COMPARING CREDIT UNIONS WITH

OTHER DEPOSITORY INSTITUTIONS

UNITED STATES DEPARTMENT OF THE TREASURY

January 2001
The Honorable Paul S. Sarbanes

Chairman

Committee on Banking, Housing,

and Urban Affairs

U.S. Senate

Washington, D.C. 20510-6075

Dear Mr. Chairman:

I am pleased to transmit the Department of the Treasury’s report on credit union regulation and

taxation, and on preserving the growth and viability of small banks. We prepared this report as

required by sections 401 and 403 of the Credit Union Membership Access Act of 1998.

In preparing this report, we compared the safety and soundness regulations governing credit

unions with those governing all other federally insured depository institutions. We also

compared the application of regulatory enforcement authority and federal consumer protection

laws across credit unions and all other federally insured depository institutions. Finally, we

compared the product offerings of these various institutions.

We reviewed the history of credit unions’ exemption from the federal corporate income tax and

estimated the potential revenue that could be raised were Congress to remove the exemption.

We also reviewed the steps taken during this Administration to promote the viability of small

banks, and discuss the tax policy principles that govern any expansion of Subchapter S

eligibility.

The report contains no recommendations.

Sincerely,

Lawrence H. Summers

Enclosure

[Identical letters sent to the Honorable Phil Gramm, the Honorable Max Baucus, and the

Honorable Charles Grassley]
The Honorable Michael G. Oxley

Chairman

Committee on Financial Services

U.S. House of Representatives

Washington, D.C. 20515-6050

Dear Mr. Chairman:

I am pleased to transmit the Department of the Treasury’s report on credit union regulation and

taxation, and on preserving the growth and viability of small banks. We prepared this report as

required by sections 401 and 403 of the Credit Union Membership Access Act of 1998.

In preparing this report, we compared the safety and soundness regulations governing credit

unions with those governing all other federally insured depository institutions. We also

compared the application of regulatory enforcement authority and federal consumer protection

laws across credit unions and all other federally insured depository institutions. Finally, we

compared the product offerings of these various institutions.

We reviewed the history of credit unions’ exemption from the federal corporate income tax and

estimated the potential revenue that could be raised were Congress to remove the exemption.

We also reviewed the steps taken during this Administration to promote the viability of small

banks, and discuss the tax policy principles that govern any expansion of Subchapter S

eligibility.

The report contains no recommendations.

Sincerely,

Lawrence H. Summers

Enclosure

[Identical letters sent to the Honorable John LaFalce, the Honorable Bill Thomas, and the

Honorable Charles Rangel]

COMPARING CREDIT UNIONS

WITH OTHER DEPOSITORY INSTITUTIONS

SUMMARY

Credit unions are depository institutions that accept deposits and make loans. As of June

30, 2000, there were 10,477 federally insured credit unions with $426.8 billion in assets.

Although the average credit union is small, with only $41 million in assets, those with more than

$50 million in assets hold more than 79 percent of all credit union assets, even though they

account for only 15 percent of all credit unions.

As a group, credit unions have grown larger in recent years and have expanded their

offerings of financial products and services. According to an industry survey, more than half of

all credit unions accept loan applications through the Internet. Moreover, more than 10 percent

provide stock brokerage services or sell mutual funds, albeit through a subsidiary.

Although they provide many of the same products and services as banks and thrifts,

credit unions have certain distinguishing characteristics. They are member-owned cooperatives,

with each member having one vote regardless of the amount of a member’s deposits. Moreover,

they do not issue capital stock; rather, they are non-profit entities that build capital by retaining

earnings. Finally, credit unions may serve only an identifiable group of customers with a

common bond (e.g., the employees of a particular firm, the members of a certain organization, or

the members of a specific community).

Federal Laws and Regulations

Despite their relatively small size and their restricted fields of membership, federally

insured credit unions operate under banking statutes and rules virtually identical to those

applicable to banks and thrifts. Significant differences have existed in the past, but have been

gradually disappearing. Recently, most of the remaining major regulatory differences between

credit unions and other depository institutions were removed.

In 1998, Congress established net worth requirements for credit unions and directed the

National Credit Union Administration (NCUA) to promulgate prompt corrective action (PCA)

rules and risk-based net worth requirements for credit unions. Although the NCUA’s final rules

mirrored those applicable to other depository institutions in most respects, a few differences can

be noted. Each of these two rules contains a placeholder for the role that “regulatory capital”

could play should the NCUA authorizes it. Such “capital” would be uninsured, but would be

viewed as adding to the net worth available to a credit union to absorb losses. However, history

shows that uninsured depositors withdraw their funds at the first sign of financial difficulty, thus

rendering such funds unavailable to absorb losses and, in some cases, precipitating runs on

institutions. In addition, under the PCA regulation, the NCUA waived its right to take certain
2

statutorily authorized actions against undercapitalized credit unions, such as requiring a new

election of a credit union’s board of directors.

We have identified only two other important differences. First, the NCUA’s loans-toone-borrower restriction greatly exceeds the limit applicable to other depository institutions,

which is typically set at 15 percent of capital. The limit for credit unions stands at 10 percent of

net worth and 10 percent of deposits. Second, credit unions are exempt from the Community

Reinvestment Act (CRA), which requires that banks and thrifts serve all customers within their

geographic area. However, the NCUA recently promulgated a regulation requiring that any

credit union seeking to expand, convert to, or charter a community credit union would have to

prepare a written plan for serving its entire community.

At this time, we do not believe these differences raise any particular safety and soundness

or competitive equity concerns. Therefore, we offer no administrative or legislative

recommendations.

The Credit Union Tax Exemption

Historically, cooperative depository institutions were generally exempted from the

federal corporate income tax. For example, cooperative banks had always been exempt, whereas

state credit unions obtained an exemption in 1917. Federal credit unions have also always

enjoyed an exemption, one that stemmed from the cooperative character of federal credit unions

and the desire to tax them in a manner consistent with federal thrift institutions.

In 1951, however, Congress removed the thrift tax exemption because these institutions

had evolved into commercial bank competitors, and had lost their “mutuality,” in the sense that

the institutions’ borrowers and depositors were not necessarily the same individuals. Congress

determined that, under these circumstances, their tax exemption afforded them an unfair

advantage over commercial banks. Although it removed the thrift exemption, Congress left

intact the credit union exemption.

In directing the Treasury Department to study this issue, Congress asked us to analyze

“the potential effects of the application of . . . Federal tax laws . . . on credit unions in the same

manner as those laws are applied to other federally insured financial institutions.” Thus, we

analyzed how much revenue might be raised by removing the exemption. We estimated that

between $13.7 billion and $16.2 billion would be raised over a ten-year period if all credit unions

were taxed.

Preserving Small Banks

The Administration has, throughout its tenure, taken substantial steps to preserve the

growth and viability of small banks. The Credit Availability Program (CAP), for example, was

unveiled by the President shortly after taking office in 1993. In the midst of a slow economic

recovery, the CAP updated certain important regulations, thereby curtailing regulatory burden on

banks and improving the availability of credit, particularly to small and medium-sized

businesses, farms, and low-income communities. Other initiatives included streamlining
3

compliance with the Bank Secrecy Act, reducing regulatory burden, streamlining CRA rules, and

simplifying small bank capital standards. Believing that we have taken those actions best

tailored to preserving the growth and viability of small banks, we recommend no new policy

initiatives at this time.

Small banks have also benefited from the tax benefits of Subchapter S status. By the end

of 1999, more than 1,260 banks were operating as S corporations. These institutions represent

over 15 percent of U.S. banks, but only about 2 percent of banking assets, suggesting that smaller

institutions have been among the first to elect S corporation status. This strong response by

smaller banks suggests that Subchapter S offers considerable advantages in terms of more

favorable tax treatment and lower compliance burdens. If further policy changes are considered,

they should satisfy two broad requirements. First, any additional measures to simplify the tax

treatment of small banks must be crafted with a recognition that small businesses electing

Subchapter S status play a vital role in the U.S. economy, and that only a small number of these

firms are banks. Second, proposed modifications to Subchapter S must be evaluated with respect

to potential effects on the competitive environment faced by smaller banks.
4
5

CHAPTER 1

INTRODUCTION

The Credit Union Membership Access Act of 1998 (CUMAA) directed the Treasury to

study several depository institution issues.1 Most of these concerned credit unions, but one

addressed the viability of community banks. This report presents the results of our study with

regard to sections 401 and 403 of CUMAA. A report on section 203, which required a study of

credit union member business lending, will be submitted under separate cover.

Section 401 requires the Treasury to evaluate:

the differences between credit unions and other federally insured financial institutions,

including regulatory differences with respect to regulations enforced by the Office of

Thrift Supervision, the Office of the Comptroller of the Currency, the Federal Deposit

Insurance Corporation, and the Administration; and

the potential effects of the application of Federal laws, including Federal tax laws, on

credit unions in the same manner as those laws are applied to other federally insured

financial institutions.

Under section 403, Congress directed Treasury to submit:

recommendations for such legislative and administrative action as the Secretary deems

appropriate, that would reduce and simplify the tax burden for insured depository

institutions having less than $1,000,000,000 in assets; and banks having total assets of not

less than $1,000,000,000 nor more than $10,000,000,000; and

any other recommendations that the Secretary deems appropriate that would preserve the

viability and growth of small banking institutions in the United States.

I. Credit Union Characteristics

Like banks and thrifts, credit unions are depository institutions that accept deposits and

make loans.2 Also like banks and thrifts, their member deposits are insured by the federal

government up to $100,000.3 As of June 30, 2000, 10,477 federally insured credit unions with

 

1

 Pub. L. No. 105-219, §§ 203, 401, and 403, 112 Stat. 913, 922 and 934-935 (1998) (codified at 12 U.S.C.

§§ 1752a note and 1757a note).

2

 For a thorough analysis of credit unions, their business operations, and how they compare to banks and

thrifts as financial service providers, see U.S. Dept. of the Treasury, Credit Unions (Wash., DC: 1997), pp. 15-27.

Congress directed the Treasury to conduct this study in section 2606 of the Economic Growth and Regulatory

Paperwork Reduction Act of 1996. Pub. L. No. 104-208, § 2606, 110 Stat. 3009-473 (Sept. 30, 1996) (codified at

12 U.S.C. § 1752a note).

3

 12 U.S.C. § 1787(k)(1).
6

$426.8 billion in assets served 76.3 million members.4 Thus, the average credit union asset size

is $41 million. As Table 1-1 shows, the vast majority of credit unions is small and holds a

relatively small share of credit union assets. About 57 percent of all credit unions hold less than

$10 million in assets. Moreover, credit union assets are concentrated within the largest

institutions. Credit unions with more than $50 million in assets comprise less than 15 percent of

all credit unions, but they hold over 79 percent of total federally insured credit union assets.

Table 1-1: Number of Federally Insured Credit Unions and Total Assets by Size Category

(Dollars in billions; data as of June 2000)

Asset Size

Category

Number of

Institutions

Percent of

All Credit Unions

Total Assets Percent of Total

Assets

< $2 million 2,537 24% $2.2 0.5

$2 -$10 million 3,457 33% $17.9 4.2

$10-$50 million 2,939 28% $68.0 15.9

> $50 million 1,544 15% $338.7 79.4

Total 10,477 100% $426.8 100.0

Source: Sheshunoff Information Services, Inc., BankSearch (Austin, TX: 2000).

Credit unions have grown larger in recent years. As of year-end 1994, 67 percent of all

credit unions had less than $10 million in assets,5 compared with 57 percent as of June 30, 2000.

Of this 10 percent difference, credit unions with more than $50 million in assets account for half

of this change.6

Although credit unions have certain characteristics in common with banks and thrifts,

(e.g., the intermediation function), they are clearly distinguishable from these other depository

institutions in their structural and operational characteristics. Many banks or thrifts exhibit one

or more of the following five characteristics; but only credit unions exhibit all five together.

First, credit unions are member-owned,7 and each member is entitled to one vote in

selecting board members and in certain other decisions.8 Although other mutual institutions are

 

4

 Sheshunoff Information Services, Inc., BankSearch (Austin, TX: 2000). Note that this figure will

overstate membership, because some people belong to more than one credit union.

5

 Ibid.

6

 Ibid.

7

 12 U.S.C. § 1752(1) (defining a federal credit union as “a cooperative association organized . . . for the

purpose of promoting thrift among its members and creating a source of credit for provident or productive

purposes . . . . ”). Mutual thrifts are also owned by their depositors, but the other credit union characteristics do not

necessarily apply to these depository institutions.

8

 12 U.S.C. § 1760.
7

also member-owned, voting rights are generally allocated according to the size of the mutual

member’s deposits, rather than being “one member, one vote.”9

Second, credit unions do not issue capital stock. Credit unions create capital, or net

worth, by retaining earnings. Most credit unions begin with no net worth and gradually build it

over time.10

Third, credit unions rely on volunteer, unpaid boards of directors whom the members

elect from the ranks of membership.11

Fourth, credit unions operate as not-for-profit institutions, in contrast to shareholderowned depository institutions. All earnings are retained as capital or returned to the members in

the form of interest on share accounts, lower interest rates on loans, or otherwise used to provide

products or services.

Fifth, credit unions may only accept as members those individuals identified in a credit

union’s articulated field of membership.12 Generally, a field of membership may consist of a

single group of individuals that share a common bond; more than one group, each of which

consists of individuals sharing a common bond; or a geographical community.13 A common

bond may take one of three forms: an occupational bond applies to the employees of a firm; an

associational bond applies to members of an association; and a geographical bond applies to

individuals living, working, attending school, or worshiping within a particular defined

community. 14

Table 1-2 shows the number of federal credit unions and their total assets for each type of

field of membership category. A multiple common bond credit union holds more than one

occupational or associational common bond or a combination of both types of common bonds.

(Community common bonds may not be part of a multiple common bond federal credit union.)

 

9

 12 C.F.R. § 544.1 (presenting the federal mutual charter, section 6 of which provides that “each holder of

an account shall be permitted to cast one vote for each $100 . . . . ”). Federal mutual institutions may set the number

of votes per member anywhere from 1 to 1,000. 12 C.F.R. § 544.2(b)(4).

10 12 U.S.C. § 1790d(b)(2)(B)(ii) (requiring credit union prompt corrective action regulations “to recognize

that credit unions (as cooperatives that do not issue capital stock) initially have no net worth, and give new credit

unions reasonable time to accumulate net worth . . . . ”). This contrasts with banks and thrifts, which will be

chartered only if they have sufficient capital with which to begin operations. 12 C.F.R. § 5.20(h)(4)(national banks);

12 C.F.R. § 552.2-1(b)(3)(ii)(federal savings associations). Even federal mutual associations must have a minimum

amount of capital with which to begin operations. 12 C.F.R. § 543.2(g)(2)(ii).

11

 See 12 U.S.C. § 1761. Nevertheless, federal credit unions do have the authority to permit a specified

number of paid credit union employees to serve as directors. See NCUA, The Federal Credit Union Bylaws, art. VI,

§ 2. Also, some state chartered credit unions may have paid boards of directors.

12 12 U.S.C. § 1759(b). Such requirements for state credit unions vary from state to state.

13 12 U.S.C. § 1759(b).

14

 NCUA, Chartering and Field of Membership Manual (Alexandria, VA: 1999), 63 Fed. Reg. 71,998

(Dec. 30, 1998), as amended, 65 Fed. Reg. 37,065 (Jun. 13, 2000).
8

Note that 49 percent of federal credit unions have multiple common bonds, but they hold 71

percent of federal credit union assets. Of the institutions organized around a single common

bond, most serve particular occupational groups. Occupational bonds account for 31 percent of

all federal credit unions and 16 percent of federal credit union assets.

Table 1-2: Federal Credit Unions by Type of Membership*

(Dollars in billions; data as of December 31, 1999)

Number Percent of all

Federal Credit

Unions

Total Assets

($ in billions)

Percent of all

Federal Credit

Union Assets

Single Common

Bond

3,317 51.3% $71.7 29.3%

 Occupational 1,978 30.6% $40.2 16.4%

 Associational 666 10.3% $3.8 1.6%

 Community 649 10.0% $26.4 10.8%

 Other** 24 0.4% $1.3 0.5%

Multiple Common

Bond

3,149 48.7% $172.6 70.7%

Total 6,466 100.0% $244.3 100.0%

* Data on state chartered credit unions were not available.

** Common bonds in this category consist of atypical common bonds that have been grandfathered.

Source: National Credit Union Administration

II. Organization of the Report

This report is divided into four chapters. Chapter 2 analyzes the differences between

federally chartered credit unions and other federally chartered depository institutions generally

and compares the different statutory and regulatory requirements applicable to all federally

chartered depository institutions. Chapter 3 examines the revenue implications of eliminating

the federal income tax exemption currently applicable to federally insured credit unions. Finally,

Chapter 4 describes actions taken by this Administration to preserve the viability and growth of

small banks. The report also contains an Appendix containing a detailed comparison of the

statutes and regulations applicable to banks, savings associations, and credit unions.
9

CHAPTER 2

COMPARING THE DIFFERENCES BETWEEN

FEDERALLY INSURED CREDIT UNIONS

AND OTHER FEDERALLY INSURED DEPOSITORY INSTITUTIONS

Pursuant to section 401 of CUMAA, this chapter identifies the major statutory and

regulatory differences between federally insured credit unions and other federally insured

depository institutions. In preparing this chapter, Treasury drew upon its 1997 credit union

study. 15 In that report, we enumerated several important characteristics that differentiate credit

unions from banks and thrifts.16 We also compiled a table comparing both the enforcement and

the safety and soundness laws and regulations applicable to federally chartered depository

institutions, that is, those depository institutions supervised by the National Credit Union

Administration (NCUA), the Office of the Comptroller of the Currency (OCC), and the Office of

Thrift Supervision (OTS).17

Given the mandate of section 401, we updated and expanded that table (see Appendix).

