administration (NCUA) is adopting 

modifications to its rules on uninsured 

secondary capital accounts to allow 

low-income designated credit unions to 

begin redeeming the funds in those 

accounts when they are within five 

years of maturity, and to require prior 

approval of a plan for the use of 

uninsured secondary capital before a 

credit union can begin accepting the 

funds. 

DATES: This rule is effective February 

27, 2006. 

FOR FURTHER INFORMATION CONTACT: 

Steven W. Widerman, Trial Attorney, 

Office of General Counsel, at 703/518–

6557; or Margaret Miller, Program 

Officer, Office of Examination and 

Insurance, at 703/518–6375. 

SUPPLEMENTARY INFORMATION: 

A. Background 

1. Uninsured secondary capital 

accounts. Under conditions prescribed 

by the NCUA Board, credit unions 

serving predominantly low-income 

members are permitted by law to receive 

payments on shares from non-natural 

persons. 12 U.S.C. 1757(6). In 1996, the 

NCUA Board authorized low-income 

designated credit unions (‘‘LICUs’’),1

including State-chartered credit unions 

to the extent permitted by State law, to 

accept uninsured secondary capital 

(‘‘USC’’) from non-natural person 

members and nonmembers. 12 CFR 

701.34(b) (2005). The purpose of USC is 

to provide a further means—beyond 

setting aside a portion of earnings—for 

LICUs to build capital to support greater 

lending and financial services in their 

communities, and to absorb losses and 

thus protect LICUs from failing. 61 FR 

3788 (Feb. 2, 1996); 61 FR 50696 (Sept 

27, 1996). 

To ensure the safety and soundness of 

LICUs that accept USC, the existing rule 

imposed multiple restrictions that also 

apply to State-chartered LICUs. 12 CFR 

741.204. Before accepting USC, a LICU 

must submit a written plan for the use 

and repayment of USC. § 701.34(b)(1). 

USC accounts must have a minimum 

maturity of five years and may not be 

redeemable prior to maturity. 

§ 701.34(b)(3)–(4). The accounts must be 

established as uninsured, non-share 

instruments. § 701.34(b)(2) and (5). And 

most importantly, USC funds on deposit 

(including interest paid into the 

account) must be available to cover 

operating losses in excess of the LICU’s 

net available reserves and undivided 

earnings. § 701.34(b)(7). Funds used to 

cover such losses may not be 

replenished or restored to the USC 

accounts. Id. 

2. Impact of Prompt Corrective 

Action. Since the inception of USC, 

existing § 701.34(c)(1) has required 

LICUs to discount a USC account’s 

original capital value (now called ‘‘net 

worth value’’)—essentially 

recategorizing the discounted portion as 

subordinated debt—in 20 percent 

annual increments beginning at five 

years remaining maturity. Even as its 

capital value is discounted, however, 

the full amount of USC must remain on 

deposit to cover losses. § 701.34(c)(2) 

(2005). 

In 2000, pursuant to Congressional 

mandate, NCUA adopted a system of 

‘‘prompt corrective action’’ (‘‘PCA’’) 

consisting of mandatory minimum 

capital standards indexed by a credit 

union’s ‘‘net worth ratio’’ to five 

statutory net worth categories.2 12 

U.S.C. 1790d; 12 CFR part 702; 65 FR 

8560 (Feb. 18, 2000). As a credit union’s 

net worth ratio falls, its classification 

among the net worth categories declines 

below ‘‘well capitalized,’’ thus exposing 

it to an expanding range of mandatory 

and discretionary supervisory actions 


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Federal Register / Vol. 71, No. 17 / Thursday, January 26, 2006 / Rules and Regulations 4235 

3 June 2005 data shows that 55 LICUs have USC 

accounts. These accounts have an aggregate balance 

of $30 million in USC. Of these LICUs, 46 are 

classified ‘‘well capitalized’’ and 4 are classified 

‘‘adequately capitalized,’’ indicating that 89 percent 

currently have net worth ratios that subject them to 

little or no PCA. 

4 In addition to making quarterly transfers of 

earnings to build net worth, credit unions in the 

‘‘undercapitalized,’’ ‘‘significantly 

undercapitalized’’ and ‘‘critically undercapitalized’’

net worth categories must comply with three further 

‘‘mandatory supervisory actions’’: (1) A freeze on 

total assets; (2) a freeze on the balance of MBLs; and 

(3) the requirement to submit a net worth 

Continued 

designed to restore net worth. E.g., 12 

CFR 702.201(a), 702.202(a), 702.204(b). 

Because of PCA, discounting the net 

worth value of USC beginning at five 

years remaining maturity reduces a 

LICU’s net worth ratio. While the ‘‘net 

worth’’ numerator of the ratio is reduced 

at the rate of 20 percent annually, the 

‘‘assets’’ denominator must remain the 

same because of the existing rule’s 

restriction on redeeming USC accounts 

prior to maturity. § 701.34(b)(4) (2005). 