The updated table compares rules applicable to federally insured depository institutions as

implemented by all six federal depository institution regulators, including the Federal Reserve

Board (FRB) and the Federal Deposit Insurance Corporation (FDIC). Where applicable,

meaningful divergences between state and federal rules are noted. Moreover, the updated table

augments the previous one by summarizing the safety and soundness rules recently implemented

by the NCUA and by comparing the basic consumer protection laws and regulations across

depository institutions. It also identifies the major powers enjoyed by national banks, federal

savings associations, and federal credit unions.18

Our 1997 report included several safety and soundness recommendations.19 Most of

these have been enacted in the CUMAA, including credit union net worth requirements, riskbased net worth requirements, prompt corrective action, and updated audit standards. This

chapter examines the NCUA’s regulations implementing these statutory requirements.

Given the important structural and operational differences between credit unions and

other depository institutions highlighted in Chapter 1, one would expect credit union rules to

 

15 Treasury, Credit Unions, op. cit. footnote 2.

16

 Ibid., pp. 17-19.

17

 Ibid., pp. pp. 131-143.

18 State depository institution powers vary by state and will not be considered in this report. Moreover, a

federally insured state bank (or its subsidiary) or savings association (or its subsidiary) may not engage in any

activity impermissible for a national bank (or its subsidiary) unless the FDIC finds that it poses no significant risk to

the appropriate deposit insurance fund and the institution complies with all applicable capital rules. 12 U.S.C. §

1831a(a)(1)(state banks); 12 U.S.C. § 1831e(a)(state savings associations).

19 Treasury, Credit Unions, op. cit. footnote 2, p. 128.
10

differ in some respects from those applicable to banks and thrifts. For example, credit unions’

cooperative character precludes them from issuing stock to raise capital, but also excludes them

from the myriad rules governing stock issuance and the payment of dividends. On the other

hand, banks and thrifts may serve any customer and need not limit their operations to preestablished fields of membership, whereas credit unions may only serve those who fall within

their fields of membership. This chapter examines whether the most important statutory and

regulatory requirements applicable to depository institutions differ in any significant respect for

credit unions.

This chapter has been divided into three sections. Section I evaluates the recent safety

and soundness rules promulgated by the NCUA pursuant to statutory mandates. Section II

compares the banking statutes and regulations under which depository institutions operate.

Section III summarizes our conclusions.

I. NCUA Implementation of Mandated Safety and Soundness Rules

Treasury’s 1997 report, Credit Unions, noted that credit unions operated under less

rigorous and formal safety and soundness rules than did banks and thrifts even as “a growing

number of credit unions evolve into larger and more complex financial institutions.”20

Contending that “[s]afety and soundness regulation must keep pace with expanding credit union

operations,”21 our report recommended, among other things, that credit unions be subject to

statutory net worth requirements, including: a risk-based net worth requirement; prompt

corrective action; and independent audit requirements for larger institutions.22

Congress incorporated these three recommendations into the CUMAA. 23 These

requirements and the NCUA’s proposed and final regulations implementing them are discussed

and evaluated below.

A. Net Worth Requirements for Credit Unions

Prior to CUMAA, NCUA regulations did not impose any net worth requirement on credit

unions. In other words, credit unions were not required to maintain a given ratio of net worth to

total assets for safety and soundness purposes. Instead, credit unions were required only to add

to their reserves a specified percentage of current earnings. If reserves reached a certain

threshold, credit unions were no longer required to add to reserves, but no law or regulation

stipulated that credit unions were required to reach that level. 24 The major differences between

 

20 Treasury, Credit Unions, op. cit. footnote 2, pp. 82-83.

21

 Ibid.

22

 Ibid.

23

 Pub. L. No. 105-219, 112 Stat. 913 (Aug. 7, 1998).

24 For example, a credit union operating for more than four years and having at least $500,000 in assets had

to transfer annually 10 percent of its gross income to a reserve account until that account reached 4 percent of

outstanding loans and assets. Other credit unions had to transfer the same proportion of gross income until they
11

the capital requirements of credit unions and those of the other depository institutions are

delineated below. The Appendix contains a more detailed comparison.

In contrast, banks and thrifts are required to meet two capital requirements in order to be

adequately capitalized: (1) a minimum ratio of total capital to total assets, generally 4 percent of

Tier 1 capital, 25 which includes common stock and non-cumulative perpetual preferred stock;26

and (2) a risk-based capital ratio of 8 percent capital to risk-weighted assets.27 Half of the 8

percent risk-based capital requirement may consist of Tier 2 capital, which may include

cumulative perpetual preferred stock, the allowance for loan and lease losses, and hybrid

instruments that combine debt and equity features.28

CUMAA’s net worth requirements direct federally insured credit unions to maintain at

least 6 percent net worth to total assets to be considered adequately capitalized.29 Note that this

exceeds the 4 percent Tier 1 leverage ratio applicable for banks and thrifts (and is statutory, as

opposed to regulatory). Congress determined that a higher ratio was appropriate because credit

unions cannot quickly issue capital stock to raise their net worth as soon as a financial need

arises. Instead, credit unions must rely on retained earnings to build net worth, which necessarily

takes time. Moreover, Congress established a capital level two percentage points higher, a level

recommended by Treasury, because one percent of a credit union’s capital is dedicated to the

National Credit Union Share Insurance Fund and another one percent of the typical credit

union’s capital is dedicated to its corporate credit union. 30

Congress also directed the NCUA to develop risk-based net worth requirements for

complex credit unions.31 The NCUA was directed to both define what attributes cause a credit

 

reached 7.5 percent. At that point, their transfer requirement declined to 5 percent until the reserve reached 10

percent. 12 U.S.C. § 1762 (repealed 1998).

25 12 C.F.R. § 6.4(b)(2)(iii) (OCC); 12 C.F.R. § 565.4(b)(2)(iii) (OTS); 12 C.F.R. § 325.103(b)(2)(iii)

(FDIC); and 12 C.F.R. § 208(b)(2)(iii) (FRB). Savings associations must meet capital requirements as stringent as

those applicable to banks. 12 U.S.C. § 1464(t)(1)(C).

26

 12 C.F.R. part 3, app. A (OCC); 12 C.F.R. part 325, app. A (FDIC); and 12 C.F.R. part 208, app. A

(FRB). In the case of savings associations, Tier 1 capital also includes certain non-withdrawable accounts and

pledged deposits. 12 C.F.R. part 567 (OTS).

27 12 C.F.R. § 6.4(b)(2)(i) (OCC); 12 C.F.R. § 565.4(b)(2)(i) (OTS); 12 C.F.R. § 325.103(b)(2)(i) (FDIC);

and 12 C.F.R. § 208(b)(2)(i) (FRB). The risk-based capital requirements for savings associations may deviate from

those applicable to national banks to account for interest rate risk or other risks, but any deviations may not result in

materially lower levels of capital for savings associations. 12 U.S.C. § 1464(t)(2)(C).

28

 12 C.F.R. part 3, app. A (OCC); 12 C.F.R. part 325, app. A (FDIC); 12 C.F.R. part 208, app. A (FRB);

and 12 C.F.R. part 567 (OTS).

29 12 U.S.C. § 1790d(c)(1)(B)(i).

30 Treasury, Credit Unions, op. cit. footnote 2, pp. 58 and 70-71.

31 12 U.S.C. § 1790d(d)(1).
12

union to be considered complex, 32 and design a system for complex credit unions that accounts

for any material risks not adequately addressed by the 6 percent leverage requirement.33 To be

adequately capitalized, a complex credit union must meet the higher of the 6 percent leverage

requirement and the risk-based net worth requirement.34

The risk-based capital system for banks and thrifts assigns each class of assets a risk

weight that varies from 0 percent to 100 percent. The 0 percent category includes assets such as

cash, the 20 percent category includes assets such as securities issued by government-sponsored

enterprises, the 50 percent category includes mortgage loans, and the 100 percent category

consists of typical commercial loans.35 These rules stemmed from a 12-country effort to develop

internationally uniform capital standards.36 As such, this system best serves larger,

internationally active commercial banks, but it would not likely serve credit unions as well. In

this case, credit unions should operate under different rules, but rules aimed at the same goal of

requiring capital to account for risks not adequately covered by the leverage ratio.

1. NCUA’s Risk-Based Net Worth Requirement

The NCUA’s risk-based capital rule applies to any credit union with more than $10

million in assets and whose risk-based net worth requirement exceeds 6 percent.37 A credit

union’s risk-based requirement is the sum of eight standard components, as depicted in Table 2-

1. Each of the eight components constitutes a “risk portfolio,” which is a portfolio of assets,

liabilities, or contingent liabilities expressed as a percentage of total assets. A risk-weighting is

applied to each component, and all are summed to determine the credit union’s requirement. A

credit union is undercapitalized if its net worth is less than the applicable risk-based net worth

requirement.

 

32

 Ibid.

33 12 U.S.C. § 1790d(d)(2).

34 12 U.S.C. § 1790d(c)(1)(B)(ii).

35

 12 C.F.R. part 3, app. A (OCC); 12 C.F.R. part 325, app. A (FDIC); 12 C.F.R. part 208, app. A (FRB);

and 12 C.F.R. part 567 (OTS).

36 William A. Lovett, Banking and Financial Institutions Law (St. Paul, MN: 1997), pp. 127-128.

37 65 Fed. Reg. 44,950, 44,966 (Jul. 20, 2000) (to be codified at 12 C.F.R. part 702).
13

Table 2-1: Standard Calculation of Risk-Based Net Worth Requirement

Risk Portfolio Component Allocation of Risk Portfolios

(as % of total assets)

Multiplying Factor

Long-term real estate loans38 0 to 25

over 25

.06

.14

Outstanding member business loans 0 to 12.25

over 12.25

.06

.14

Investments

0 to 1 year

> 1 year to 3 years

> 3 years to 10 years

> 10 years

.03

.06

.12

.20

Low risk assets39 All .00

Average-risk assets40 All .06

Loans sold with recourse All .06

Unused member business loan lines of

credit

All .06

Allowance for loan losses

Limited to the equivalent

of 1.5% of total loans

(expressed as a % of assets)

(1.00)

Source: NCUA. See also 65 Fed. Reg. 44,969.

The final rule offers an alternative method of calculating the requirement, which a credit

union may use if it results in a lower risk-based net worth requirement. Three of the abovementioned “risk portfolios”−long-term real estate loans, member business loans, and

investments−are weighted according to their remaining maturity. If the alternative results in any

 

38

 Long-term real estate loans consists of all real estate loans and lines of credit−excluding member

business loans−that will not reprice or mature within five years. 65 Fed. Reg. 44,966 (to be codified at 12 C.F.R.

§ 702.104(a)).

39 Low risk assets consist of cash on hand and the one percent deposit held by credit unions in the National

Credit Union Share Insurance Fund. 65 Fed. Reg. 44,966 (to be codified at 12 C.F.R. § 702.104(d)).

40 Average risk assets equals total assets minus the sum of long-term real estate loans, outstanding member

business loans, investments, and low risk assets. 65 Fed. Reg. 44,966 (to be codified at 12 C.F.R. § 702.104(e)).
14

component generating a lower requirement, the credit union may substitute the lower

determination for the standard calculation of that component.41

2. Assessment of the NCUA’s Risk-Based Net Worth Requirement

In general, the NCUA implemented the risk-based net worth requirements as Congress

intended. However, the rule contains a placeholder for the role that “regulatory capital” might

play as “a criterion in evaluating net worth restoration plans” if regulatory capital is approved by

the NCUA. 42 Under CUMAA, only retained earnings calculated according to generally accepted

accounting principles (GAAP) may count as net worth, 43 which means that no form of uninsured

regulatory capital may count as net worth. Nevertheless, the NCUA finds such capital valuable,

believing that it would be available to absorb losses. Specifically, the NCUA will take

regulatory capital, which may be established by NCUA regulation or authorized by state law and

recognized by NCUA, into account when evaluating a credit union’s net worth restoration plan.

A credit union with regulatory capital would likely be permitted to have lower net worth

targets in its net worth restoration plan than a similarly situated credit union without regulatory

capital, on the theory that regulatory capital would be available to absorb potential losses.

However, depository institution experience with uninsured depositors shows that these account

holders tend to withdraw their funds at the first sign of financial difficulty, thus rendering such

funds unavailable to absorb losses and, in some cases, precipitating runs on institutions.

B. Prompt Corrective Action for Credit Unions

In response to the large number of bank and thrift failures in the late 1980s and early

1990s, Congress enacted a regulatory structure known as prompt corrective action (PCA). PCA

consists of a set of statutory and regulatory provisions aimed at resolving capital deficiencies

before they grow into larger problems.44 This system classifies depository institutions into five

categories, according to their capital holdings: well-capitalized, adequately capitalized,

undercapitalized, significantly undercapitalized, and critically undercapitalized.45 An institution

that becomes undercapitalized faces progressively more stringent regulatory restrictions and

 

41

 See 65 Fed. Reg. 44,969 (to be codified at 12 C.F.R. § 702.107).

42 65 Fed. Reg. 8,607 (Feb. 18, 2000). Net worth restoration plans will be codified at 12 C.F.R. §

702.206(e). The NCUA’s approach relies in part on the standards applicable to low-income credit unions, which

may accept uninsured secondary capital accounts that count towards meeting net worth requirements. Although

CUMAA specifically permitted these credit unions to count such capital as net worth, it did not permit its use in any

form by other credit unions.

43 12 U.S.C. § 1790d(o)(2).

44 12 U.S.C. § 1831o. Regulations implementing these statutory requirements can be found at 12 C.F.R.

part 6 (OCC); 12 C.F.R. part 325, subpart B (FDIC); 12 C.F.R. part 208, subpart D (FRB); and 12 C.F.R. part 565

(OTS).

45 12 U.S.C. § 18310(b)(1). Although created by statute, these terms are defined only in regulation. 12

C.F.R. § 6.4 (OCC); 12 C.F.R. § 565.4 (OTS); 12 C.F.R. § 325.103 (FDIC); 12 C.F.R. § 208.43 (FRB).
15

requirements. Depending on how undercapitalized an institution becomes, and how long the

institution remains undercapitalized, the primary federal regulator may direct the institution to

issue capital stock or to refrain from increasing its asset size. Regulators also have the authority

to require a new election of the board of directors and to dismiss managers. Ultimately, an

institution may be placed into receivership if it remains critically undercapitalized for a long

period of time and shows no ability to recover.46

Treasury’s 1997 report determined that prompt corrective action would benefit credit

unions. At that time, we found that the:

relevant statutes, regulations, and policies fall short of providing a system of prompt

corrective action for credit unions. The NCUA has no regulations or even formal

guidelines for taking corrective action regarding a troubled credit union, and once a credit

union depletes its net worth, the NCUA’s response may be to provide assistance from the

Share Insurance Fund rather than to close the institution. Although this approach may

sometimes turn around a troubled institution, it also has risks. In particular, regulatory

forbearance may delay the actual recognition and correction of serious deficiencies.

When this occurs in a general downturn with many institutions getting into difficulty,

what might otherwise have produced small losses to the insurance fund could produce

much larger losses. The breakdown in regulatory discipline and management discipline

becomes difficult to correct. Unstructured regulatory discretion may also promote

unfairly disparate treatment of similarly situated credit unions.47

Based on Treasury’s recommendation, Congress directed the NCUA to implement a

system of PCA for credit unions.48 Recognizing the differences between credit unions and other

depository institutions, Congress did not simply apply the then-existing PCA system to credit

unions; rather, it adapted that system to the characteristics of credit unions.49 For example, given

that credit unions can only increase net worth through retained earnings and that credit unions

are generally chartered with little or no net worth, the statute directed the NCUA to promulgate

separate PCA rules for newly chartered credit unions.50 Similarly, the legislation grants the

 

46 12 U.S.C. § 1831o(h)(3)(C)(i) (directing the regulator to appoint a receiver for an insured depository

institution has remained “critically undercapitalized on average by the calendar quarter beginning 270 days after the

date on which the institution became critically undercapitalized”). Subject to certain stringent restrictions, the FDIC

and the critically undercapitalized institution’s federal regulator may spare the institution from receivership if it “is

viable and not expected to fail.” 12 U.S.C. § 1831o(h)(3)(C)(ii)(II).

47 Treasury, Credit Unions, op. cit. footnote 2, p. 76.

48

 Pub. L. No. 105-219, § 301, 112 Stat. 913, 923-931 (codified at 12 U.S.C. § 1790d).

49 For example, CUMAA directed the NCUA to design a system of prompt corrective action “to take into

account that credit unions are not-for-profit cooperatives that do not issue capital stock, must rely on retained

earnings to build net worth, and have boards of directors that consist primarily of volunteers.”

12 U.S.C. § 1790d(b)(1)(B).

50 CUMAA required the NCUA to “prescribe a system of prompt corrective action that shall apply to new

credit unions in lieu of this section [which must] recognize that credit unions (as cooperatives that do not issue

capital stock) initially have no net worth and give new credit unions reasonable time to accumulate net worth . . . . ”

12 U.S.C. § 1790d(b)(2)(B).
16

NCUA more time to allow a critically undercapitalized credit union to build net worth and return

to financial health than generally permitted for banks and thrifts.51

In addition to tailoring specific statutory PCA provisions to credit unions, the legislation

directs the NCUA to develop a PCA system that is “comparable” to the PCA rules applicable to

banks and thrifts.52 According to the Senate Banking Committee report, “comparable” means

“parallel in substance (though not necessarily identical in detail) and equivalent in rigor.”53

1. NCUA’s Prompt Corrective Action Rule

PCA consists of two primary components: (1) a framework of mandatory actions

prescribed by statute together with discretionary actions developed by the NCUA; and (2) an

alternative system of PCA that applies to “new” credit unions. With regard to the first

component, CUMAA mandated a set of required actions, corresponding to five statutory net

worth categories. Those actions that would trigger conservatorship or liquidation are prescribed

in CUMAA. Discretionary actions were left for the NCUA to devise, provided they are

“comparable” to those devised by the federal banking agencies for banks and thrifts.

New credit unions are those that have been in operation less than ten years and have $10

million or less in assets.54 Pursuant to CUMAA, the NCUA devised a completely different

system of PCA for these institutions, taking into account the fact that new credit unions begin

with no net worth and can only build it slowly over time. The final rule expanded the net worth

categories from five to six and delineated how long it would normally take a new credit union to

work its way from uncapitalized, on the day it is chartered, to higher levels of net worth. For

example, the NCUA anticipates that it would require five years to accumulate 2 percent net

worth and about 10 years to become adequately capitalized, with at least 6 percent net worth.

The NCUA promulgated its final PCA rule on February 18, 2000,55 and it became

effective on August 7, 2000.

 

51 For example, the NCUA may, under certain conditions, decide not to liquidate a critically

undercapitalized credit union, but it must revisit that decision every six months. 12 U.S.C. § 1790d(i)(2). In

contrast, the other federal depository institution regulators must revisit such a decision every three months. 12

U.S.C. § 1831o(h)(3)(B). The NCUA must generally liquidate a credit union that has remained critically

undercapitalized on average during the calendar quarter beginning 18 months after the date on which the credit

union initially became critically undercapitalized. 12 U.S.C. § 1790d(i)(3)(A). For the other federal regulators, the

comparable time period is nine months. 12 U.S.C. § 1831o(h)(3)(C)(i).

52 12 U.S.C. § 1790d(b)(1)(A)(ii).

53

 S. REP. NO. 193, 105th Cong., 2nd Sess. p. 12 (1998).

54 12 U.S.C. § 1790d(o)(4).

55 65 Fed. Reg. 8,560 (Feb. 18, 2000).
17

2. Assessment of the NCUA’s Prompt Corrective Action Rule

As with its approach to devising a risk-based net worth requirement, the NCUA has

generally implemented its PCA rule as Congress intended, including the congressional mandate

that PCA for credit unions be “comparable” to PCA for banks and thrifts. To the extent there are

differences, for the most part they derive from the structural distinction between credit unions

and other depository institutions.

We found, however, that the rule differs unnecessarily from the bank and thrift PCA rule

in two respects. First, the NCUA has decided explicitly to forego its right to take certain

discretionary actions against undercapitalized credit unions. For example, the NCUA has

decided not to use its authority to require a new election of an undercapitalized credit union’s

board of directors, although it will retain its authority to do so in the case of a significantly or

critically undercapitalized institution. With regard to an undercapitalized credit union, the

NCUA believes that a wholesale election of the board of directors may be an overreaction when

a credit union’s net worth falls below six percent. Although this may be true in many, or nearly

all such situations, there may well be exceptions. Treasury believes that it would have been

more appropriate for the NCUA to articulate its perspective in the preamble and in guidance,

while at the same time retaining the authority.

Second, as with the proposed risk-based net worth rule, the final PCA rule contains a

placeholder for the role that “regulatory capital” could play in the PCA system if the NCUA

authorizes it. As noted previously, only GAAP calculated retained earnings count as net worth. 56

Recognizing this, the NCUA states in the preamble that “the final rule is revised to establish as a

criterion in evaluating net worth restoration plans the type and amount of any forms of regulatory

capital as may be established by NCUA . . . . ”57 The prospect of new forms of regulatory capital

raises concerns, as mentioned in the discussion of the NCUA’s proposed risk-based net worth

requirement rule.

C. Independent Audits

All federally insured banks and thrifts must complete annual reports on their financial

condition and management.58 Moreover, all banks and thrifts with at least $500 million in assets

must establish an independent audit committee and obtain an annual independent audit of its

financial statements by an independent public accountant in accordance with generally accepted

accounting standards.59 Furthermore, the OTS requires any savings association with an

unsatisfactory supervisory rating (3, 4, or 5) to obtain an independent audit.60

 

56 12 U.S.C. § 1790d(o)(2).

57 65 Fed. Reg. 8,560, 8,564 (Feb. 18, 2000).

58 12 U.S.C. § 1831m(a).

59

 12 C.F.R. part 363, implementing 12 U.S.C. § 1831m(d) and (g)(1).

60 12 C.F.R. § 562.4(b)(1).
18

Credit unions have traditionally followed much different audit procedures. First, a credit

union’s volunteer board of directors must appoint a supervisory committee from among the

credit union’s membership.61 The supervisory committee must then conduct, or hire a competent

party to conduct, an annual audit of the credit union. The supervisory committee must also

verify that the institution’s financial statements accurately and fairly represent the institution’s

financial condition and that management practices and procedures sufficiently protect member

assets.62 NCUA regulations require that a credit union’s financial statements provide full and

fair disclosure of all assets, liabilities, and member equity. 63

In our 1997 report, we noted that with the “rise of large, financially complex credit

unions, the audit becomes increasingly more difficult for unpaid volunteers to carry out

personally.”64 At that time, the NCUA required that supervisory committee audits be performed

by “persons having adequate technical training and proficiency as an auditor commensurate with

the level of sophistication and complexity of the credit union under audit,” but did not require

that even the largest, most complex credit union hire a professional accountant.65

Therefore, we recommended that the NCUA require each large federally insured credit

union to obtain an annual audit from an independent certified public accountant, in a manner

comparable to that required by the FDIC.66

CUMAA modified the audit requirements as recommended in our report. First, all

financial reports and statements required to be filed with the NCUA must be uniform and

consistent with GAAP, although credit unions with less than $10 million in assets are exempt.67

The NCUA may substitute its own accounting principles for GAAP, provided that (1) GAAP is

found to be inappropriate for credit unions, and (2) the substitute principles are “no less

stringent” than GAAP.68

Like banks and thrifts, all insured credit unions with at least $500 million in assets must

now obtain an annual independent audit of their financial statements, performed in accordance

with GAAP by an independent certified public accountant or public accountant licensed to

 

61 12 U.S.C. § 1761b(5).

62

 12 C.F.R. part 715, implementing 12 U.S.C. § 1761d.

63 12 C.F.R. § 702.3.

64 Treasury, Credit Unions, op. cit. footnote 2, p. 80.

65

 See 12 C.F.R. § 701.12(c)(2)(i) (superseded).

66 Treasury, Credit Unions, op. cit. footnote 2, p. 80.

67 12 U.S.C. § 1782(a)(6)(C)(i) and (iii).

68

 Ibid., § 1782(a)(6)(C)(ii)
19

perform these services by the appropriate jurisdiction. 69 Certain audit requirements also apply to

insured credit unions with more than $10 million in assets, but less than $500 million, that

voluntarily choose to be audited by an independent auditor who is compensated for the service.70

II. Depository Institution Rules Compared

This section compares the basic statutory and regulatory rules applied to depository

institutions across four broad categories: institution powers, safety and soundness, regulatory

enforcement authority, and consumer protection. The Appendix contains a detailed table

summarizing these findings.

A. Institution Powers

In general, federal credit unions have more limited powers than national banks and

federal savings associations. Most notably, federal credit unions face stricter limitations on their

commercial lending and securities activities. In addition, a usury ceiling prevents them from

charging more than 18 percent on any loan, and the term of many types of loans may not extend

beyond 12 years. At the same time, however, federal credit unions have ample authority to offer

most other consumer products and services, whether directly or through an affiliate. Table 2-2

identifies the major products and services available from credit unions and shows the proportion

of credit unions offering such products and services by asset size.

 

69 12 U.S.C. § 1782(a)(6)(D)(i).

70 12 U.S.C. § 1782(a)(6)(D)(ii).
20

Table 2-2: Credit Union Products and Services by Asset Size

(Percent of credit unions; data as of December 31, 1999)

Asset Size (in millions)

$1-2m $5-10m $50-100m Over $500m All Credit Unions

Loans:

 Unsecured 98.4 99.7 100.0 100.0 98.8

 First Mortgage 8.6 33.9 84.6 100.0 41.2

 Guaranteed Student 3.7 14.5 35.7 52.3 18.4

 Used Auto 96.4 99.0 100.0 100.0 96.1

 New Auto 96.4 99.2 100.0 100.0 95.3

 Auto Leasing 1.9 8.0 27.8 45.2 11.6

 Plane/Boat/RV 71.6 88.4 94.5 97.7 80.6

 Credit Cards 3.6 45.1 92.0 97.7 46.3

Member Services:

 Stock/Bond Brokerage* 0.3 3.5 32.7 73.8 10.8

 Mutual Funds* 0.4 2.5 32.6 78.6 10.3

 Safe Deposit Boxes 0.0 2.9 49.0 66.7 14.5

 Loan Application

Through Audio Response 2.1 5.4 36.4 66.3 12.8

 Loan Application

 Through a PC 0.8 12.2 67.4 80.2 23.4

 Loan Application

 Through the Internet 0.0 48.3 72.5 78.9 62.6

 ATM Cards 2.8 53.4 94.1 100.0 49.1

Deposit Accounts/Services:

 CDs 38.3 75.5 94.7 97.7 66.6

 Traditional IRAs 18.5 61.6 93.2 98.8 56.1

 Business Checking 5.9 37.8 58.2 48.3 31.9

 Personal Checking 13.8 74.8 96.1 100.0 60.7

Source: Credit Union National Association, Credit Union Services Profile 1999. (Data consists of responses from

68 percent of the 11,012 credit unions in existence at the end of 1999).

* Institutions may not provide these services themselves, but may offer them if another entity actually provides the services.

One of the most apparent differences between federal credit unions and other federally

chartered depository institutions stems from the restrictions federal credit unions have regarding

their customer base. Whereas banks and savings associations may offer products and services to

anyone, federal credit unions may serve only their members.71 In addition, federal credit unions

may accept only individuals as members, although community credit unions may also serve

qualified businesses.72 Despite these restrictions, a federal credit union may extend its offerings

to non-members through an affiliate known as a credit union service organization (CUSO).

 

71 12 U.S.C. § 1759.

72 63 Fed. Reg. 71,998, 72,037 (Dec. 30, 1998).
21

CUSOs may be owned as a subsidiary or jointly with other depository institutions, including

banks and thrifts.73

Below we compare the activities in which federal credit unions may engage to those in

which national banks and federal savings associations may engage. A more complete

comparison is provided in the Appendix.

1. Deposits and Trust Accounts

Like national banks and federal savings associations, federal credit unions may offer

checking and savings accounts, although the Federal Credit Union Act (FCUA) refers to them as

share accounts.74 Unlike banks and savings associations, however, credit unions may pay

interest on business checking accounts. Whereas federal credit unions may only offer trust

accounts through a CUSO, national banks and federal savings associations may offer them

directly.

2. Customer Services

Generally, federal credit unions may provide the same financial products and services as

national banks and federal savings associations, including travel and foreign exchange services,

insurance, securities brokerage, investment advice, and real estate brokerage. However, while

national banks may offer these directly, federal credit union customers may only obtain these

from a CUSO. A federal savings association may not offer these products directly, unless

registered as a broker/dealer or investment advisor.

3. Derivatives

Federal credit unions have very limited authority to purchase or sell derivatives, even for

the purpose of hedging risk,75 unlike national banks and federal savings associations. Also in

contrast to other federally chartered depository institutions, a federal credit union may not

directly securitize its assets through its own trust. Furthermore, neither federal savings

associations nor federal credit unions may underwrite securities, whereas national banks, through

financial subsidiaries, may underwrite any security under certain conditions.

 

73 Federal credit unions may only invest up to one percent of their total paid in and unimpaired capital and

surplus in CUSOs. 12 U.S.C. § 1757(7)(I).

74 Federal credit unions are member-owned cooperatives. 12 U.S.C. § 1752(1). Therefore, the FCUA

refers to member deposits as member shares, whether the share represents a demand deposit, time deposit, or

certificate of deposit. 12 U.S.C. § 1752(5).

75

 Federal credit union may use derivatives to manage the risk of loss through a decrease in value of its

commitments to originate real estate loans at specified interest rates by entering into long put positions on securities

issued by the Government National Mortgage Association, the Federal National Mortgage Corporation, and the

Federal Home Loan Mortgage Corporation. 12 C.F.R. § 701.21(i)(2).
22

4. Lending

Federal credit unions may offer residential mortgage loans, but such loans may not

extend beyond 40 years, and any second mortgage may not extend beyond 20 years. In addition,

national banks and federal savings associations must obtain a certified appraisal of such

properties only when the loan amount exceeds $250,000,76 whereas federal credit unions must

generally obtain a certified appraisal if the loan exceeds $100,000.77 Similarly, federal credit

unions must obtain a certified appraisal for any business loan in excess of $50,000,78 while other

federally chartered depository institutions need only obtain such appraisals for loans in excess of

$1 million. 79

Federal credit unions may not make unsecured residential construction loans, whereas

national banks and federal savings associations face only limited restrictions on such lending.

On the other hand, federal credit unions may make other types of unsecured loans without

specific additional limitations.

Federal credit unions’ member business (commercial) lending may not exceed the lesser

of 1.75 times net worth or 12.25 percent of total assets, unless the credit union is either chartered

to make such loans, has a history of concentrating on making such loans, is a low income credit

union, or participates in the Community Development Financial Institutions program. In

contrast, national banks face no specific restrictions on this type of lending, and federal savings

associations’ commercial loans may not exceed 20 percent of their total assets.

5. Investments

NCUA regulations limit a federal credit union’s investments to those specifically listed in

the Act, such as government and agency securities, which may be purchased without limitation.

Aside from the issuances of certain government sponsored enterprises, federal credit unions may

not invest in residential mortgage-backed securities, such as strips; residual interests in collateral

mortgage obligations or real estate mortgage investment conduits; or commercial mortgages and

related securities. Moreover, unlike national banks and federal savings associations, federal

credit unions may not invest in securities backed by non-residential assets, such as credit cards or

automobiles, unless issued by certain government sponsored enterprises. Furthermore, subject to

certain restrictions, national banks and federal savings associations may invest in corporate debt

securities, but federal credit unions lack such authority.

 

76 12 C.F.R. § 34.43(a)(1) (national banks); 564.3(a)(1) (federal savings associations).

77 12 C.F.R. § 722.3(a)(1).

78

 Ibid.

79 12 C.F.R. § 34.43(a)(5)(i) (national banks); 12 C.F.R. § 564.3(a)(5)(i) (federal savings associations).
23

B. Safety and Soundness Rules

As the table in the Appendix shows, credit unions face nearly the same safety and

soundness rules as other depository institutions, with one notable exception: the NCUA’s loansto-one-borrower regulation. Currently, a credit union may lend to one borrower up to 10 percent

of its “unimpaired capital and surplus,”80 which the NCUA defines as retained earnings plus

deposits (or shares). Relying on the FCUA, which refers to shares as “equity,”81 NCUA

regulations permit any federal credit union to lend to any borrower an amount up to 10 percent of

the institution’s capital plus 10 percent of the institution’s deposits.82 This greatly exceeds the

limits on other depository institutions, which is typically 15 percent of capital. 83

C. Regulatory Enforcement Authority

When comparing enforcement authority across federal depository institution regulators,

few differences are found. As the Appendix shows, credit unions in fact operate under almost

identical enforcement rules as banks and thrifts. For example, the NCUA may issue cease-anddesist orders and impose civil money penalties under the same rules as the other federal

depository institution regulators.

D. Consumer Protection

Credit unions are also subject to the same consumer protection rules as other depository

institutions. The Truth in Lending Act, the Truth in Savings Act, the Real Estate Settlement

Procedures Act, the Home Mortgage Disclosure Act, and the Expedited Funds Availability Act,

for example, apply uniformly to all depository institutions. However, the Community

Reinvestment Act (CRA)84 applies to all depository institutions except credit unions.85

 

80 12 U.S.C. § 1757(5)(A)(x); 12 C.F.R. § 701.21(c)(5).

81 12 U.S.C. § 1757(6).

82 12 C.F.R. § 701.21(c)(5).

83

 12 U.S.C. § 84 (national banks); 12 U.S.C. § 1464(u) (federal savings associations). The following

example illustrates how much greater the limit on loans to one borrower is for credit unions than for other depository

institutions. Assume that a federal credit union and a national bank each have $100 million in assets and $8 million

in net worth (8 percent). The national bank’s lending limit is 15 percent of $8 million−or $1.2 million. By contrast,

a federal credit union’s statutory lending limit is keyed to the sum of its deposits and its net worth, a sum roughly

equaling the credit union’s total assets. Thus, the credit union’s lending limit is 10 percent of approximately $100

million−or $10 million. The credit union therefore has a lending limit over eight times larger than that of the bank.

Treasury, Credit Unions, op. cit. footnote 2, p. 65.

84

 Pub. L. No. 95-128, 91 Stat. 1111, 1147-48, title VIII (Oct. 12, 1977) (codified at 12 U.S.C. § 2900 et

seq.).