The result is that discounting the net 

worth value of USC dilutes a LICU’s net 

worth ratio, threatening to lower its 

classification among the PCA net worth 

categories. 

3. 2005 Proposed Rule. December 

2004 Call Report data indicated that a 

significant number of LICUs are exposed 

to the risk that discounting the value of 

their USC will dilute their net worth 

ratio. 70 FR 43789 (July 29, 2005).3 For 

this reason, the NCUA Board issued a 

proposed rule allowing low-income 

designated credit unions that have USC 

accounts to begin redeeming the funds 

in those accounts when they are within 

five years of maturity. 70 FR 43789. To 

discourage the misuse of USC, the 

proposed rule also requires prior 

approval, not just submission, of a plan 

for the use and repayment of the 

aggregate USC before a LICU can accept 

USC accounts. Id. 

NCUA received four comments in 

response to the proposed rule, all from 

credit union industry trade associations 

representing different segments of the 

industry. One commenter supported 

without reservation the proposal to 

allow redemption of USC accounts prior 

to maturity; the other three supported 

the proposal subject to their comments 

discussed below. One commenter 

supported without reservation the 

proposal to require prior approval of a 

plan for the use and repayment of USC; 

the other three opposed the requirement 

altogether for reasons given in their 

comments discussed below. Suggested 

revisions to the existing regulation 

beyond those introduced in the 

proposed rule also are addressed below. 

B. Analysis of Comments on Proposed 

Rule 

1. Redemption of Secondary Capital 

Prior to Maturity 

To protect a LICU’s net worth ratio 

from being diluted by discounting the 

net worth value of its USC, the proposed 

rule introduced new subsection (d) 

eliminating the existing bar against 

redemption and, instead, prescribing 

conditions under which LICU’s may 

redeem discounted USC prior to 

maturity. 

Prepayment Risk. Two commenters 

noted that the proposed rule fails to 

address the ‘‘prepayment risk’’ for 

account investors created by permitting 

LICUs to redeem USC prior to maturity, 

and also does not disclose that risk in 

the ‘‘Disclosure & Acknowledgement’’

form in the Appendix to § 701.34. 

‘‘Prepayment risk’’ is the risk that, to the 

extent USC is repaid earlier than the 

final maturity date, the account investor 

may be deprived of expected interest 

income because it will be unable to 

reinvest the repaid funds at the same 

rate of interest for the balance of the 

period remaining until the original 

maturity date. This risk represents a 

legitimate concern. USC investors can 

protect themselves from prepayment 

risk to the extent they contract with the 

LICU to limit or bar redemption prior to 

maturity of the investor’s account. To 

the extent the parties are silent about 

redemption prior to maturity, the 

‘‘Disclosure and Acknowledgement’’ in 

Appendix A to § 701.34 is amended to 

put the investor on notice as follows: 

4. Prepayment and other risks. Redemption 

of USC 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 [name of 

credit union]’s redemption of the investor’s 

USC account prior to the original maturity 

date.’’

Redemption in Final Year Prior to 

Maturity. The new schedule for 

redeeming USC does not provide for 

redemption of the last twenty percent 

increment of discounted USC during the 

final year prior to maturity. 

§ 701.34(d)(3). As the proposed rule 

explained, this last increment of 

discounted USC will be redeemed at the 

account’s final maturity date. 70 FR at 

43790. Two commenters asked why 

LICUs are not allowed to redeem the last 

increment of discounted USC during the 

final year, i.e., before the account’s final 

maturity date. The reason is that, to 

fulfill its most important purpose, the 

final twenty percent increment must 

remain available to cover operating 

losses until the final maturity date, even 

as its net worth value is discounted to 

zero. § 701.34(c)(2). If LICUs were 

permitted to redeem the last twenty 

percent increment before the account’s 

maturity, there would be no USC on 

deposit to cover post-redemption 

operating losses arising prior to the final 

maturity date. Thus, the final rule 

retains the new schedule for redemption 

as proposed. § 701.34(d)(3). 

Minimum post-redemption net worth 

classification. To redeem discounted 

USC, the proposed rule required a LICU 

to have a post-redemption net worth 

classification of ‘‘well capitalized.’’ 70 

FR at 43790. However, a credit union 

that would be ‘‘adequately capitalized’’

after redeeming discounted USC could 

apply on a case-by-case basis for 

Regional Director approval to redeem. 

Id. It is apparent upon reconsideration 

that this requirement for ‘‘adequately 

capitalized’’ credit unions is redundant 

because each credit union’s request to 

redeem, regardless of post-redemption 

net worth, already receives subjective, 

case-by-case evaluation and approval. 

Moreover, the post-redemption 

difference between a ‘‘well capitalized’’

and an ‘‘adequately capitalized’’ credit 

union is that PCA subjects the latter to 

a single ‘‘mandatory supervisory 

action’’: The requirement to make 

quarterly contributions of earnings to 

build net worth. 