85 12 U.S.C. § 2902(2) (referring to the definition of “insured depository institution” in 12 U.S.C. §

1813(c)(2), which includes only those banks and thrifts insured by the FDIC).
24

The CRA established an obligation on the part of federally insured depository institutions

to help meet the credit needs of their entire communities, including low- and moderate-income

neighborhoods and individuals, consistent with safe and sound banking practices. An inadequate

record under CRA may be grounds for denying or conditioning an application, for example, to

merge with or acquire another depository institution, or to open or close a branch.

Although the CRA does not apply to credit unions, the NCUA recently promulgated a

regulation requiring that any credit union seeking to expand, convert to, or charter a community

credit union would have to prepare a written plan for serving its entire community.86 Existing

community credit unions would be expected to develop a plan, which would have to be in place

by December 31, 2001.

III. Conclusion

Federal credit unions generally operate within the same legal framework as other

federally insured depository institutions. Most differences between credit unions and other

depository institutions derive from the structure of credit unions. We found this to be most likely

in the case of safety and soundness rules, where credit union operations interact directly with the

operation of the rules. With regard to enforcement and consumer protection rules, few

differences exist. Credit unions have fewer powers available to them than do banks and thrifts,

but, through CUSOs, credit unions may provide their members with a panoply of sophisticated

financial services and products that rivals the offerings of banks and thrifts.

 

86 65 Fed. Reg. 64,512 (Oct. 27, 2000).
25

CHAPTER 3

THE POTENTIAL REVENUE EFFECTS

OF APPLYING FEDERAL TAX LAWS TO CREDIT UNIONS

Section 401 of the Credit Union Membership Access Act requires the Treasury to study

and report on “the potential effects of the application of federal laws, including federal tax laws,

on credit unions in the same manner as those laws are applied to other federally insured financial

institutions.”87 Under current law, credit unions are exempt from federal income taxation, unlike

all other federally insured depository institutions.88

In general, depository institutions are taxed under varying rules depending on the

structure of the institution. The revenue model applied below assumes that, in the absence of an

exemption, the appropriate rules for taxing credit unions are those applicable to mutual thrifts

(i.e., mutual savings associations, mutual savings banks, cooperative banks, and domestic

building and loan associations). Mutual thrifts are the federally insured depository institutions

most similar in structure to credit unions, because like credit unions, mutual thrifts generally do

not have corporate stock, are not-for-profit entities, and are owned by their depositors, or

members, rather than by shareholders.

This chapter is organized as follows. Section I describes corporate taxation generally.

Section II describes the manner in which depository institutions are taxed specifically. Section

III relates the history of the federal income tax exemption for credit unions. Section IV explains

the model used to estimate the revenue effect of taxing credit unions like mutual thrifts. Because

a critical assumption underlying our revenue estimates is the forecasted growth rate for credit

unions, two series of revenue projections, using both higher and lower growth rates, are

presented.

I. Taxation of Corporations

Corporations are generally taxed under one of two sections of the Internal Revenue Code:

Subchapter C (rendering the corporation a “C” corporation)89 and Subchapter S (rendering the

corporation an “S” corporation).90

Most corporations, including depository institutions, are C corporations.91 Under

Subchapter C, income is taxed at both the corporate level and at the shareholder level.

 

87

 Pub. L. No. 105-219, 112 Stat. 913, 934-935 (Aug. 7, 1998).

88 26 U.S.C. § 501(c)(14).

89 26 U.S.C. §§ 11,301-305.

90 26 U.S.C. §§ 1361-1379.

91 Internal Revenue Service, Statistics of Income Division, 1997 Corporation Source Book, Publication

1053 (March 2000).
26

Distributions of corporate income, in the form of dividends, which have already been taxed at the

corporate level constitute taxable income at the individual level to stockholders. At the corporate

level, such entities are generally taxed at a 35 percent tax rate on taxable income. To compute

taxable income, a C corporation deducts its business expenses, such as employee compensation,

depreciation, and interest paid. However, a deduction is not allowed for dividends paid. When

deductions exceed income, the corporation has a net operating loss for the taxable year.

Carryover rules permit corporations to use the net operating loss to offset taxable income in

preceding or succeeding taxable years. In general, a corporation can carry a net operating loss

back two years and forward 20 years.92

Some corporations may elect to be taxed under Subchapter S. Eligibility criteria include,

among other things, a requirement that an S corporation have no more than 75 shareholders and

that it not use the reserve method of accounting for bad debts. Unlike C corporations, the

income of S corporations is allocated for tax purposes to shareholders and then taxed at their

applicable rates; the entity itself does not pay federal income tax. Prior to 1997, depository

institutions were ineligible to elect S corporation status.

II. Tax Treatment of Depository Institutions

A. General Provisions

In addition to the rules applicable to corporations generally, special rules apply to

depository institutions.93 These special rules reflect the fact that the income of depository

institutions is primarily derived from taking deposits and making loans. Thus, depository

institutions, unlike taxpayers generally, are allowed a bad debt deduction for securities that

become worthless.94 Similarly, sales or exchanges of debt obligations held by a depository

institution result in ordinary income or loss, rather than capital gain or loss.95 Depository

institutions are also subject to a special pro rata allocation rule for purposes of determining the

amount of interest expense that is nondeductible as an expense relating to tax-exempt interest

income. With very limited exceptions, a depository institution is not allowed a deduction for

interest expense allocable to tax-exempt obligations acquired after August 7, 1986.96

Special rules also apply to small depository institutions (those with assets of $500 million

or less). In general, taxpayers are required to use a specific charge-off method to account for bad

debts. Under this method, a deduction for a bad debt is allowed only when a loan becomes

 

92

 C corporations are also subject to the alternative minimum tax (AMT), which applies only if their

minimum tax exceeds their regular tax liability. 26 U.S.C. § 55.

93 26 U.S.C. § 585.

94 26 U.S.C. § 582.

95 26 U.S.C. § 1221.

96 26 U.S.C. § 265.
27

wholly or partially worthless. Depository institutions (other than small depository institutions)

are required to use this method.97 Small depository institutions, however, are permitted to use

either the specific charge-off method or the reserve method of accounting for bad debts. Under

the reserve method, a depository institution establishes a reserve for bad debts, charges actual

losses against the reserve, and is allowed a deduction for annual additions to restore the reserve

to its proper balance. The reserve method thus allows loss deductions to be taken before the year

in which the loss actually occurs and can be viewed as equivalent to an interest-free loan from

the government to the taxpayer in an amount equal to the reserve balance multiplied by the tax

rate.98

A taxable depository institution that grows too large no longer qualifies for the reserve

method and must use the specific charge-off method of accounting for bad debts. To prevent the

duplication of deductions, first as a reserve addition and then when the loan is specifically

charged off, the institution must recapture its existing bad debt reserve (i.e., include the amount

of the reserve in income) unless it elects to use the “cut-off” method.99 A depository institution

that voluntarily changes its method of accounting to the specific charge-off method (e.g., so that

it can become an S corporation) must also recapture its existing bad debt reserve.100

B. Tax Treatment of Mutual Thrifts

The tax treatment of a depository institution depends, in part, on whether the institution is

a stock or a mutual company. In a stock company, the shareholders and the depositors are not

necessarily the same individuals. The equity of the corporation is derived from amounts paid by

shareholders to purchase stock from the corporation and from earnings retained by the

corporation, rather than distributed to shareholders. In general, the corporation’s net income is

taxed at the corporate level, whether it is retained or distributed to shareholders. Income that is

distributed to shareholders as dividends is also taxed at the shareholder level.

 

97 Under Treasury regulations, banks and other corporations subject to federal or state regulatory

supervision may treat debts as worthless for tax purposes when they are treated as worthless for regulatory purposes.

This often allows the losses to be recognized earlier than would be the case under generally applicable standards.

For supporting analysis, see Dept. of the Treasury, Report to The Congress on The Tax Treatment of Bad Debts by

Financial Institutions (Wash., DC: 1991).

98 For a discussion of when reserves may lower taxes for financial institutions, see Treasury, The Tax

Treatment of Bad Debts, op. cit. footnote 101.

99 The recapture is generally spread over four years. In the first year, 10 percent of the reserve is

recaptured unless the taxpayer chooses to recapture a higher percentage. The reserve remaining after the first year is

recaptured 2/9ths in the second year, 3/9ths in the third year, and 4/9ths in the fourth year.

100 The recapture after a voluntary change is also generally spread over four years, but 25 percent of the

reserve is recaptured in each year.
28

In contrast, mutual corporations are owned by their depositors, and the equity of a mutual

corporation is derived solely from retained earnings.101 Because depositors are the owners,

payments to depositors can include both interest and an equity return to depositors in their role as

owners. While depository institutions are generally permitted to deduct interest paid on deposits,

mutual thrifts are also allowed a deduction for amounts paid or credited to their depositors as

dividends on their accounts, including amounts that represent an equity return, if such amounts

may be withdrawn on demand subject only to customary notice of intention to withdraw. 102

These dividends, whether representing interest or a return on equity, are thus taxed only at the

depositor level. In effect, mutual thrifts, unlike other taxable depository institutions, are taxed

only on retained earnings, and not on earnings distributed to owners.

III. The History of Credit Unions’ Tax Treatment

The first credit unions that appeared in the United States at the beginning of the previous

century were state chartered. When the federal income tax was first enacted, state chartered

credit unions were not specifically exempt. In 1917, however, an administrative ruling by the

U.S. Attorney General exempted these credit unions from federal income taxation. The Attorney

General ruled that the credit unions closely resembled cooperative banks and similar institutions

that Congress had expressly exempted from taxation in 1913 and 1916.103

Congress first established a federal charter for credit unions in 1934.104 However, that

Act did not exempt federal credit unions from the federal taxation of their income, although they

were exempt under the previous administrative ruling. A statutory exemption was not provided

until 1937.105 Two reasons were given for granting this exemption: (1) that taxing credit unions

on their shares, much as banks are taxed on their capital shares, “places a disproportionate and

excessive burden on the credit unions” because credit union shares function as deposits; and (2)

that “credit unions are mutual or cooperative organizations operated entirely by and for their

members . . . . ”106 Thus, the tax exemption was based primarily on the organizational form of

credit unions and ensured consistent treatment with federal thrift institutions, including mutual

savings banks.

In 1951, thrift institutions lost their tax exemption, but the credit union exemption was

retained.107 The Senate report to the Revenue Act of 1951 stated that mutual savings banks and

 

101 As of June 30, 2000, there were 730 mutual savings institutions with $141 billion in assets. Federal

Deposit Insurance Corporation, FDIC Quarterly Banking Profile Graph Book (Wash., DC: second quarter 2000),

p. 45.

102 26 U.S.C. § 591.

103

 See General Accounting Office, Credit Unions: Reforms for Ensuring Future Soundness (Wash, DC:

1991) (providing a brief history of the tax exemption for credit unions).

104 Federal Credit Union Act, Pub. L. No. 467, c. 750, 48 Stat. 1216 (Jun. 26, 1934).

105

 Pub. L. No. 416, c. 3, § 4, 51 Stat. 4 (Dec. 6, 1937).

106

 H.R. REP. NO. 1579, 75th Cong., 1st Sess. p. 2.

107

 Revenue Act of 1951, Pub. L. No. 183, § 313, 65 Stat. 490 (Oct. 18, 1951).
29

savings and loan associations were losing their tax exemption because they had evolved into

commercial bank competitors. In addition, thrifts had evolved from mutual organizations to ones

that operated in a similar manner to banks. Finally, the exemption had given thrifts a

competitive advantage over taxable commercial banks and life insurance companies.

At the present time, mutual savings banks are in active competition with commercial

banks and life insurance companies for the public savings, and they compete with many

types of taxable institutions in the security and real estate markets. As a result your

committee believes that the continuance of the tax-free treatment now accorded mutual

savings banks would be discriminatory. 108

In the early days of [savings and loan associations], the transactions of the associations

were confined to members, and no one could participate in the benefits they afforded

without becoming a shareholder . . . The fact that the members were both the borrowers

and the lenders was the essence of the “mutuality” of these organizations. Although

many of the old forms have been preserved to the present day, few of the associations

have retained the substance of their earlier mutuality . . . More and more, investing

members are becoming simply depositors, while borrowing members find dealing with a

savings and loan association only technically different from dealing with other mortgage

lending institutions in which the lending group is distinct from the borrowing group . . .

The grounds on which your committee’s bill taxes savings and loan associations on their

retained earnings . . . are the same as those on which mutual savings banks are taxed

under the bill. 109

IV. Estimating the Revenue Effects of Taxing Credit Unions

A. General Issues

To evaluate the effect on federal revenues of applying the present tax rules for mutual

thrifts to credit unions, we developed a model to forecast taxable credit union income for fiscal

years 2000 through 2009. The model is based upon a number of income and balance sheet items

available from the Call Reports database. These are then forecast into the future, with their

growth a function of certain macroeconomic aggregates and the size, measured in assets, of each

institution. Assumptions concerning the behavior of relevant macroeconomic aggregates are

taken from the Administration’s fiscal year 2000 budget forecast.110

 

108

 S. REP. NO. 781, 82d Cong. 1st Sess. 25.

109

 Ibid., pp. 27-28.

110 The model forecasts credit union tax revenues in two steps. First, the total assets for the entire credit

union industry are projected into the future based on the Administration’s forecast for the fiscal year 2000 Budget

from February 1999. Based on this forecast, projected annual growth rates are generated and then adjusted to take

into account historical differences in the growth of small and large credit unions. Because larger credit unions with

assets in excess of $10 million have been growing faster than smaller credit unions, the growth rate for large credit

unions is adjusted upwards and the one for small credit unions downward. Second, to reflect the variation in

income growth rates in the model, the previous year’s net charge-offs are increased by the asset growth rate and then

randomly adjusted to allow the net charge-off growth rate to be positive or negative.
30

Credit union consolidation is also addressed. Between 1992 and 1997, the number of

credit unions declined by an average of 2.7 percent. Our model assumes that trends observed

over this time period continue through 2009, and makes appropriate adjustment to the

composition of the industry with respect to asset base, income and other measures.

The exact response of credit unions to imposition of a corporate tax is unclear. Our

model therefore considers two alternate scenarios: A higher growth rate assumes that credit

unions can absorb the corporate income tax without any effect on asset growth. A lower growth

rate assumes that credit unions will pay the tax out of their retained earnings on a dollar-fordollar basis, thereby reducing their available capital and opportunity for growth. 111 The two

alternative rates thus serve as an upper and lower bound on the model’s estimation of credit

union asset growth in the absence of a tax exemption.

Credit unions are assumed to modify their behavior to lower their taxable income without

lowering their “true” income in order to reduce their tax liability. For example, credit unions are

assumed to alter their investment portfolios to hold more tax-exempt securities in order to lower

their tax liability.

B. Estimating the Revenue Derived from Taxing Credit Unions

The estimated revenue raised by applying the federal corporate income tax to credit

unions, subject to a high and low asset growth rate, as shown in Tables 3-1 and 3-2, respectively.

Under the high growth rate assumption, we estimated that taxing credit unions would

raise $6.8 billion over a five-year period (fiscal years 2000 through 2004) and $16.2 billion over

a ten-year period (fiscal years 2000 through 2009). The vast majority of the revenue raised

would come from larger credit unions. For example, Table 3-1 suggests that credit unions with

at least $100 million in assets would account for more than 75 percent of the revenue, while

comprising just over 10 percent of the number of credit unions.

The estimated tax revenue from large credit unions increases relatively more than for

small credit unions over time, primarily because credit unions with at least $10 million in assets

have higher growth rates. This differential growth rate reflects historical patterns. As a result,

over time the income and assets of large credit unions, as well as their number, increase faster

than those of small credit unions. Moreover, consolidation results in there being fewer small

credit unions over time. Finally, the total tax liability estimated includes the alternative

minimum tax which, because of exemptions for small corporations, generally would affect only

larger credit unions.

Similarly, the tables illustrate the revenue effects of exempting smaller credit unions from

the imposition of any federal corporate income tax. For example, credit unions with less than

 

111 The assumption of efficient operation implies that credit unions may not obtain the funds necessary to

pay federal income taxes on a given book of business simply by lowering their operating expenses. Instead, paying

taxes would result in lower after-tax earnings, which would lower the rate at which credit unions retained earnings.

Lower retained earnings, in turn, means that credit unions’ net worth would grow more slowly, and hence credit

unions could experience somewhat lower overall growth.
31

$10 million in assets account for 2 percent of the revenue, although they comprise roughly 50

percent of all credit unions. Using the tables, the revenue effects of other potential thresholds

may be determined.

Table 3-1: Estimated Tax Revenue of Applying Mutual Thrift Tax Rules to Credit Unions:

High Growth Rate Assumption

(Dollar figures are in millions)

Asset Size Category Fiscal Years 2000 - 2004 Fiscal Years 2000 - 2009

Estimated Tax Estimated

Percentage of

Average

Number of

Institutions

Estimated Tax Estimated

Percentage of

Average

Number of

Institutions

Amount Percentage Amount Percentage

Less than $5 million $49 1% 38% $86 1% 35%

$5 - 10 million $89 1% 15% $163 1% 14%

$10 - 20 million $186 3% 12% $329 2% 12%

$20 - 50 million $630 9% 17% $1,281 8% 17%

$50 - 100 million $696 10% 8% $1,569 10% 10%

$100 - $500 million $2,474 36% 9% $5,559 34% 11%

Greater than $500 million $2,688 40% 2% $7,211 45% 2%

Total $6,811 100% 100% $16,200 100% 100%

Source: Treasury estimates using Credit Union Call Report data obtained from Sheshunoff Information Services

One Source. See text for information about the model and underlying assumption used to generate these

estimates.