One commenter asked why the 

proposed rule did not allow a LICU to 

redeem discounted USC if its postredemption net worth classification 

would be less than ‘‘adequately 

capitalized’’ (i.e., a net worth ratio of 

5.99 percent or less). There are three 

reasons for setting a minimum postredemption net worth ‘‘floor’’ at 

‘‘adequately capitalized.’’ First, very few 

LICUs would be affected because 

typically only a handful (five or less as 

of June 2005) would have a net worth 

classification of less than ‘‘adequately 

capitalized’’ after redeeming their 

discounted USC. Second, among all 

LICUs that accept USC, redeeming 

discounted USC would rarely increase 

one’s net worth ratio significantly 

enough to raise a LICU to a higher net 

worth category. And third, on rare 

occasions when redemption would raise 

a LICU to a higher category, as long as 

it still is below ‘‘adequately 

capitalized,’’ the LICU would remain 

burdened with the full range of 

‘‘mandatory supervisory actions’’ that 

PCA imposes on the bottom three net 

worth categories.4 Prohibiting 


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restoration plan for approval. 12 U.S.C. 1790d(f)–

(g); 12 CFR 702.202(a). 

5Approval will be required oly for USC Plans 

submitted on or after the effective date of this final 

rule; Plans submitted before that date will not be 

affected. However, no USC Plan is necessary for 

funds received after the effective date pursuant to 

a Plan adopted and submitted before the effective 

date. 

redemption by credit unions that remain 

in these categories furthers the goal of 

maximizing their cushion against 

operating losses that otherwise would 

be borne by the Share Insurance Fund. 

For these reasons, the final rule 

retains ‘‘adequately capitalized’’ as the 

minimum post-redemption net worth 

‘‘floor’’ for redeeming discounted USC. 

Resolution Authorizing Redemption. 

The proposed rule requires that a LICU’s 

request to redeem USC be authorized by 

a resolution of the credit union’s board 

of directors. 70 FR at 43790. The rule 

explained that the purpose of a board 

resolution is to ‘‘document[] that a 

majority of the board participated in a 

board decision. Maximum board 

member participation in deciding to 

redeem SC helps to overcome possible 

conflicts of interest between LICU 

officials and officials of the SC account 

holder.’’ Id. A commenter asks either 

that this rationale be further explained, 

or that the resolution requirement be 

eliminated from the final rule. 

The final rule retains the resolution 

requirement as proposed, but further 

explains its purpose as follows. In many 

instances, a LICU in search of USC and 

potential USC investors are identified 

and brought together by one or more 

individual officials of each party to the 

transaction. These individuals 

sometimes have pre-existing familial or 

business relationships that may impair 

their independence and fidelity to the 

interests of the party they represent. On 

the assumption that the credit union 

official who was the ‘‘finder’’ of the USC 

investor is singularly able to 

consummate the transaction, the natural 

tendency of credit union officials is to 

defer to that person’s knowledge and 

judgment. Excessive reliance on 

knowledge and judgment concentrated 

in one or a few individuals allows them 

to be unduly influential in the making 

of decisions relating to the transaction. 

In the case of USC investments, the 

dominant influence of the ‘‘finder(s)’’

may extend to deciding whether to 

accommodate an investor’s wish to 

redeem its USC account at the earliest 

opportunity, thus realizing a 

prepayment award (through 

reinvestment at more favorable interest 

rate), or to forestall redemption to avoid 

prepayment risk (requiring reinvestment 

at a less favorable interest rate). A 

resolution of a credit union’s board of 

directors would ensure that such a 

decision is made by the board as a 

whole, is consistent with the credit 

union’s best interests, and is 

transparent. For these reasons, the final 

rule requires that a LICU’s request to 

redeem discounted USC be embodied in 

a duly authorized resolution of its board 

of directors. 

Timing and scope of request to 

redeem. The proposed rule provided 

that ‘‘a request to redeem discounted 

secondary capital must be submitted in 

writing on an annual basis.’’

§ 701.34(d)(1). The preamble explained 

that a request ‘‘must be submitted for 

each year preceding maturity (unless the 

Regional Director indicates in writing 

that the approval is for more than one 

year).’’ 70 FR at 43790. A commenter 

asks if this means that a redemption 

request may be submitted only once a 

year, thus precluding more than one 

request per year. The answer is no. 

To ensure that redemption requests 

may be submitted at any time and may 

be broadly framed, the final rule is 

revised to allow a request to be 

submitted ‘‘at any time’’ so long as it 

‘‘specif[ies] the increment(s) to be 

redeemed and the schedule for 

redeeming all or any part of each 

eligible increment.’’ As a result, LICUs 

will have the option to, for example, 

seek approval extending beyond the 

current year, thus allowing future years’

increments of discounted USC to be 

redeemed as they become eligible; or to 

redeem a year’s increment in 

installments timed to correspond with 

the availability of liquidity from 

maturing instruments and availability of 

sources of lower cost funds. Finally, to 

give Regional Directors maximum 

flexibility in addressing redemption 

requests that may be ambitious in scope, 

the final rule has been revised to 

provide that: ‘‘A request to redeem 

discounted secondary capital may be 

granted in whole or in part.’’