Revenue estimates using the lower growth rate are shown in Table 3-2. In this case,

credit union tax revenues are estimated to be $6.1 billion between fiscal years 2000 and 2004, or

approximately 10 percent less than with the higher growth rate. For fiscal years 2000 to 2009 the

estimated tax revenue would be approximately $13.7 billion, or 15 percent less than when using

the higher growth forecast. The tax revenue gap between the high and low growth scenarios

widens over time because the growth rate for large credit unions, which has a disproportionate

effect on overall industry growth rates, is approximately one-third less than under the high

growth rate scenario. As with the high growth rate estimate, the vast majority of revenue raised

comes from larger credit unions.
32

Table 3-2: Estimated Tax Revenue of Applying Mutual Thrift Tax Rules to Credit Unions: Low

Growth Rate Assumption

(Dollar figures are in millions)

Asset Size Category Fiscal Years 2000 - 2004 Fiscal Years 2000 - 2009

Estimated Tax Estimated

Percentage of

Average

Number of

Institutions

Estimated Tax Estimated

Percentage of

Average

Number of

Institutions

Amount Percentage Amount Percentage

Less than $5 million $49 1% 39% $89 1% 36%

$5 - 10 million $90 2% 15% $165 1% 14%

$10 - 20 million $209 3% 14% $387 3% 13%

$20 - 50 million $609 10% 16% $1,262 9% 17%

$50 - 100 million $662 11% 8% $1,418 10% 9%

$100 - $500 million $2,236 37% 8% $4,989 36% 9%

Greater than $500 million $2,222 37% 2% $5,410 39% 2%

Total $6,078 100% 100% $13,719 100% 100%

Source: Treasury estimates using Credit Union Call Report data obtained from Sheshunoff Information Services

One Source. See text for information about the model and underlying assumption used to generate these

estimates.

V. Conclusion

In laws enacted in 1913 and 1916, Congress expressly exempted mutual thrifts from

federal corporate income tax. Congress extended that exemption to credit unions in 1937,

although an administrative ruling in 1917 gave credit unions an effective exemption from

taxation. In 1951, Congress decided that mutual thrifts had evolved into direct competitors with

banks and removed the tax exemption in order to provide greater competitive equity between

banks and mutual thrifts.

If Congress decided to remove credit unions’ tax exemption, credit unions would receive

the same treatment under the federal corporate income tax code as do mutual thrifts. We

estimate that removing the exemption would raise between $6.1 billion and $6.8 billion over five

years, and between $13.7 billion and $16.2 billion over ten years.
33

CHAPTER 4

PRESERVING THE GROWTH AND VIABILITY

OF SMALL BANKS

Section 403 of the Credit Union Membership Access Act directed the Treasury

Department to submit a report to Congress containing:

• recommendations, as the Secretary deems appropriate, that would reduce and simplify the tax

burden (1) on insured depository institutions with less than $1 billion in assets and (2) on

banks with assets equal to or in excess of $1 billion, but not greater than $10 billion; and

• any other recommendations that the Secretary deems appropriate that would preserve the

growth and viability of small banks.112

The Administration has, throughout its tenure, taken meaningful steps to preserve the

growth and viability of small banks. Its first efforts came during the first weeks of the

Administration and additional efforts continue to this day. Many of these actions have reduced

the regulatory costs and improved the quality of bank regulation. We believe that we have taken

those actions best tailored to furthering these aims. Thus, we recommend no new policy

initiatives in this area at this time.

We highlight below some of the ways in which the Administration has implemented

policies that promote the growth and viability of small banks, and then address issues

surrounding the taxation of small depository institutions under Subchapter S of the Internal

Revenue Code.

I. Administration Accomplishments

A. The Credit Availability Program

On March 10, 1993, shortly after taking office, the President unveiled the Credit

Availability Program (CAP), which created a better climate for bank lending. At that time, the

country was in the midst of a slow economic recovery, and the CAP improved the availability of

credit, particularly to small- and medium-sized businesses, farms, and low-income communities.

Largely in place within 90 days of the President’s announcement, the CAP addressed: (1) real

estate lending and appraisals; (2) appeals of examination decisions and complaint handling; and

(3) examination processes and procedures.

At that time, some were concerned that costly formal appraisals may have been rendering

otherwise sound loans uneconomical. Three significant changes resulted. First, the bank

regulatory agencies increased from $100,000 to $250,000 the threshold level at or below which

certified or licensed appraisals would not be required for a real estate-related transaction. They

identified additional circumstances, particularly for small business lending, in which appraisals

 

112

 Pub. L. No. 105-219, 112 Stat. 913, 935 (Aug. 7, 1998).
34

are not required. Finally, they permitted renewals and refinancings without an appraisal if there

had been no deterioration in market conditions.

The agencies also revamped their appeals processes to ensure that bankers had a fair and

prompt review of examination disagreements. The OCC and the OTS have each created an

Office of Ombudsman, which manages the appeals process. The OCC has also revamped its

procedures for handling the nearly 15,000 general complaints it receives annually. For example,

it has established a toll-free number and improved its complaint tracking system.

Third, the regulators have begun to coordinate many of their interactions with the

industry. For example, they have determined that examinations will be conducted by the primary

federal regulator. Moreover, the OCC and the FDIC share examination schedules to better

coordinate the supervision of holding companies with both national and state-chartered banks,

and coordinate enforcement actions.

B. Streamlining Compliance with the Bank Secrecy Act

Treasury and the federal banking regulators promulgate regulations to implement the

Bank Secrecy Act, which Congress passed to combat money laundering. Proper enforcement

requires adequate recordkeeping on the part of financial institutions to support federal

prosecutions of money launderers. Working with a Bank Secrecy Act Advisory Group,

composed of 30 representatives of financial institutions and federal and state regulatory and

enforcement officials, Treasury pared down the amount of required recordkeeping. Treasury

eliminated the requirement that institutions record and retain for five years special records of all

cash purchases of travelers checks, bank checks, and cashier’s checks over $3,000. Proposed

regulations that would have required mandatory electronic filing of currency transaction reports

(CTRs), and would have established a mandatory system to “aggregate” cash transactions, were

withdrawn. Treasury also streamlined by 30 percent the CTR, a form long criticized as too

cumbersome by bankers.

C. A-to-Z Review of Regulations

Pursuant to a Presidential directive, each regulatory agency within the government

undertook a line-by-line review of its regulations with the goal of eliminating redundant and

unnecessary requirements, streamlining procedures, and rewriting rules to be more easily

understood. The OCC and OTS have both completed this review and are in the process of

putting their regulations into plain English.

There are concrete examples of the burden-reducing benefits resulting from this intense

review. The OCC and OTS reduced, by six times, the number of lending limit calculations

institutions must perform, requiring quarterly, rather than daily, analyses. The OCC has also

reduced some of its fees and its national bank assessment rate, which covers the cost of

examination and supervision. For example, the fee for establishing a shared automated teller

machine has been reduced from $1,500 to zero, corporate application fees have been reduced by

50 percent, and the national bank assessment rate has been reduced by six percent.
35

D. Refocusing Supervision

Our nation’s thousands of depository institutions vary greatly in size, complexity, and

financial strength. Yet, regulations often ignore these differences by treating all institutions

alike, and relying on generally applicable procedures. This provides institutions with little

regulatory incentive to reduce risk or increase their capacity to manage risk. It also creates

needless regulatory burden and costs when rules are inappropriate, irrelevant, or even

counterproductive as applied in certain instances.

The OCC and OTS have been working diligently to make appropriate differentiations in

their regulations. For example, both bureaus have streamlined the examinations process for

smaller, well-capitalized, well-managed institutions. Materials requested for noncomplex small

national bank examinations have been reduced by nearly 600 percent, from some 200 items (or

more at the examiner’s discretion) to 35 standardized items. Moreover, the streamlined nature of

such examinations is evidenced from the OCC small bank examination handbook, which has

been reduced from 1,216 pages to just over 30 pages. In addition, small, well-capitalized, wellmanaged savings associations need no longer automatically obtain a costly annual independent

audit.

The difficulty of supervising a diverse banking industry has also led regulators to focus

on eliminating and streamlining procedures. The Administration has worked to refocus

supervision on results instead, and to thereby provide institutions with the incentive to perform

well, rather than simply to avoid criticism or follow needless procedures. In this vein, the OCC

revised its examination guidelines to emphasize operational results, such as default rates, rather

than operational procedures, such as loan underwriting.

E. Streamlining CRA Rules

Responding to complaints about how the CRA has been implemented over the years, the

President, in 1993, called on the federal banking agencies to rewrite their CRA rules to stress

performance, not paperwork. In 1995, after one of the most comprehensive joint rule-making

efforts the regulators have ever conducted, the agencies promulgated final regulations,

culminating a lengthy process in which they sought and obtained the input of thousands of

interested parties, including banks, savings associations, trade associations, customers, and

community groups. The regulators received over 6,700 comments in 1993 and over 7,200 in

1994. The new rules provide real incentives for depository institutions to serve all our

communities, and a streamlined, straightforward process for assessing their success.

F. Regulatory Burden Relief Legislation

In 1996, the Administration worked with Congress on regulatory burden relief legislation

and supported the final passage of the Economic Growth and Paperwork Reduction Act. The

Act included nearly 300 pages of regulatory burden relief legislation. Among other things, the

1996 Act streamlined the home mortgage lending process and eliminated numerous unnecessary

regulatory requirements, such as eliminating the need to file a branch application to establish an

ATM.
36

G. Simplifying Small Bank Capital Standards

Most recently, the federal banking agencies published an interagency advance notice of

proposed rulemaking that will lead to simplified capital requirements for small banks.113 The

purpose of the proposal is to develop a simplified capital framework that will reduce the

regulatory burden on smaller non-complex banks and thrifts.

II. Eligibility of Depository Institutions for Taxation Under Subchapter S

In general, U.S. tax law treats corporations and their investors as separate taxable entities.

Corporate earnings are taxed first at the corporate level and again at the shareholder level, as

dividends if the corporation distributes earnings to shareholders, or as capital gains from the sale

of stock. In contrast, the earnings of S corporations are taxed only once at the shareholder level,

whether or not the income is distributed. Corporations that elect Subchapter S status are subject

to certain restrictions on the number of shareholders and capital structure. For example, an S

corporation may not have more than 75 shareholders, all of whom must be U.S. resident

individuals (except for certain trusts and estates) and may issue only one class of stock. Prior to

1996, banks and other depository institutions could not elect S corporation status. A provision of

the Small Business Job Protection Act of 1996 repealed this prohibition.

By the end of 1999, more than 1,260 banks were operating as S corporations. These

institutions represent over 15 percent of U.S. banks but only about 2 percent of banking assets,

suggesting that smaller institutions have been among the first to elect S corporation status. This

strong response by smaller banks suggests that Subchapter S offers considerable advantages in

terms of more favorable tax treatment and lower compliance burdens.

In view of a continuing, and perhaps even accelerating, election of Subchapter S status by

small banks, additional modifications intended to reduce or simplify the tax burden of smaller

banks may be premature at this time. In addition, they may raise tax policy concerns with

respect to their effect on S corporations in other industries and concerns about their potential

effect on the competitive position of all S corporations, including small banks. If policy changes

are considered, however, they should satisfy two broad requirements:

First, any additional measures to simplify the tax treatment of small banks must be crafted

with a recognition that small businesses electing Subchapter S status play a vital role in the U.S.

economy, and that only a small number of these firms are banks. In fact, banks and depository

institutions account for less than one percent of all entities electing Subchapter S status. Thus,

any changes to Subchapter S in order to accommodate small banks must not complicate or

otherwise disrupt the broader effect of Subchapter S to benefit a small number of firms in one

specific industry.

In addition, proposed modifications to Subchapter S must be evaluated with respect to

potential effects on the competitive environment faced by smaller banks. As noted above, the

 

113 65 Fed. Reg. 66,193 (Nov. 3, 2000).
37

first firms to elect Subchapter S treatment have been disproportionately smaller banks. The

expressed intent of the Small Business Job Protection Act of 1996 was to protect the viability of

such institutions; further modifications to Subchapter S that would permit larger banks with

greater access to capital to elect simplified treatment may be inconsistent with this aim.

Unfortunately, some proposals offered in recent years are intended specifically to facilitate the

election of Subchapter S status by larger depository institutions.
38
39

APPENDIX

COMPARISON OF DEPOSITORY INSTITUTION POWERS

AND REGULATORY REQUIREMENTS1

Rule OCC/FDIC/FRB OTS NCUA

Customer Base

Field of membership National banks face no restrictions on the

customers they may serve.

Same as national banks. Federal credit unions may only serve persons

within the field of membership who join the

credit union. 12 U.S.C. § 1759. Federal

credit unions may choose from among three

types of charters: (1) single common bond

(i.e., occupational and associational); (2)

multiple common bond (i.e., more than one

group each having a common bond of

occupation or association); and (3)

community common bond. 63 Fed. Reg.

71,998 (Dec. 30, 1998).

The immediate family and those residing in

the household of one satisfying the common

bond requirement are themselves eligible to

join the credit union, whether or not the

eligible individuals actually join the credit

union. 12 U.S.C. § 1759(e)(1); 63 Fed. Reg.

71,998, 72,027 (Dec. 30, 1998).

 

1

 This table compares statutory and regulatory rules across federally chartered depository institutions (i.e., national banks, federal savings associations,

and federal credit unions), although many of these rules apply to all federally insured depository institutions. However, the table does not attempt to catalogue

all of the authority available to federally chartered depository institutions; rather, it presents a sample that will illustrate how federal credit unions compare with

other federally chartered depository institutions.
40

Rule OCC/FDIC/FRB OTS NCUA

Depository Institution Powers2

Deposits

Checking accounts

(demand deposits)

National banks may offer demand deposits

to any customer. Such accounts may not

earn interest. However, banks may offer

NOW accounts (negotiable order of

withdrawal accounts) to individuals and

nonprofit organizations, but not to

businesses, which may earn interest. The

bank may reserve the right to require at

least seven days notice prior to withdrawal

of funds from such accounts, but such

restrictions are rarely enforced. 12 U.S.C.

§ 24(seventh), 12 C.F.R. §§ 204.130 and

217.3.

Similar to national banks. 12 U.S.C. §

1464(b); 12 C.F.R. part 557,

subpart B and § 561.29.

Federal credit unions may offer to their

members share draft accounts (i.e., demand

deposits). 12 U.S.C. § 1757(6); 12 C.F.R. §

701.35(a).3 Generally, credit unions may

only serve individuals. However,

community credit unions may accept

businesses as members. 63 Fed. Reg. 71,998,

72,037 (Dec. 30, 1998). Similarly, credit

unions that primarily serve predominantly

low-income members may accept deposits

from non-members, including businesses. 12

U.S.C. § 1757(6); 12 C.F.R. § 701.34(a)(1).

Unlike national banks and federal savings

associations, federal credit unions with

businesses as members may pay interest on

business checking accounts.

Time deposits National banks may offer certificates of

deposit, savings accounts, and similar

deposits without significant restrictions.

12 U.S.C. § 24(seventh).

Same as national banks. 12 U.S.C. §

1464(b), 12 C.F.R. part 557,

subpart B.

Federal credit unions may offer share

certificate accounts. 12 U.S.C. § 1757(6); 12

C.F.R. § 701.35(a).

Trust accounts National banks may offer trust and other

fiduciary accounts. 12 U.S.C. §§

Generally the same as national banks,

except that specific permission is

Federal credit unions may not offer trust

services directly, but may do so through

 

2

 This portion of the table primarily addresses those activities in which depository institutions may engage directly. Activities engaged in through

affiliates are discussed elsewhere in this table.

3

 Federal credit unions are member-owned cooperatives. 12 U.S.C. §§ 1752(1) and (5). Therefore, the Federal Credit Union Act refers to member

deposits as member shares, whether the share represents a demand deposit, time deposit, or certificate of deposit. 12 U.S.C. § 1752(5).
41

Rule OCC/FDIC/FRB OTS NCUA

24(seventh) and 92a; 12 C.F.R. part 9. required. 12 U.S.C. § 1464(n). affiliates called Credit Union Service

Organizations (CUSOs). 12 C.F.R. §

712.5(o).

Customer Services

Travel services and

foreign exchange

services

National banks may offer traveler’s checks

and travel information, but may not act

directly as a travel agent. However,

financial subsidiaries may act as a travel

agent. They may also provide directly

foreign exchange services for their

customers, but not for their own account.

OCC Interpretive Letter No. 553, May 2,

1991; Arnold Tours v. Camp, 472 F.2d 427

(1st Cir. 1972); 12 U.S.C. § 24a; 12 C.F.R.

§ 5.39.

Same as national banks. 12 U.S.C. §

1464; FHLBB Op. Gen. Couns., Nov.

24, 1965.

Federal credit unions may offer travelers

checks, 12 U.S.C. § 1757(12), and foreign

exchange services. NCUA Op. Gen. Couns.,

Dec. 9, 1999. Like national banks, federal

credit unions may not act as travel agents

directly, but may do so through CUSOs. 12

C.F.R. § 712.5(n).

Electronic banking

services

National banks may offer any services

electronically that it is otherwise

authorized to offer. 12 C.F.R. § 7.1019.

Same as national banks. 12 C.F.R. §

555.200(a).

Same as national banks. 12 U.S.C. §

1757(17).