2. Pre-Approval of Plan for Use of 

Uninsured Secondary Capital 

Existing § 701.34(b) requires a LICU 

that is planning to accept USC accounts 

to forward to the appropriate Regional 

Director (and to the appropriate State 

Supervisory Authority (‘‘SSA’’) in the 

case of State-chartered LICU) a written 

plan for the use of the aggregate funds 

in those accounts and ‘‘subsequent 

liquidity needs’’ to repay them upon 

maturity (‘‘Plan’’). § 701.34(b)(1); 12 

CFR 741.204(c). No Regional Director or 

SSA approval is required. In contrast, 

the proposed rule requires prior 

regulatory approval of a USC Plan, 

subject to certain matters the Plan must 

address, before USC accounts can be 

accepted.5 § 701.34(b). As proposed, a 

USC Plan need not be submitted for 

each account individually; rather it may 

address the maximum aggregate USC 

that a LICU expects to receive. 

Misuse of Secondary Capital. A 

principal reason for requiring 

approval—not just submission—of a 

LICU’s USC Plan is to ensure that USC 

is used to achieve the goals for which 

it was conceived, i.e. building capital to 

support expansion of lending and 

financial services in LICUs’

communities, and to serve as a cushion 

against losses. 61 FR 3788 (Feb. 2, 

1996). Emphasizing that USC is 

disclosed in a LICU’s quarterly Call 

Report, three commenters questioned 

the proposed rule’s conclusion that ‘‘SC 

played a role in masking the magnitude 

of other problems’’ that caused LICUs to 

fail. 70 FR at 43791. One assumed that 

those cases ‘‘undoubtedly involved 

fraud and/or major recordkeeping 

deficiencies’’ and thus were atypical. 

Two commenters contended that 

requiring prior approval of USC Plans 

would not improve safety and 

soundness enough to justify the 

additional burden on credit unions. And 

the third objected that that burden 

creates an additional step that could 

discourage potential investors from 

entering the USC market. 

Net worth is a reliable—if sometimes 

lagging—indicator of operational 

problems and poor financial 

performance that threaten a credit 

union’s solvency. Full disclosure of a 

LICU’s USC balance distinguishes the 

portion of net worth derived from 

earnings generated by routine credit 

union operations, in contrast to the 

portion derived from subordinated debt 

that ultimately must be repaid. 

However, this quantitative distinction 

tells us nothing about a LICU’s 

qualitative use of USC, which in terms 

of risk to credit union safety and 

soundness, can range from negligible to 

perilous. 

Contrary to a commenter’s 

assumption, the problems that the final 

rule addresses generally are not solely 

the result of fraud and deficient 

recordkeeping. Rather, they reflect an 

emerging pattern of lenient practices 

that frustrate LICUs’ good faith use of 

USC. These practices include: (1) Poor 

due diligence and strategic planning in 

connection with establishing and 

expanding member service programs 

such as ATMs, share drafts and lending 

(e.g., member business loans (‘‘MBLs’’) 

real estate and subprime); (2) Failure to 


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Federal Register / Vol. 71, No. 17 / Thursday, January 26, 2006 / Rules and Regulations 4237 

adequately perform a prospective cost/ 

benefit analysis of these programs to 

assess such factors as market demand 

and economies of scale; (3) Premature 

and excessively ambitious 

concentrations of USC to support 

unproven or poorly performing 

programs; and (4) Failure to realistically 

assess and timely curtail programs that, 

in the face of mounting losses, are not 

meeting expectations. When they occur, 

these lenient practices contribute to 

excessive net operating costs, high 

losses from loan defaults, and a shortfall 

in revenues (due to non-performing 

loans and poorly performing 

programs)—all of which, in turn, 

produce lower than expected returns. 

Promoting diligent practices in place 

of lenient ones cannot help but improve 

the safety and soundness of LICUs. 

Requiring prior approval of a USC Plan 

will strengthen supervisory oversight 

and detection of lenient practices in 

several ways. First, it will prevent 

LICUs from accepting and using USC for 

purposes and in amounts that are 

improper or unsound. Second, the 

approval requirement will ensure that 

USC Plans are evaluated and critiqued 

by the Region before being 

implemented. Third, for both NCUA 

and the LICU, an approved USC Plan 

will document parameters to guide the 

proper implementation of USC, and to 

measure the LICU’s progress and 

performance. For these reasons, the final 

rule requires prior Regional Director 

approval of a USC Plan. 

Finally, to the extent that obtaining 

prior approval adds a step that might 

cause undue delay, possibly 

discouraging potential investors from 

entering the USC market, the final rule 

provides a backstop. A Regional 

Director has 45 days from the date a 

USC Plan is submitted to approve or 

disapprove it. However, the final rule 

provides that if a Regional director fails 

to act on a USC Plan within that period, 

the Plan is approved by default and ‘‘the 

LICU may proceed to accept secondary 

capital accounts pursuant to the plan.’’