Insurance National banks may sell liability, casualty,

automobile, life, health, and accident

insurance on an agency basis from places

of 5,000 or less in population without

restriction on the location of a bank’s

customers. Through a financial subsidiary,

a national bank may engage in general

insurance agency activities without the

restrictions. 12 U.S.C. §§ 92 and 24a; 12

C.F.R. § § 7.1001 and 5.39.

Federal savings associations have

similar powers, but without geographic

restriction. OTS Op. Acting Ch.

Couns., Oct. 17, 1994. Moreover,

through service corporations, federal

savings associations may sell insurance

on an agency basis without geographic

restriction. 12 C.F.R. § 559.4(f)(3).

Federal credit unions may not offer insurance

products directly, but may broker and sell

any type of insurance through a CUSO. 12

C.F.R. § 712.5(g). No geographic restriction

applies to a CUSO’s insurance authority.

See 12 C.F.R. part 712.

Securities brokerage National banks directly and without

registering with the SEC may engage in

many types of securities brokerage

Federal savings associations may only

engage this activity through a service

corporation, and then only on an

Federal credit unions may not broker

securities directly, but may do so through a

CUSO. 12 C.F.R. § 712.5(k).
42

Rule OCC/FDIC/FRB OTS NCUA

activities. 12 U.S.C. §§ 78c(a)(4) and (5). agency basis. 12 C.F.R. § 545.74.

Investment advice and

financial consulting

National banks may provide financial and

investment advisory services, including

advising an investment company. 12

U.S.C. § 24(seventh).

Federal savings associations may offer

certain forms of investment advice, but

only through a service corporation. 12

C.F.R. § 545.74.

Federal credit unions may not provide these

services directly, but may do so through a

CUSO. 12 C.F.R. § 712.5(e).

Securities underwriting National banks may directly, and through

operating subsidiaries, underwrite various

types of securities, including U.S.

government securities, municipal general

obligation and revenue bonds, and assetbacked securities. Financial subsidiaries

may engage in the underwriting of all types

of securities. 12 U.S.C. §§ 24(seventh)

and 24a; 12 C.F.R. parts 1 and 12.

No similar authority. No similar authority.

Mutual fund activities National banks and their operating

subsidiaries may offer a broad range of

administrative and investment advisory

services, serve as custodian and transfer

agent, and broker investment company

shares. Interp. Let. Nos. 406-408.

Through a service corporation, federal

savings associations may sponsor,

advise, and distribute, as well as sell

shares in both proprietary and thirdparty mutual funds. 12 C.F.R. §

545.74.

Federal credit unions may only broker

mutual funds. 12 C.F.R. § 712.5(k).

Real estate brokerage National banks may not engage in real

estate brokerage, but may act as finders.

12 U.S.C. § 29; 12 C.F.R. § 7.1002.

Federal savings associations may

engage in limited real estate brokerage,

but only through a service corporation.

12 C.F.R. § 559.4(e).

Federal credit unions may not engage

directly in real estate brokerage, but may do

so through a CUSO. 12 C.F.R. § 712.5(p).

Derivatives activities National banks may engage in a variety of

derivatives activities as a financial

intermediary or to control or reduce risk.

12 U.S.C. § 24(seventh).

Similar to national banks. 12 C.F.R. §

563.172.

Federal credit unions may purchase or sell

derivatives only to manage the risk of loss

through a decrease in value of its

commitments to originate real estate loans at

specified interest rates by entering into long

put positions on Ginnie Mae, Fannie Mae,

and Freddie Mac securities. 12 C.F.R. §§

703.110(a) and 701.21(i)(2).

Asset securitization National banks may directly securitize Same as national banks. No similar authority.
43

Rule OCC/FDIC/FRB OTS NCUA

their assets. 12 U.S.C. § 24(seventh); 12

C.F.R. § 1.3(g).

Lending: Non-Commercial

Lending limits4Lending limits protect the safety and

soundness of banks by preventing

excessive lending to one person or to

related persons. National banks follow

federal statutory lending limits, while state

banks follow state law in this regard.

A national bank’s total outstanding credit

to one borrower generally may not exceed

15 percent of the bank’s capital and

surplus. An additional 10 percent is

permissible if fully secured by readily

marketable collateral (i.e., financial

instruments and bullion salable under

ordinary market conditions with reasonable

promptness at a fair market value

determined by quotations based upon

actual transactions on an auction or

similarly available daily bid and ask price

market). 12 U.S.C. § 84(a); 12 C.F.R. part

32 (OCC).

State lending limits generally range from

10% to 20% of capital and surplus.

William A. Lovett, Banking and Financial

Institutions Law, West, 1992, pp. 156-157.

Section 84 of the National Bank Act

applies to savings associations in the

same manner and to the same extent as

it applies to national banks. 12 U.S.C.

§ 1464(u)(1); 12 C.F.R. § 560.93.

In addition, a savings association may

make loans to one borrower of up to

$500,000 even if its general lending

limit is less than that amount. Certain

other special rules provide additional

exceptions. 12 U.S.C. § 1464(u)(2).

A federal credit union’s lending to any one

member is limited to 10 percent of

unimpaired capital and surplus. 12 U.S.C.

§ 1757(5)(A)(x). According to the NCUA,

this amounts to 10% of the amount equal to a

federal credit union’s net worth plus its

deposits.

The term unimpaired capital and surplus has

not been defined in the lending limits

regulation,5 although the Federal Credit

Union Bylaws define paid-in and unimpaired

capital and surplus as a federal credit union’s

shares and undivided earnings. Art. XVIII,

§§ 1(g) and (h).

In addition, the Federal Credit Union Act

refers to member shares as equity, 12 U.S.C.

§ 1757(6). Based on this and the definition

of paid-in capital and surplus, the NCUA

interprets the applicable lending limit as

including a federal credit union’s deposits

(shares) as equity for purposes of this limit.

As a result, the limit for federal credit unions

far exceeds that applicable to other federal

depository institutions, which are only based

 

4

 The lending limits apply to all forms of lending by all federally-chartered depository institutions unless specifically exempted.

5

 A similar term, “paid-in and unimpaired capital and surplus” is defined, for purposes of Central Liquidity Facility rules, as generally consisting of the

paid-in balance of share accounts and deposits plus undivided earnings. 12 C.F.R. § 725.2(o). However, the regulations governing federal credit union lending

limits contain no definition.
44

Rule OCC/FDIC/FRB OTS NCUA

on a proportion of capital, rather than on a

proportion of the combination of capital and

deposits.

Federal credit unions also face restrictions on

commercial lending. The aggregate amount

of business loans outstanding to any one

member may not exceed 15 percent of

reserves or $100,000, whichever is higher.

12 C.F.R. § 723.8. The aggregate amount of

member business loans made by a credit

union may not exceed 1.75 times the credit

union’s net worth or 12.25% of the credit

union’s total assets. 12 U.S.C. § 1757a(a);

12 C.F.R. § 723.16. Exceptions to the

aggregate loan limit apply to: (1) lowincome credit unions, or those participating

in the Community Development Financial

Institutions program; (2) those chartered for

the purpose of making business loans; and

(3) those with a history of primarily making

such loans. 12 U.S.C. § 1757a(b); 12 C.F.R.

§ 723.17. Generally, federal credit union

loans may not have terms that exceed 12

years, except for residential real estate loans.

12 U.S.C. § 1757(5).

Usury A national bank may generally charge as

much interest as a bank chartered by the

state in which the national bank is located.

12 U.S.C. § 85.

Similar to national banks. 12 U.S.C. §

1463(g)(1).

Federal credit unions may not charge more

than 18% on extensions of credit to their

members. 12 U.S.C. § 1757(5)(A)(vi)(I); 12

C.F.R. § 701.21(c)(7)(ii)(B).

Loans secured by

residential real estate

National banks may make these loans

subject to OCC regulation. 12 U.S.C. §

24(seventh); 12 C.F.R. part 34.

Same as national banks. 12 U.S.C. §§

1464(c)(1)(B), (E), and (R).

Federal credit unions may make long term

real estate loans only for a member’s

principal residence and for a term not to

exceed 40 years. 12 U.S.C. § 1757(5)(A)(i);

12 C.F.R. § 701.21(g)(1). In addition, any

second mortgage may not exceed 20 years.
45

Rule OCC/FDIC/FRB OTS NCUA

12 U.S.C. § 1757(5)(A)(ii); 12 C.F.R. §

701.21(f)(2).

Unsecured home

improvement loans

National banks may make these loans. 12

U.S.C. § 24(seventh).

Same as national banks. 12 U.S.C. §

1464(c)(1)(J); 12 C.F.R. § 560.30.

Same as national banks, except that such

loans may not exceed 20 years. 12 U.S.C. §

1757(5); 12 C.F.R. § 701.21(f)(3).

Unsecured residential

construction loans

National banks may make these loans. 12

U.S.C. § 24(seventh).

Federal savings associations may make

these loans subject to a limit equal to

the greater of 5% of assets or 100% or

capital. 12 U.S.C. § 1464(c)(3)(C).

No similar authority.

Consumer loans National banks may make these loans. 12

U.S.C. § 24(seventh).

Federal savings associations may make

these loans as long as the aggregate

amount does not exceed 35% of assets

when combined with commercial paper

and corporate debt securities. 12 U.S.C.

§ 1464(c)(2)(D).

Same as national banks, except for the 12-

year term limit. 12 U.S.C. § 1757(5); 12

C.F.R. § 701.21(a).

Credit card loans National banks may make these loans. 12

U.S.C. § 24(seventh).

Same as national banks. 12 U.S.C. §

1464(c)(1)(T).

Same as national banks, except for the 12-

year term limit. 12 U.S.C. § 1757(5); 12

C.F.R. § 701.21(a).

Overdraft loans National banks may make these loans. 12

U.S.C. § 24(seventh).

Similar to national banks. 12 U.S.C. §

1464(c)(1)(A).

Same as national banks, except for the 12-

year term limit. 12 U.S.C. § 1757(5); 12

C.F.R. § 701.21(c)(3).

Lending: Commercial

Commercial loans National banks may make these loans. 12

U.S.C. § 24(seventh).

Federal savings associations may make

these loans subject to a limit of 20% of

total assets, provided that any amount

over 10 percent of assets consists of

small business loans. 12 U.S.C. §

1464(c)(2)(A); 12 C.F.R. § 560.30.

Federal credit unions may provide business

loans to their members. The aggregate limit

on outstanding business loans is the lesser of

1.75 times the credit union’s net worth or

12.25% of the credit union’s total assets. 12

U.S.C. § 1757a(a);12 C.F.R. § 723.16.

Construction and

development loans

National banks may make these loans. 12

C.F.R. part 34 (secured); 12 U.S.C. §

Federal savings associations may make

unsecured construction loans, subject to

Federal credit unions may make member

business loans to finance the acquisition or
46

Rule OCC/FDIC/FRB OTS NCUA

24(seventh) (unsecured). a limit equal to the greater of total

capital or 5% of total assets. They may

also make loans secured by nonresidential real estate, up to a limit of

400% of capital. 12 U.S.C. §§

1464(c)(2)(B) and 1464(c)(3)(C).

construction of income-producing property.

Such loans must not exceed 15% of net

worth, and the borrower must have at least a

35% equity interest in the project. 12 C.F.R.

§ 723.3.

Leasing

Leasing National banks may acquire personal

property for the purpose of leasing it,

provided that the lease qualifies as a net,

full-payout6 lease. The bank’s recovery of

its investment and costs depends upon the

residual value of the property. Any

unguaranteed portion of the estimated

residual value must not exceed 25% of the

original cost of the property to the lessor.

Any amount guaranteed may exceed 25%

of the original cost if the guarantor has

sufficient resources and is not an affiliate

of the bank. 12 U.S.C. § 24(seventh); 12

C.F.R. §§ 23.20 and 23.21.

Under separate statutory authority, national

banks may engage in lease financing (with

minimum lease periods of 90 days) up to a

limit of 10% of assets. 12 U.S.C. §

24(tenth); 12 C.F.R. §§ 23.10-23.12.

National banks may purchase and lease

Federal savings associations may

engage in lease financing of personal

property subject to a limit of 10% of

assets, without regard to residual value.

12 U.S.C. § 1464(c)(2)(C); 12 C.F.R. §

560.41(d).

Federal savings associations may also

engage in lease financing that amounts

to the functional equivalent of lending.

Such leases may be for residential real

estate, non-residential real estate,

commercial, business, corporate, or

agricultural purposes. These leases

must be net, full-payout leases; and

(2) the amount invested counts towards

the appropriate limit on the particular

type of lending (e.g., commercial leases

must be counted towards the limits on

commercial lending). 12 C.F.R. §

560.41(c).

Federal credit unions lack express authority

to engage in lease financing. However, they

may engage in lease financing of personal

property, provided that such leases are the

functional equivalent of secured loans for

personal property. Thus, federal credit

unions must enter into only net, full-payout

leases, and they operate under rules similar

to those of national banks for their implied

leasing authority. 65 Fed. Reg. 34,581 (May

31, 2000) (codified at 12 C.F.R. part 714).

Federal credit union CUSOs may engage in

lease financing of personal property without

these limitations. 12 C.F.R. § 712.5(h).

 

6

 Under a net lease, the institution bears no obligation to service, repair, maintain, replace or insure the leased property. 12 C.F.R. § 23.2(f). With a

full-payout lease, the institution reasonably expects to realize the return of its investment in the leased property, as well as estimated costs of financing. 12

C.F.R. § 23.2(e). For federal savings associations, a full-payout lease also requires that the estimated cost of financing the property over the term of the lease

does not exceed 25% of the original cost of the property to the savings association. 12 C.F.R. § 560.41(b)(2). Under these leases, an institution’s return comes

from the periodic lease payments, tax benefits, and the residual value of the property.
47

Rule OCC/FDIC/FRB OTS NCUA

real estate only under special

circumstances, such as the purchasing and

leasing of municipal buildings. 12 C.F.R.

§ 7.1000 and part 23.

Investments

U.S. government

securities and state and

local securities

Without limit, national banks may invest in

securities issued or guaranteed by the

United States, any U.S. agency, or by any

state or local general obligation. 12 U.S.C.

§ 24(seventh); 12 C.F.R. §§ 1.2 and 1.3.

Subject to a 10% of capital limit on the

holdings of any one obligor, national banks

may invest in state and local obligations

(that are not general obligations) and

municipal revenue bonds. 12 U.S.C. §

24(seventh); 12 C.F.R. §§ 1.2 and 1.3.

Same as national banks. 12 U.S.C. §§

1464(c)(1)(C) and (H).

Similar to national banks. Federal credit

unions face various regulatory limitations.

12 U.S.C. §§ 1757(7)(B) and (K); 12 C.F.R.

§§ 703.100 and 703.110.

Government-sponsored

enterprise securities

Without limit, national banks may invest in

the securities of Fannie Mae, Freddie Mac,

the FHLBank System, and Ginnie Mae. 12

U.S.C. § 24(seventh); 12 C.F.R. §§ 1.2 and

1.3.

Same as national banks. 12 U.S.C. §§

1464(c)(1)(D), (E), (F), (M), (N), and

(P); 12 C.F.R. § 566.1(g)(3).

Same as national banks. 12 U.S.C. §

1757(7)(E).

Residential mortgagebacked securitiesWithout limit, national banks may invest in

securities issued or guaranteed by Fannie

Mae, Freddie Mac, Ginnie Mae, or any

U.S. agency, and in privately issued

mortgage-backed securities if rated in one

of the two highest rating categories. 12

U.S.C. § 24(seventh); 12 C.F.R. §§ 1.2 and

1.3.

Same as national banks. 12 U.S.C. §§

1464(c)(1)(E), (F), and (R).

Generally, federal credit unions may invest

in mortgage-backed securities. However,

they may not invest in stripped mortgagebacked securities, residual interests in

CMOs/REMICS, or commercial mortgagerelated securities, unless issued by certain

government sponsored enterprises. 12

U.S.C. § 1757(7);12 C.F.R. § 703.110(c).

Other asset-backed

securities

Subject to a 25% of capital limit on the

holdings of any one obligor, national banks

Federal savings associations may invest

in small business related securities (i.e.,

Federal credit unions may invest in such

securities if issued by certain government
48

Rule OCC/FDIC/FRB OTS NCUA

may invest in non-residential asset-backed

securities (e.g., securities backed by credit

card, auto loans, or small business loans).

12 U.S.C. § 24(seventh); 12 C.F.R. §§ 1.2

and 1.3.

securities rated in one of the four

highest rating categories that represents

an interest in loans or leases of personal

property evidencing the obligations of a

small business. 12 U.S.C. §

1464(c)(1)(S).

Federal savings associations may also

invest in commercial real estate

mortgage-backed securities. 12 U.S.C.

§ 1464(c)(1)(R).

sponsored enterprises. 12 U.S.C. § 1757(7).

Mutual fund shares National banks may purchase for their own

account shares in mutual funds, provided

the national bank complies with certain

investment limitations that would be

applicable to the underlying investments of

the mutual fund portfolio. 12 U.S.C. § 24

(seventh); 12 C.F.R. § 1.4(e).

Federal savings associations may

purchase for their own accounts,

without limit, the shares of any

registered open-end mutual fund,

provided the fund invests exclusively in

assets that federal savings associations

may hold without limitation. 12 U.S.C.

§ 1464(c)(1)(Q).

Federal credit unions may invest without

limit in any mutual fund that may itself

invest in assets and engage in transactions

permissible for a federal credit union. 12

C.F.R. § 703.100(d).

Corporate debt

securities

National banks may invest in corporate

debt under certain limited conditions.