§ 701.34(b)(2). 

Regional Director discretion to 

approve Plan. Before accepting USC 

accounts, the proposed rule required a 

LICU to forward its USC Plan to the 

appropriate NCUA Regional Director for 

approval. § 701.34(b)(1). One 

commenter objected that this approval 

authority ‘‘places excessive discretion in 

the hands of the agency’s regional 

directors.’’ The NCUA Board believes 

the degree of Regional Director 

discretion is appropriate for two 

reasons. First, because the final rule 

establishes four criteria on which a 

decision to approve or disapprove must 

be based: how the LICU will USC in the 

aggregate; how it will provide for 

subsequent liquidity to repay the 

accounts; whether the use of USC 

conforms to the LICU’s strategic plan, 

business plan and budget; and whether 

the Plan is supported by two years of 

pro forma financial statements. And 

second, in assessing those criteria, the 

Regional Director will be relying on 

input from the examiner who regularly 

oversees the credit union and, thus, is 

well-suited to judge its capabilities. For 

these reasons, the NCUA Board is 

content to give its Regional Directors the 

authority to take final agency action on 

USC Plans. Accordingly, the final rule 

retains as proposed the requirement for 

Regional Director prior approval of USC 

Plans. 

Pro forma financial statements. To the 

existing criteria for approval of a Plan, 

the proposed rule adds the requirement 

to demonstrate that the intended use of 

USC conforms to the accepting LICU’s 

strategic plan, business plan and budget; 

and is supported by accompanying pro 

forma financial statements, including 

any off-balance sheet items, covering a 

minimum of the next two years. 

§ 701.34(b)(1)(iv). As the proposed rule 

noted, the purpose of this criterion ‘‘is 

to project and document the future 

financial performance of the LICU in 

relation to the risks associated with 

accepting USC accounts.’’ 70 FR at 

43791. Nonetheless, the single 

commenter who addressed this 

requirement objected, without 

explanation, that it is ‘‘unnecessary’’ for 

a USC Plan to be supported and 

accompanied by pro forma financial 

statements. NCUA maintains that pro 

forma financial statements are a routine, 

yet essential, tool for documenting and 

testing the soundness of the 

assumptions a credit union relies on to 

project future performance. Pro forma 

financial statements benefit credit union 

management by measuring differences 

between planned and actual 

performance. And pro forma financial 

statements facilitate regulatory 

evaluation and supervisory oversight of 

USC Plans. 

3. Other Comments 

The commenters suggested several 

revisions to the existing § 701.34(b) 

beyond those introduced in the 

proposed rule. 

Use of Secondary Capital to Pay 

Dividends. In both the existing and the 

proposed rule, the essential feature of 

USC is that it ‘‘must be available to 

cover operating losses realized by the 

credit union’’ in excess of its net worth. 

§ 701.34(b)(7). Two commenters 

advocate revising the final rule to clarify 

whether the payment of dividends is 

within or beyond the scope of 

‘‘operating losses realized by the credit 

union.’’ Most contend that it is beyond 

the scope and thus should not be 

subsidized by USC. 

The Federal Credit Union Act 

addresses this issue by allowing a credit 

union’s board of directors to declare a 

dividend only ‘‘after provision for 

required reserves.’’ 12 U.S.C. 1763; see 

also 12 U.S.C. 1761b(18). The 

prerequisite to have reserves from 

which to fund dividends means that 

USC cannot be used to create reserves 

for that purpose where none exists. 

Thus, a credit union may declare 

dividends only to the extent it has 

reserves available. After fully posting 

and measuring net income, including 

completing provisioning for Allowance 

for Loan and Lease Losses and 

measuring it against net income, a credit 

union may declare and pay dividends 

only to the extent that it has reserves 

and undivided earnings exclusive of 

USC. The final rule revises the 

‘‘Disclosure and Acknowledgement’’

form in the Appendix to § 701.34 to 

clearly establish that ‘‘Dividends are not 

considered operating losses and thus are 

not eligible to be paid out of secondary 

capital.’’

Replenishment of Secondary Capital 

Account. Both the existing and the 

proposed rule state that, to the extent an 

USC account is used to cover ‘‘operating 

losses,’’ the LICU ‘‘shall under no 

circumstances restore or replenish the 

account.’’ § 701.34(b)(7) (2005). Two 

commenters believe that this restriction 

should be withdrawn so that a LICU 

could replenish USC accounts should it 

subsequently regain financial health. To 

do so would be inconsistent with the 

purpose of USC accounts, as explained 

in the final rule that first established the 

accounts: ‘‘Permitting LICUs to 

replenish SC once financial health has 

been regained would defeat the purpose 

for establishing secondary capital. The 

goal of secondary capital is to enhance 

capital positions. The potential growth 

of primary capital could be slowed by 

allowing LICUs to replenish investor 

funds in the event those funds are 

depleted. Additionally, permitting 

replenishment could be interpreted as 

‘‘guaranteed return of principal’’ by the 

investor which was not the Board’s 

original intent.’’ 61 FR at 50696. For 

these reasons, the final rule retains the 

restriction against restoring or 

replenishing USC accounts. 

§ 701.34(b)(7). 

Suspension of Dividend and Interest 

Payments. The proposed rule combines 

two subsections of the existing rule into 

a single, abbreviated section explaining 


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4238 Federal Register / Vol. 71, No. 17 / Thursday, January 26, 2006 / Rules and Regulations 

6Congress directed NCUA to make the system of 

PCA developed for insured credit unions 

‘‘comparable’’ with the 1991 law (12 U.S.C. 1831o) 

that mandated PCA for all other federally-insured 

depository institutions. 12 U.S.C. 1790d(b)(1)(A)(ii). 

That law authorized the Federal banking agencies 

to prohibit payments of principal or interest on a 

‘‘critically undercapitalized’’ institution’s 

subordinated debt. 12 U.S.C. 1831o(h)(2)(A). The 

Federal Deposit Insurance Corporation rule 

implementing that authority, for example, makes 

the prohibition mandatory. 12 CFR 

325.105(a)(4)(H). To be comparable with 

§ 1831o(h)(2)(A) as Congress instructed, part 702 

established a ‘‘discretionary supervisory action’’

allowing, but not requiring, NCUA to ‘‘prohibit 

payents of principal, dividends or interest on the 

credit union’s uninsured secondary capital 

accounts * * *, excpet that unpaid dividends or 

interest shall continue to accure under the terms of 

the account * * *.’’ 12 CFR 702.204(b)(11). See 64 

FR 27090, 27098 (May 18, 1999); 65 FR 8560, 8674 

(Feb. 18, 2000). Section 701.34(b) was amended in 

2000 to reflect the addition of this ‘‘discretionary 

supervisory authority.’’ 65 FR 21129 (April 20, 

2000). 

NCUA’s authority to suspend ‘‘critically 

undercapitalized’’ LICUs from paying 

principal, interest and dividends on 

USC accounts established after August 

7, 2000, the date PCA became effective. 

§ 701.34(12). The sole commenter on 

this section advocated repealing this 

authority. Because it is indirectly 

prescribed by law for ‘‘critically 

undercapitalized’’ credit unions,6 the 

authority to suspend payments of 

principal, interest and dividends on 

USC accounts is not subject to repeal 

through the rulemaking process. Like 

the existing rule, the proposed 

subsection simply puts USC investors 

on notice of the possibility of a 

suspension of such payments in the 

event the LICU becomes ‘‘critically 

undercapitalized.’’ It is therefore 

retained as proposed. § 701.34(b)(12). 

Regulatory Procedures 

Regulatory Flexibility Act 

The Regulatory Flexibility Act (RFA) 

requires NCUA to prepare an analysis 

describing any significant economic 

impact a proposed regulation may have 

on a substantial number of small credit 

unions. NCUA considers credit unions 

having less than ten million dollars 

($10,000,000) to be small for purposes of 

the RFA. The final rule allows credit 

unions to begin redeeming USC 

accounts when they are within five 

years of maturity, and requires them to 

obtain prior approval of a plan for the 

use and repayment of USC, without 

imposing any additional regulatory 

burden. The final rule will not have a 

significant economic impact on a 

substantial number of small credit 

unions. Thus, a Regulatory Flexibility 

Analysis is not required. 

Paperwork Reduction Act 

NCUA has determined that the final 

rule would not increase paperwork 

requirements under the Paperwork 

Reduction Act of 1995 and regulations 

of the Office of Management and 

Budget. NCUA currently has OMB 

clearance for the collection 

requirements in § 701.34 and part 741 

(OMB Nos. 3133–0140, 3133–0099, 

3133–142 and 3133–163). 

Executive Order 13132 

Executive Order 13132 encourages 

independent regulatory agencies to 

consider the impact of their regulatory 

actions on State and local interests. 

NCUA, an independent regulatory 

agency as defined in 44 U.S.C. 3502(5), 

voluntarily adheres to the fundamental 

federalism principles addressed by the 

executive order. This final rule would 

not have a substantial direct effect on 

the States, on the relationship between 

the national government and the States, 

or on the distribution of power and 

responsibilities among the various 

levels of government. Accordingly, this 

final rule does not constitute a policy 

that has federalism implications for 

purposes of the Executive Order. 

Small Business Regulatory Enforcement 

Fairness Act 

The Small Business Regulatory 

Enforcement Fairness Act of 1996 (Pub. 

L. 104–121) provides generally for 

congressional review of agency rules. A 

reporting requirement is triggered in 

instances where NCUA issues a final 

rule as defined by Section 551 of the 

Administrative Procedures Act. 5 U.S.C. 

551. NCUA submitted the rule to the 

Office of Management and Budget, 

which has determined that it is not 

major for purposes of the Small 

Business Regulatory Enforcement 

Fairness Act of 1996. 