Among other things, such debt must be of

investment grade and exposure to any one

issuer may not exceed 10% of the bank’s

capital. 12 U.S.C. § 24(seventh); 12

C.F.R. §§ 1.2 and 1.3.

Federal savings associations may invest

in corporate debt. Among other things,

such debt must be rated in one of the

four highest rating categories by a

national statistical rating organization,

and may not exceed 35% of the

institution’s assets when combined with

commercial paper and consumer loans.

12 U.S.C. §§ 1464(c)(1)(M) and

(c)(2)(D), and 1831e(d); 12 C.F.R. §

560.40.

Federal credit unions may invest in zero

coupon bonds, provided that they mature no

later than 10 years after the settlement date.

12 C.F.R. § 703.110(d).

Affiliates7

Operating subsidiary National banks may establish or acquire Substantially the same as national Federal credit unions may own as a

 

7

 Federal credit unions cannot be owned by a holding company, but may only exist in a cooperative form, 12 U.S.C. § 1753, and they may not own

other depository institutions, 12 U.S.C. § 1757(7)(I). Therefore, the discussion of affiliates does not include holding companies.
49

Rule OCC/FDIC/FRB OTS NCUA

operating subsidiaries, which may engage

only in activities that the national bank

may engage in directly. The bank must

own more than 50% of the voting stock of

its operating subsidiary or otherwise

controls the subsidiary. 12 C.F.R. § 5.34.

banks. 12 C.F.R. §§ 559.3(c) and

(e)(1).

subsidiary or jointly with others a credit

union service organization (CUSO). Federal

credit unions may only invest up to 1% of

their capital in such entities, 12 U.S.C. §

1757(7)(I), and may only lend an amount up

to 1% of their capital to such entities. 12

U.S.C. § 1757(5)(D).

CUSOs may engage in a wide range of

activities, only some of which a federal

credit union may engage in directly.

However, all CUSO activities must be

approved by the NCUA Board. 12 U.S.C. §

1757(5)(D). Therefore, CUSOs may engage

only in those activities specifically permitted

in regulation. Any additional activities

require an amendment to the regulation. 12

C.F.R. § 712.7. CUSO activities include

providing ATM services, data processing,

securities brokerage, insurance agency, travel

advisory service, financial consulting, and

personal property leasing. 12 C.F.R. § 712.5.

Service companies or

corporations

National banks may invest up to 10% of

their capital in any one service company

and no more than 5% of their assets in all

such companies, after giving notice to the

OCC.

Such companies may provide only to

depository institutions certain limited

services, such as check and deposit posting

and sorting, preparation and mailing of

checks and statements, and accounting

services, without being subject to approval

requirements and other limitations.

If a state and a national bank jointly own

the company, the company may only

Federal savings associations may invest

up to 2% of their assets (and in some

cases, up to 3%) in service corporations

engaged in any activity reasonably

related to the activities of federal

savings associations. Such activities

include real estate development, real

estate management for third parties,

and selling insurance on an agency

basis. 12 U.S.C. § 1464(c)(4)(B); 12

C.F.R. § 559.4.

CUSOs may engage in some of these

activities, but generally may not engage in

4(c)(8) activities. 12 C.F.R. § 712.5.
50

Rule OCC/FDIC/FRB OTS NCUA

provide those products and services that

the state and national banks both could

provide. However, the company may not

accept deposits.

In serving any customers, including

depository institutions, a company may

engage in any nonbanking activity (with

the approval of the Federal Reserve and

subject to certain other limitations) that the

Federal Reserve has determined to be so

closely related to banking (for a bank

holding company or its subsidiary) or to

managing or controlling banks as to be a

proper incident thereto (under section

4(c)(8) of the Bank Holding Company

Act). Such activities include securities

brokerage, owning a savings association,

financial advisory services, acting as a

futures commission merchant,

underwriting and dealing in government

obligations, and engaging in insurance

brokerage pursuant to the town of 5,000

authority. 12 U.S.C. § 1861 et seq.; 12

C.F.R. § 5.35.

Financial subsidiary A well capitalized and well managed

national bank may control or invest in a

financial subsidiary, subject to certain

other limitations and safeguards. A

financial subsidiary may engage: (1) in

any activity closely related to banking (as

determined under section 4(c)(8) of the

Bank Holding Company Act); (2) in any

activity in the United States that a bank

holding company may engage in outside of

the United States; and (3) in the

underwriting, distributing, and dealing in

of all types of securities; (4) in selling

See service companies above. No similar provision.
51

Rule OCC/FDIC/FRB OTS NCUA

insurance nationwide; and (5) in any

activity that the Treasury, in consultation

with the Federal Reserve, determines to be

financial in nature or incidental to a

financial activity. Financial subsidiaries

may also engage in activities permissible

for operating subsidiaries. 12 U.S.C. §

24a; 12 C.F.R. § 5.39.

Transactions with

affiliates

Specific limits apply to certain covered

transactions between a bank and its

affiliated companies (e.g., loans;

guarantees; and other extensions of credit

to, and purchases of assets from, those

companies). Such transactions with any

one affiliate may not exceed 10% of the

bank’s capital. Such transactions with all

affiliates may not exceed 20% of capital.

Generally, high-quality collateral must

fully secure all such transactions. 12

U.S.C. § 371c.

Most transactions between a bank and its

affiliates must also be conducted at arm’s

length. 12 U.S.C. § 371c-1. These

statutory provisions also apply to statechartered non-member banks. 12 U.S.C. §

1828(j). Affiliates in this context do not

generally include bank subsidiaries.

However, these affiliate restrictions do

apply to transactions between banks and

their “financial subsidiaries,” subject to

certain exceptions. 12 U.S.C. § 371c(e).

Same as national banks. 12 U.S.C. §

1468(a).

In addition, a savings association may

not make any extension of credit to any

affiliate engaged in activities not

permissible for a bank holding

company. 12 U.S.C. § 1468(a)(1)(A).

Federal credit unions do not have affiliate

transaction restrictions similar to those

applicable to other depository institutions.

However, a specific conflict of interest

provision prohibits a person who serves as a

credit union official or in senior

management, or any immediate family

members, from receiving any compensation

from a CUSO. All transactions with the

organization must be conducted at arm’s

length. 12 C.F.R. § 712.8.

A federal credit union may invest up to 1

percent of its total paid-in and unimpaired

capital and surplus in a CUSO. 12 U.S.C. §

1757(7)(I). In addition, a credit union may

lend another 1 percent of its total paid-in and

unimpaired capital and surplus to a CUSO.

12 U.S.C. § 1757(5)(D). According to the

NCUA, unimpaired capital includes deposits,

less any losses that may have been incurred

for which there are no reserves or which

have not been charged against undivided

earnings. Federal Credit Union Bylaws,

Article XVIII, Section 1(g).

Safety and Soundness Rules
52

Rule OCC/FDIC/FRB OTS NCUA

Capital

Definition of capital Total capital consists of core capital (Tier

1) and supplementary capital (Tier 2).

Tier 1 capital includes common stock,

noncumulative perpetual preferred stock,

and minority interests in the equity

accounts of consolidated subsidiaries.

Tier 2 includes cumulative perpetual

preferred stock, the allowance for loan and

lease losses, and hybrid instruments that

combine debt and equity features. Tier 2

also includes subordinated debt and limited

amounts of unrealized gains on equity

securities.

Deductions from capital include goodwill

and other intangibles and investments in

certain subsidiaries. 12 C.F.R. part 3, app.

A (OCC); 12 C.F.R. part 325, app. A

(FDIC); 12 C.F.R. part 208, app. A (FRB).

Similar, but with some minor

variations. 12 C.F.R. part 567. For

example, in the case of mutual savings

associations, Tier 1 capital also

includes certain nonwithdrawable

accounts and pledged deposits. 12

C.F.R. § 567(a)(iv).

Credit union capital consists of “net worth,”

that is, retained earnings, as determined

under generally accepted accounting

principles. For low-income designated credit

unions only, “net worth” includes uninsured

secondary capital accounts, which are

subordinate to the claims of creditors,

shareholders, and the National Credit Union

Share Insurance Fund. 12 U.S.C.

§ 1790d(o)(2). This statutory definition of

“net worth” reflects that credit unions are

not-for-profit entities that lack the means to

raise capital available to other federallyinsured depository institutions, for example,

by selling shares to the public.

Capital adequacy Banks must meet two minimum capital

requirements: (1) a minimum leverage

ratio, generally requiring 4% Tier 1 capital

to total assets; and (2) a total risk-based

capital ratio of 8% capital to risk-weighted

assets. 12 C.F.R. part 3, app. A (OCC); 12

C.F.R. § 325.103(b)(2) (FDIC); 12 C.F.R.

§ 208.43(b)(2) (FRB).

The risk-based system assigns each class of

assets a risk weight of 0%, 20%, 50%, or

100%. The 0% category includes assets

such as cash and direct claims on OECD

governments (e.g., securities). The 20%

Savings associations must generally

meet the same basic capital

requirements as banks. 12 U.S.C. §§

1464(t)(1)(C), (2)(C); 12 C.F.R. §

567.5.

To be “adequately capitalized,” a credit

union must maintain net worth of at least 6%,

as measured by the ratio of net worth to total

assets. 12 U.S.C. § 1790d(c)(1)(B). This

statutory framework prescribes five net

worth categories (i.e., well capitalized,

adequately capitalized, undercapitalized,

significantly undercapitalized, and critically

undercapitalized). 65 Fed. Reg. 8,584 (Feb.

18, 2000) (to be codified at 12 C.F.R. part

702).

To be “well capitalized,” a credit union must

have at least 7% net worth. Credit unions
53

Rule OCC/FDIC/FRB OTS NCUA

category includes most claims on banks

and securities issued by the federal

government or its agencies that are not

backed by the full faith and credit of the

United States. The 50% category includes

some types of mortgage loans and certain

mortgage-backed securities. Also includes

most derivative transactions. The 100%

category—the standard risk category—

includes typical commercial loans. Offbalance sheet items are also factored into

the four risk categories. 12 C.F.R. part 3,

app. A (OCC); 12 C.F.R. part 325, app. A

(FDIC); 12 C.F.R. part 208, app. A (FRB).

Tier 2 capital may count toward meeting

the 8% risk-based capital requirement, but

only up to 50% of the total capital

requirement. Id.

that have a net worth ratio of less than 7%

are required, on a quarterly basis, to set aside

quarterly as net worth an amount equal to at

least 0.1% of their total assets. 12 U.S.C.

§ 1790d(e)(1); 65 Fed. Reg. 8,586 (Feb. 18,

2000) (to be codified at 12 C.F.R. §

702.201(a)).

A risk-based capital requirement applies to

credit unions that meet the definition of a

complex credit union (i.e., any credit union

with more than $10 million in assets and

whose risk-based net worth requirement

exceeds 6%). 65 Fed. Reg. 44,950 (Jul. 20,

2000) (to be codified at 12 C.F.R. part 702).

The risk-based requirement takes into

account material risks against which the 6%

net worth ratio, the level required to be

adequately capitalized, does not provide

adequate protection. 12 U.S.C. § 1790d(d).

To determine whether a credit union is

complex, it must calculate its risk-based net

worth requirement by combining eight riskbased components, each consisting of a risk

portfolio multiplied by a corresponding risk

factor.8 A credit union whose net worth ratio

does not meet its risk-based requirement has

the option of substituting three specific riskbased components with any of three

corresponding alternative components that

may reduce its risk-based requirement.

Regulatory capital No similar authority. No similar authority. Federal credit unions serving predominantly

low-income members may offer uninsured

 

8

 For example, the total value of long-term real estate loans in excess of 25% of the institution’s portfolio (i.e., real estate loans and lines of

credit−excluding member business loans and lines of credit−that will not mature or reprice within five years). 12 C.F.R. § 702.104(b).
54

Rule OCC/FDIC/FRB OTS NCUA

regulatory capital accounts to businesses and

organizations, whether they are members or

not. Such capital must be issued for at least

five years, may not be redeemable prior to

maturity, must be subordinate to all other

claims, and must be available to cover losses.

12 C.F.R. §701.34.

Prompt corrective

action

All FDIC-insured depository institutions

are subject to a regulatory system of

prompt-corrective action: a set of statutory

provisions aimed at resolving capital

deficiencies before they grow into large

problems. The system classifies depository

institutions into five capital categories (i.e.,

well capitalized, adequately capitalized,

undercapitalized, significantly

undercapitalized, and critically

undercapitalized). These capital categories

are defined in terms of four capital

measures: (1) a total risk-based capital

ratio; (2) a Tier 1 risk-based capital ratio;

(3) a leverage ratio; and (4) a statutory

tangible equity ratio of 2%, below which a

bank is deemed to be critically

undercapitalized. To be well capitalized, a

bank must have a total risk-based capital

ratio of 10%, Tier 1 risk-based capital ratio

of 6%, and a leverage ratio of 5%. 12

U.S.C. § 1831o; 12 C.F.R. part 6 (OCC);

12 C.F.R. part 325, subpart B (FDIC); 12

C.F.R. part 208, subpart B (FRB).

Same as national banks. 12 C.F.R. part

565.

Similar to the rules of the banking agencies.

65 Fed. Reg. 8,560 (Feb. 18, 2000) (to be

codified at 12 C.F.R. part 702).

Audit Requirements

General audit

requirements

All FDIC-insured institutions must submit

annual reports to their appropriate federal

banking regulator on their financial

Same as national banks. 12 U.S.C. §

1831m(a).

A credit union’s board of directors must

appoint a supervisory committee. 12 U.S.C.

§ 1761b(5). The supervisory committee
55

Rule OCC/FDIC/FRB OTS NCUA

condition and management. 12 U.S.C. §

1831m(a).

must conduct, or hire competent parties to

conduct, an annual audit, depending on the

credit union’s size. The supervisory

committee must also verify that the

institution’s financial statements accurately

and fairly represent the institution’s financial

condition and that management practices and

procedures sufficiently protect member

assets. 12 U.S.C. § 1761d; 12 C.F.R.

§§ 715.3 and 715.4.

Independent audit

requirements

Each large FDIC-insured institution must

establish an independent audit committee

and obtain an annual independent audit of

its financial statements by an independent

public accountant in accordance with

generally accepted auditing standards.

12 U.S.C. §§ 1831m(d), (g)(1). This

requirement does not apply to institutions

with less than $500 million in assets. 12

C.F.R. §§ 363.1 et seq.

Same as national banks. However, the

OTS also requires any savings

association with an unsatisfactory

CAMEL rating (3, 4, or 5) to obtain an

independent audit. 12 C.F.R.

§ 562.4(b)(1).

Similar with respect to credit unions having

assets of $500 million or more. If a credit

union with more than $10 million in assets,

but less than $500 million, chooses to obtain

a financial statement audit, the audit must be

performed in a manner consistent with the

accountancy and licensing laws of the

appropriate jurisdiction. 12 U.S.C.

§ 1782(a)(6)(D); 12 C.F.R. part 715.

Miscellaneous

Frequency of safety and

soundness examinations

All FDIC-insured institutions, must

generally be examined at least once each

year. However, an 18-month examination

cycle is permissible for certain healthy,

well-capitalized and well managed

institutions with less then $250 million in

assets. 12 U.S.C. § 1820(d).

Same as national banks. No statutory annual examination requirement

applies, but since 1985 the NCUA has had a

policy of examining federal credit unions

annually, and allowing exceptions only with

the approval of the agency’s Executive

Director. Federally insured state-chartered

credit unions are examined by their

chartering state at least once every 18

months. If these institutions are troubled,

however, they may be examined every 120

days either by the NCUA alone or jointly by

the NCUA and the state. NCUA, Examiner’s

Guide (Alexandria, VA: NCUA, 1996).

Liquidity Depository institutions may obtain Same as national banks. Savings Same as national banks. Credit unions can
56

Rule OCC/FDIC/FRB OTS NCUA

emergency liquidity from the Federal

Reserve discount window, as well as shortterm adjustment credit or longer-term

seasonal credit. 12 C.F.R. part 201.3 and

§§ 347a and 347b.

associations must also comply with

separate statutory liquidity

requirements. 12 U.S.C. § 1465.

also obtain liquidity from the Central

Liquidity Facility and from corporate credit

unions. 12 U.S.C. §§ 1795-1795k; 12 C.F.R.

parts 725 and 704.

The NCUA recently provided general

guidance to federal credit unions concerning

both balance sheet liquidity management and

contingency funding. Letter to Credit

Unions 00-CU-13.

Change in officials An FDIC-insured institution that does not

meet its capital requirement or is otherwise

in troubled condition must notify its federal

regulator of any new senior executive

officer or board member at least 30 days

before such additions become effective.

Notice must also be given if the agency

determines it is appropriate in connection

with its review of a plan required under the

prompt corrective action provisions of 12

U.S.C. § 1831i. The regulator then may

disapprove the new addition before the end

of the notice period. 12 U.S.C. § 1831i.

Same as national banks. 12 U.S.C.

§ 1831i.

Similar to national banks. Regional

directors, who have delegated authority to

approve or disapprove changes, must comply

with slightly different time frames. 12

C.F.R. § 701.14. In addition, the notification

of such personnel changes must be made if

the institution has been chartered for less

than two years. 12 U.S.C. § 1790a.

Bond coverage All officers and employees of a national

bank must have adequate fidelity coverage.

12 C.F.R. § 7.2013.

Each savings association must maintain

fidelity bond coverage for each

director, officer, employee, and agent

who has control over or access to cash,

securities, or other property of the

savings association. 12 C.F.R.

§ 563.190.