Treasury and General Government 

Appropriations Act, 1999 

NCUA has determined that the 

proposed rule will not affect family 

well-being within the meaning of 

section 654 of the Treasury and General 

Appropriations Act, 1999, Pub. L. 105–

277, 112 Stat. 2681 (1998). 

List of Subjects in 12 CFR Parts 701 and 

741 

Bank deposit insurance, Credit 

Unions, Reporting and recordkeeping 

requirements. 

By the National Credit Union 

Administration Board on January 19, 2006. 

Mary F. Rupp, 

Secretary of the Board. 

■ For the reasons set forth above, 12 

CFR parts 701 and 741 are amended as 

follows: 

PART 701—ORGANIZATION AND 

OPERATIONS OF FEDERAL CREDIT 

UNIONS 

■ 1. The authority citation for part 701 

continues to read as follows: 

Authority: 12 U.S.C. 1752(5), 1755, 1756, 

1757, 1759, 1761a, 1761b, 1766, 1767, 1782, 

1784, 1787, 1789 and Public Law 101–73. 

Section 701.6 is also authorized by 31 U.S.C. 

3717. Section 701.31 is also authorized by 12 

U.S.C. 1601 et seq., 42 U.S.C. 1981 and 42 

U.S.C. 3601–3610. Section 701.35 is also 

authorized by 12 U.S.C. 4311–4312. 

■ 2. Amend § 701.34 as follows: 

■ a. Revise the section heading to read 

as set forth below; 

■ b. Revise paragraphs (b) and (c) to 

read as set forth below; 

■ c. Add new paragraph (d) before the 

Appendix to § 701.34 to read as set forth 

below; and 

■ d. Revise the Appendix to § 701.34 

following new paragraph (d) to read as 

follows: 

§ 701.34 Designation of low income status; 

Acceptance of secondary capital accounts 

by low-income designated credit unions. 

* * * * * 

(b) Acceptance of secondary capital 

accounts by low-income designated 

credit unions. A federal credit union 

having a designation of low-income 

status pursuant to paragraph (a) of this 

section may accept secondary capital 

accounts from nonnatural person 

members and nonnatural person 

nonmembers subject to the following 

conditions: 

(1) Secondary capital plan. Before 

accepting secondary capital, a lowincome credit union (‘‘LICU’’) shall 

adopt, and forward to the appropriate 

NCUA Regional Director for approval, a 

written ‘‘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 offVerDate Aug<31>2005 14:52 Jan 25, 2006 Jkt 208001 PO 00000 Frm 00008 Fmt 4700 Sfmt 4700 E:\FR\FM\26JAR1.SGM 26JAR1

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Federal Register / Vol. 71, No. 17 / Thursday, January 26, 2006 / Rules and Regulations 4239 

balance sheet items, covering a 

minimum of the next two years. 

(2) Decision on plan. If a LICU is not 

notified within 45 days of receipt of a 

Secondary Capital Plan that the plan is 

approved or disapproved, the LICU may 

proceed to accept secondary capital 

accounts pursuant to the plan. 

(3) Nonshare account. The secondary 

capital account must be established as 

an uninsured secondary capital account 

or other form of non-share account. 

(4) Minimum maturity. The maturity 

of the secondary capital account must 

be a minimum of five years. 

(5) Uninsured account. The secondary 

capital account will not be 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 must be 

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, 

must be 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 

time the losses are realized. 

(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 

be 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 execute a ‘‘Disclosure and 

Acknowledgment’’ as set forth in the 

Appendix to this section 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 §§ 702.204(b)(11), 

702.304(b) and 702.305(b) of this 

chapter, the NCUA Board may prohibit 

a LICU 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. 

(c) Accounting treatment; Recognition 

of net worth value of accounts. (1) 

Equity account. A LICU that issues 

secondary capital accounts pursuant to 

paragraph (b) of this section must record 

the funds on its balance sheet in an 

equity account entitled ‘‘uninsured 

secondary capital account.’’

(2) Schedule for recognizing net worth 

value. 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 following schedule: 

Remaining maturity 

Net worth 

value of 

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. 

(d) Redemption of secondary capital. 

With the written approval of the 

appropriate Regional Director, 

secondary capital that is not recognized 

as net worth under paragraph (c)(2) of 

this section (‘‘discounted secondary 

capital’’ recategorized as subordinated 

debt) may be redeemed according to the 

remaining maturity schedule in 

paragraph (d)(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 any part of each eligible 

increment, and must demonstrate to the 

satisfaction of the appropriate Regional 

Director that: 

(i) The LICU will have a postredemption net worth classification of 

‘‘adequately capitalized’’ under part 702 

of this chapter; 

(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. 

Remaining maturity 

Redemption 

limit as 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 

Appendix to § 701.34 

A LICU that is authorized to accept 

uninsured secondary capital accounts and 

each investor in such an account shall 

execute and date 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 ll years. 

2. Redemption prior to maturity. Subject to 

the conditions set forth in 12 CFR 701.34, the 

funds committed to the secondary capital 

account are redeemable prior to maturity 


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4240 Federal Register / Vol. 71, No. 17 / Thursday, January 26, 2006 / Rules and Regulations 

only at the option of the LICU and only with 

the prior approval of the appropriate regional 

director. 

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: 

llPaid into and become part of the 

secondary capital account; 

llPaid directly to the investor; 

llPaid into a separate account from which 

the investor may make withdrawals; or 

llAny 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 Board 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: 

lllllllllllllllllllll

[name of investor’s official] 

[title of official] 

[name of investor] 

[address and phone number of investor] 

[investor’s tax identification number] 

lllllllllllllllllllll

[name of credit union official] 

[title of official] 

PART 741—REQUIREMENTS FOR 

INSURANCE 

■ 1. The authority citation for part 741 

continues to read as follows: 

Authority: 12 U.S.C. 1757, 1766, 1781—

1790, and 1790d. Section 741.4 is also 

authorized by 31 U.S.C. 3717. 

■ 2. Amend § 741.204 as follows: 

■ a. Remove from paragraph (c) the 

citation ‘‘§ 701.34’’ wherever it appears 

and add in its place the citation 

‘‘§ 701.34(b)(1)’’; 

■ b. Revise the second sentence of 

paragraph (c) and add a new third 

sentence to read as set forth below; and 

■ c. Add new paragraph (d) to read as 

set forth below: 

§ 741.204 Maximum public unit and 

nonmember accounts, and low income 

designation. 

* * * * * 

(c) * * * State chartered federally 

insured credit unions offering secondary 

capital accounts must submit the plan 

required by § 701.34(B)(1) to both the 

state supervisory authority and the 

NCUA Regional Director for approval. 

The state supervisory authority must 

approve or disapprove the plan with the 

concurrence of the appropriate NCUA 

Regional Director. 

(d) Redeem secondary capital 

accounts only in accordance with the 

terms and conditions authorized for 

federal credit unions pursuant to 

§ 701.34(d) of this chapter and to the 

extent not inconsistent with applicable 

state law and regulation. State chartered 

federally insured credit unions seeking 

to redeem secondary capital accounts 

must submit the request required by 

§ 701.34(d)(1) to both the state 

supervisory authority and the NCUA 

Regional Director. The state supervisory 

authority must grant or deny the request 

with the concurrence of the appropriate 

NCUA Regional Director. 

[FR Doc. 06–686 Filed 1–25–06; 8:45 am] 

BILLING CODE 7535–01–P 

DEPARTMENT OF TRANSPORTATION 

Federal Aviation Administration 

14 CFR Part 71 

[Docket No. FAA–2005–20643; Airspace 

Docket No. 05–AAL–13] 

Establishment of Class D Airspace; 

and Revision of Class E Airspace; Big 

Delta, Allen Army Airfield, Fort Greely, 

AK 

AGENCY: Federal Aviation 

Administration (FAA), DOT. 

ACTION: Final rule; correction. 

SUMMARY: This action corrects an error 

in the airspace description contained in 

a Final Rule that was published in the 

Federal Register on Thursday, 

September 22, 2005 (70 FR 55531). 

Airspace Docket No. 05–AAL–13. 

EFFECTIVE DATE: February 27, 2006. 

FOR FURTHER INFORMATION CONTACT: 

Derril Bergt, AFSAO, Federal Aviation 

Administration, 222 West 7th Avenue, 

Box 14, Anchorage, AK 99513–7587; 

telephone number (907) 271–2796; fax: 

(907) 271–2850; e-mail: 

derril.bergt@faa.gov. Internet address: 

http://www.alaska.faa.gov/at. 

SUPPLEMENTARY INFORMATION: 

History 

Federal Register Document FAA–

2005–20643, FR Doc. 05–18931, 

published on Thursday, September 22, 

2005 (70 FR 55531), established Class D 

airspace at Big Delta, Allen Army 

Airfield, AK. An error was discovered in 

the airspace description that 

misidentified a highway name in the 

description of an area excluded from the 

Class D Airspace. This action corrects 

that error. 

Correction to Final Rule 

Accordingly, pursuant to the 

authority delegated to me, the airspace 

description of the Class D airspace 

published in the Federal Register, 

Thursday, September 22, 2005 (70 FR 

55531), (FR Doc 05–18931), page 55533, 

column 1) is corrected as follows: 

§ 71.1 [Corrected] 

* * * * * 

AAL AK D Big Delta, AK [Corrected] 

Big Delta, Allen AAF, AK 

(Lat. 63°59′40′′ N., long. 145°43′18′′ W.) 

Big Delta VORTAC 

(Lat. 64°00′16′′ N., long. 145°43′02′′ W.) 

Delta Junction Airport 

(Lat. 64°03′02′′ N., long. 145°43′02′′ W.) 

That airspace extending upward from the 

surface to and including 3,800 feet MSL 

within a 6.3-mile radius of the Allen AAF; 

excluding the portion within the boundary of 


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