Federal credit union employees and officials

must be covered by fidelity bonds. In

addition, federal credit unions must have

general insurance to cover losses due to

vandalism, theft, holdups, etc. 12 U.S.C. §§

1761a, 1761b(2), 1766(h); 12 C.F.R. part

713, § 741.201.

Management interlocks The Depository Institution Management

Interlocks Act prohibits a management

official from serving two nonaffiliated

depository institutions where such

management interlocks would be antiSame as national banks. 12 C.F.R. part

563f.

Similar to national banks. However, the

statute exempts interlocking arrangements

between two credit unions and, therefore, in

the case of credit unions, only restricts

interlocks between credit unions and other
57

Rule OCC/FDIC/FRB OTS NCUA

competitive. 12 U.S.C. § 3201 et seq.; 12

C.F.R. part 26 (OCC); 12 C.F.R. part 348

(FDIC); 12 C.F.R. part 212 (FRB).

depository institutions. 12 U.S.C. § 3204(3);

12 C.F.R. § 711.4(c).

Enforcement

Bank Secrecy Act The Bank Secrecy Act (BSA) requires

financial institutions to file reports and

records of certain transactions where they

may have a high degree of usefulness in

criminal, tax, or regulatory investigations

or proceedings. 31 U.S.C. § 5311 et seq.

The Treasury Department promulgates

regulations concerning the BSA that apply

to all financial institutions. Id. Each

federal banking regulator has

promulgated regulations to ensure BSA

compliance. 12 C.F.R. part 21, subpart B

(OCC); 12 C.F.R. part 326, subpart B

(FDIC); 12 C.F.R. § 208.63.

Same as national banks. 12 C.F.R. §

563.177.

Same as national banks, except that the

NCUA has also promulgated guidelines for

BSA compliance. 12 C.F.R. part 748.

Cease and desist orders If a bank or an institution-affiliated party9

has engaged or will engage in an unsafe or

unsound practice or violate a statute,

regulation, written agreement, then the

regulator may issue a notice of charges

stating the alleged violation and setting a

time for a hearing to determine if the

agency should issue a cease-and-desist

order. The hearing must occur 30 to 60

days after the notice is issued. 12 U.S.C. §

Same as national banks. 12 U.S.C. §

1818(b)(1); 12 U.S.C. §§1818(b)(6)-

(7).

Same as national banks. 12 U.S.C. §

1786(e)(1).

 

9

 Institution-affiliated parties include: directors, officers, employees, and agents of the institution; anyone who has or is required to file a change-incontrol notice; a shareholder, joint venture partner, or consultant who participates in the conduct of the institution’s activities; and any independent contractor

who knowingly or recklessly participates in any violation of statute or regulation, any breach of fiduciary duty, or any unsafe or unsound practice which has or

may harm the institution in a significant fashion. 12 U.S.C. § 1813(u).
58

Rule OCC/FDIC/FRB OTS NCUA

1818(b)(1).

The remedies sought in the order may limit

an institution’s activities or functions or

require the institution to take affirmative

action to address the problems cited in the

order (e.g., restitution, growth restrictions,

disposition of loans or assets, and hiring

qualified officers or employees). 12

U.S.C. §§1818(b)(6)-(7).

Temporary cease-anddesist orderIf the regulator determines that the activity

covered in a notice of charges may weaken

the bank or compromise its depositors

before the proceedings described above

can be completed, it can issue a temporary

cease-and-desist order, which becomes

effective immediately and remains

effective until the issue has been resolved.

12 U.S.C. § 1818(c)(1).

Same as national banks. 12 U.S.C. §

1818(c)(1).

Same as national banks. 12 U.S.C. §§

1786(e)(3)-(4), (f)(1).

Permanent cease-anddesist orderAfter a hearing on a notice of charges, the

regulator may issue a permanent ceaseand-desist order against the bank. The

order becomes effective 30 days after

issuance (except that a consensual order

becomes effective immediately). 12

U.S.C. §§ 1818(b)(1)-(2).

Same as national banks. 12 U.S.C. §§

1818(b)(1)-(2).

Same as national banks. 12 U.S.C. §§

1786(e)(1)-(2).

Removal and

prohibition authority

If the regulator determines that an

institution-affiliated party has, directly or

indirectly, engaged in prohibited practices,

the regulator may permanently remove the

party from office or prohibit the party from

any further participation in the affairs of

any insured depository institution.

Prohibited practices include violations of

statutes, regulations, cease-and-desist

orders, and written conditions or

Same as national banks. 12 U.S.C. §

1818(e)(1); 12 U.S.C. §§ 1818(e)(3)-

(4).

Similar to national banks. 12 U.S.C. §§

1786(g)(1), (3), (4).
59

Rule OCC/FDIC/FRB OTS NCUA

agreements; unsafe or unsound practices;

and breaches of fiduciary duty. Such

actions must also: (1) harm or threaten to

harm the institution, prejudice or

potentially prejudice depositors, or result in

financial gain to the party; and (2) involve

dishonesty or demonstrate willful or

continuing disregard for the institution’s

safety and soundness. 12 U.S.C. §

1818(e)(1). A notice of intent to remove or

prohibit must describe the charge and set a

hearing date that must occur 30 to 60 days

after issuance. If appropriate, the regulator

may suspend the party before the hearing

until the matter is resolved. 12 U.S.C. §§

1818(e)(3)-(4).

Civil money penalties For violations of statute or regulation,

permanent or temporary orders, or written

conditions or agreements, the regulator

may require an institution, or a person

affiliated with the institution, to pay a civil

money penalty of up to $5,000 for each

day the violation continues. The agency

may impose a penalty of up to $25,000 a

day for such violations, or for recklessly

engaging in an unsafe or unsound practice,

or breaches of a fiduciary duty, if those

acts: (1) are part of a pattern of

misconduct; (2) are likely to cause the

institution a significant loss; or (3) result in

financial gain to the person committing the

act. If the acts described above are

committed knowingly, the daily fine may

be up to $1 million for individuals or the

lesser of $1 million or 1% of assets for

institutions. 12 U.S.C. §§ 1818(i)(1),

(2)(A)-(D).

Same as national banks. 12 U.S.C. §§

1818(i)(1), (2)(A)-(D).

Same as national banks. 12 U.S.C.

§§1786(k), (2)(A)-(D), (H).
60

Rule OCC/FDIC/FRB OTS NCUA

Consumer Protection

Truth in Savings Act The Truth in Savings Act (TISA) requires

depository institutions to disclose in a

standard form the terms of deposit

accounts so that customers can

meaningfully compare these terms across

institutions. 12 U.S.C. § 4301 et seq.

Depository institutions must also disclose

to their existing customers changes in the

terms of deposit accounts. 12 U.S.C. §

4305(c).

TISA directs the Federal Reserve to

promulgate regulations applicable to banks

and savings associations, but permits the

other regulators to promulgate rules for

enforcing TISA. 12 U.S.C. § 4308(a); 12

C.F.R. part 230.

Same as national banks. 12 U.S.C. §

4305(c).

Same as national banks. 12 U.S.C. §

4308(a); 12 C.F.R. part 230.

Same as national banks. 12 U.S.C. § 4305(c).

TISA directs the NCUA to promulgate rules

“substantially similar” to those promulgated

by the Federal Reserve. 12 U.S.C. § 4311;

12 C.F.R. part 707. Non-automated credit

unions have been exempted from TISA. 12

U.S.C. § 4313(6).

Truth in Lending Act The Truth in Lending Act (TILA) requires

creditors to disclose the cost and terms of

credit to promote the informed use of

credit by consumers, establishes remedies

for consumers injured by violations of the

law, and provides a process for resolving

billing disputes. 15 U.S.C. § 1601 et seq.;

12 C.F.R. § 226.1(b).

TILA directs the Federal Reserve to

promulgate regulations, but permits the

other regulators to promulgate rules for

enforcing TILA. 15 U.S.C. § 1604. The

regulations of the Federal Reserve apply to

all creditors, including credit unions. 15

U.S.C. § 1602(f).

Same as national banks. 15 U.S.C. §

1601 et seq.; 12 C.F.R. § 226.1(b).

Same as national banks. 15 U.S.C. §

1602(f).

Same as national banks. 15 U.S.C. § 1601 et

seq.; 12 C.F.R. § 226.1(b).

Same as national banks. 15 § 1602(f).
61

Rule OCC/FDIC/FRB OTS NCUA

Equal Credit

Opportunity Act

The Equal Credit Opportunity Act (ECOA)

seeks to ensure the availability of credit to

all creditworthy applicants regardless of

race, color, religion, national origin, sex,

marital status, or age. ECOA achieves this

end by directing creditors to notify

applicants of action taken on their

application, and by retaining records of

credit applications. 15 U.S.C. § 1691 et

seq.; 15 C.F.R. § 202.1(b).

ECOA directs the Federal Reserve to

promulgate regulations applicable to all

creditors, including credit unions, but

permits the other regulators to promulgate

rules for enforcing ECOA. 15 U.S.C. §§

1691a(e), 1691b; 12 C.F.R. part 202.

Same as national banks. 15 U.S.C. §

1691 et seq.; 12 C.F.R. § 202.1(b).

Same as national banks. 15 U.S.C. §

1691c(a)(1)(C)(3); 12 C.F.R. § 701.31.

Fair Debt Collection

Practices Act

The Fair Debt Collection Practices Act

(FDCPA) seeks to eliminate the abusive

practices of debt collectors. 15 U.S.C. §

1692(e). FDCPA achieves this end by,

among other things, regulating the ability

of the debt collector to communicate with

consumers, by circumscribing the manner

in which debt collectors may obtain

information from consumers, prohibiting

harassment by debt collectors, and by

providing a procedure within which

consumers may dispute the validity of a

debt. 15 U.S.C. § 1692 et seq.

The Federal Trade Commission generally

enforces the FDCPA with respect to

nonbank institutions, 15 U.S.C. § 1692l(a),

while the federal depository institution

regulators enforce it with regard to their

Same as national banks. 15 U.S.C. §

1692 et seq.

Same as national banks. 15 U.S.C. §

1692l(a); 15 U.S.C. § 1692l(b).

Same as national banks. 15 U.S.C. §

1692l(b)(3).
62

Rule OCC/FDIC/FRB OTS NCUA

regulated entities. 15 U.S.C. § 1692l(b).

Electronic Fund

Transfer Act

The Electronic Fund Transfer Act (EFTA)

establishes the rights, liabilities, and

responsibilities of participants in electronic

fund transfer systems (e.g., telephone,

ATM, or computer transactions). 15

U.S.C. § 1693.

The Federal Reserve promulgates EFTA

regulations applicable to any financial

institution that holds an account belonging

to a consumer or issues an access device

and agrees to provide EFT services. The

Federal Trade Commission generally

enforces the EFTA with respect to nonbank

institutions, while the federal depository

institution regulators enforce it with regard

to their regulated entities. 15 U.S.C. §§

1693b(a), 1693a(8); 12 C.F.R. part 205.

Same as national banks. 15 U.S.C. §

1693.

Same as national banks. 15 U.S.C. §§

1693b(a), 1693a(8); 12 C.F.R. part 205.

Same as national banks. 15 U.S.C. §

1693a(8).

Home Mortgage

Disclosure Act

The Home Mortgage Disclosure Act

(HMDA) requires certain lenders to collect

loan data to determine, among other things,

whether financial institutions serve the

housing needs of their areas and to identify

possible discriminatory lending practices.

12 U.S.C. § 2801; 12 C.F.R. § 203.1(b).

Financial institutions must report to their

supervisory agency data about home

purchase and home improvement loans

they originate or purchase, or for which

they receive applications. 12 U.S.C. §

2803; 12 C.F.R. § 203.1(c).

Based on these data, the Federal Financial

Institutions Examination Council prepares

Same as national banks. 12 U.S.C. §

2801; 12 C.F.R. § 203.1(b);

Same as national banks. 12 U.S.C. §

2803; 12 C.F.R. § 203.1(c).

Same as national banks. 12 U.S.C. §

2803(f); 12 C.F.R. § 203.1(d).

Same as national national banks. 12 U.S.C. §

2801; 12 C.F.R. § 203.1(b);

Same as national banks. 12 U.S.C. § 2803;

12 C.F.R. § 203.1(c).

Same as national banks. 12 U.S.C. § 2803(f);

12 C.F.R. § 203.1(d).
63

Rule OCC/FDIC/FRB OTS NCUA

disclosure statements illustrating lending

patterns by area, age of housing stock,

income level, race, and sex. 12 U.S.C. §

2803(f); 12 C.F.R. § 203.1(d).

HMDA generally applies to banks, savings

associations, credit unions, and certain

mortgage banks. 12 U.S.C. § 2802; 12

C.F.R. § 203.2(e).

HMDA directs the Federal Reserve to

promulgate any necessary regulations. 12

U.S.C. § 2804(a).

The federal depository institution

regulators enforce the statute for those

institutions they oversee. 12 U.S.C. §

2804(b).

Same as national banks. 12 U.S.C. §

2802; 12 C.F.R. § 203.2(e).

Same as national banks. 12 U.S.C. §

2804(a).

Same as national banks. 12 U.S.C. §

2804(b).

Same as national banks. 12 U.S.C. § 2802;

12 C.F.R. § 203.2(e).

Same as national banks. 12 U.S.C. § 2804(a).

Same as national banks. 12 U.S.C. § 2804(b).

Community

Reinvestment Act

The Community Reinvestment Act (CRA)

encourages insured depository institutions

to help meet the credit needs of the local

communities in which they are chartered.

12 U.S.C. § 2901(b). Each federal banking

agency maintains regulations applicable to

the institutions they oversee. 12 U.S.C. §

2905.

Same as national banks. 12 U.S.C. §

2901(b).

Federal credit unions are not subject to CRA.

However, a recent NCUA regulation requires

any federal credit union expanding,

converting to, or chartering a community

credit union to prepare a written plan for

serving its entire community. Existing

community credit unions are expected to

have their plans in place by December 31,

2001. 65 Fed. Reg. 64,512 (Oct. 27, 2000).

Consumer Leasing Act The Consumer Leasing Act (CLA) requires

those leasing personal property (e.g., cars,

furniture, or appliance) to disclose in a

uniform manner the terms of the lease.

The CLA applies to leases exceeding four

months. The CLA also requires advertised

lease terms to be accurate, and it limits the

amount of any balloon payments in

consumer lease transactions. 15 U.S.C. §§

1667-1667c; 12 C.F.R. § 213.1(b).

Same as national banks. 15 U.S.C. §

1667-1667c; 12 C.F.R. § 213.1(b).

Same as national banks. 15 U.S.C. § 1667-

1667c; 12 C.F.R. § 213.1(b).
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Rule OCC/FDIC/FRB OTS NCUA

The Federal Reserve has the authority to

promulgate regulations concerning the

CLA. 15 U.S.C. § 1604(a).

Same as national banks. 15 U.S.C. §

1604(a).

Same as national banks. 15 U.S.C. § 1604(a).

Expedited Funds

Availability Act

The Expedited Funds Availability Act

(EFAA) provides schedules detailing when

depository institutions must make

deposited funds available for withdrawal

and requires the disclosure of funds

availability schedules. 12 U.S.C. § 4001 et

seq.; 12 C.F.R. part 229.

The Federal Reserve has the authority to

promulgate regulations regarding the

EFAA. 12 U.S.C. § 4008.

Same as national banks. 12 U.S.C. §

4001 et seq.; 12 C.F.R. part 229.

Same as national banks. 12 U.S.C. §

4008.

Same as national banks. 12 U.S.C. § 4001 et

seq.; 12 C.F.R. part 229.

Same as national banks. 12 U.S.C. § 4008.

Privacy National banks must disclose their privacy

policies and practices, including their

sharing of customer information with

affiliated and non-affiliated entities.

Before sharing consumers’ non-public

personal information with non-affiliated

third parties, banks must provide

consumers with an opportunity to “opt

out.” However, banks may share consumer

information with service providers for such

purposes as marketing the institution’s

products and services. 15 U.S.C. § 6802.

Each depository institution regulator bears

the responsibility for implementing and

enforcing these requirements. 15 U.S.C.

§§ 6804 and 6805.

Joint regulations have been published by

the banking regulators. 12 C.F.R. part 40

(OCC); 12 C.F.R. part 332 (FDIC); 12

C.F.R. part 216 (FRB).

Same as national banks. 15 U.S.C. §

6802; 12 C.F.R. part 573.

Substantially the same as national banks. 15

U.S.C. § 6802; 12 C.F.R. part 716.
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Rule OCC/FDIC/FRB OTS NCUA

Real Estate Settlement

Procedures Act

The Real Estate Settlement Procedures Act

(RESPA) seeks to improve the disclosure

of settlement costs to home buyers,

eliminate kickbacks or referral fees that

may unnecessarily increase the costs of

certain settlement services, and reduce the

amount of funds home buyers must place

in escrow to cover real estate tax and

insurance costs. 12 U.S.C. § 2601 et seq.

The Department of Housing and Urban

Development, in consultation with the

Department of Veterans’ Affairs, the

FDIC, and the OTS promulgates

regulations prescribing the form in which

settlement costs must be disclosed. 12

U.S.C. § 2603(a); 24 C.F.R. § 3500.8.

Federal depository institution regulators

may enforce RESPA with respect to their

regulated entities. 24 C.F.R. § 3500.19.

Same as national banks. 12 U.S.C. §

2601 et seq.

Same as national banks. 12 U.S.C. §

2603(a); 24 C.F.R. § 3500.8.

Same as national banks. 12 U.S.C. § 2601 et

seq.

Same as national banks. 12 U.S.C. § 2603(a);

24 C.F.R. § 3500.8.