20438 Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules

personnel, and with developing systems

to evaluate the information. Since it is

unclear how many institutions will

adopt these procedures, it is not

possible to estimate the costs to

institutions in general.

V. Paperwork Reduction Act

In accordance with section 3507 of

the Paperwork Reduction Act of 1980

(44 U.S.C. 35; 5 CFR 1320.13), there is

no reporting or recordkeeping burden

associated with Regulation B or this

amendment.

List of Subjects in 12 CFR Part 202

Aged, Banks, Banking, Civil rights,

Consumer protection, Credit,

Discrimination, Federal Reserve System,

Marital status discrimination, Penalties,

Religious discrimination, Reporting and

recordkeeping requirements, Sex

discrimination.

Certain conventions have been used

to highlight the proposed revisions to

the part. New language is shown inside

bold-faced arrows, while language that

would be removed is set off with boldfaced brackets.

For the reasons set forth in the

preamble, the Board proposes to amend

12 CFR part 202 as set forth below:

PART 202—EQUAL CREDIT

OPPORTUNITY (REGULATION B)

1. The authority citation for part 202

continues to read as follows:

Authority: 15 U.S.C. 1691–1691f.

2. Section 202.5 is amended as

follows:

a. Redesignating paragraph (b)(3) as

paragraph (b)(5);

b. Adding a new paragraph (b)(3);

c. Adding a new paragraph (b)(4);

d. Revising paragraph (d)(3); and

e. Removing paragraph (d)(5).

The revisions and addition read as

follows:

§ 202.5 Rules concerning taking of

applications.

* * * * *

(b) * * *

(3) flPermitted inquiries and

collection of information. A creditor

may request applicants to provide their

race, color, sex, religion, and national

origin as part of the application.

Applicants may not be required to

supply the requested information. If an

applicant chooses not to supply the

information, the creditor may not note

or otherwise record the race, color, sex,

religion, and national origin of the

applicant based on visual observation,

surname or other means.

(4) Residency and immigration status.

A creditor may inquire about an

applicant’s permanent residency and

immigration status.

(5)fi * * *

* * * * *

(d) * * *

(3) Sex. [A creditor shall not inquire

about the sex of an applicant.] An

applicant may be requested to designate

a title on an application form (such as

Ms., Miss, Mr., or Mrs.) if the form

discloses that the designation of a title

is optional. An application form shall

otherwise use only terms that are

neutral as to sex.

* * * * *

[(5) Race, color, religion, national

origin. A creditor shall not inquire about

the race, color, religion, or national

origin of an applicant or any other

person in connection with a credit

transaction. A creditor may inquire

about an applicant’s permanent

residency and immigration status.]

* * * * *

By order of the Board of Governors of the

Federal Reserve System, April 20, 1995.

Jennifer J. Johnson,

Deputy Secretary of the Board.

[FR Doc. 95–10230 Filed 4–25–95; 8:45am]

BILLING CODE 6210–01–P

NATIONAL CREDIT UNION

ADMINISTRATION

12 CFR Parts 704 and 741

Corporate Credit Unions;

Requirements for Insurance

AGENCY: National Credit Union

Administration (NCUA).

ACTION: Proposed rule.

SUMMARY: The proposed rule would

strengthen the capital of corporate credit

unions, reduce the risk of their

investments, and improve asset-liability

management. It would return corporate

credit unions to their primary functions

of serving as liquidity centers and

service providers and would protect the

safety and soundness of the corporate

credit union system.

DATES: Comments must be postmarked

or posted on NCUA’s electronic bulletin

board by June 26, 1995.

ADDRESSES: Mail comments to Becky

Baker, Secretary of the Board, National

Credit Union Administration, 1775

Duke Street, Alexandria, VA 22314–

3428. Send comments to Ms. Baker via

the bulletin board by dialing 703–518–

6480.

FOR FURTHER INFORMATION CONTACT: H.

Allen Carver, Director, Office of

Corporate Credit Unions (703) 518–

6640, at the above address.

SUPPLEMENTARY INFORMATION:

A. Background

The corporate credit union system

consists of 44 corporate credit unions

serving the nation’s 13,000 natural

person credit unions, and U.S. Central

Credit Union serving the corporate

credit unions. Corporate credit unions

provide liquidity, investment, and

payment services to credit unions. Over

the years, natural person and corporate

credit unions have gradually evolved

into quite different types of institutions.

In 1977, NCUA first issued Part 704,

which dealt specifically with corporate

credit unions. However, it was not until

1992 that the agency broadened Part 704

to address a broad array of corporate

credit union matters. See 57 FR 22626

(May 28, 1992). The regulation has been

in effect for several years, during a time

of great change in the credit union

industry. The Agency has had an

opportunity to see how the regulation

has worked and to consider how it

could be improved. Last year, the Board

amended Section 704.12, governing

representation issues. See 59 FR 59357

(Nov. 17, 1994). After consulting closely

with the corporate credit union

industry, credit union trade

associations, and outside experts, the

Board is now proposing to amend most

of the remaining sections of Part 704

and to add several new sections.

Before analyzing the specific

proposed changes, the Board wishes to

draw the attention of interested parties

to a gross inequity in the corporate

credit union system. NCUA oversight

and supervision of corporate credit

unions has grown in complexity in the

past few years, resulting in additional

costs for NCUA’s corporate credit union

program. Although NCUA examines all

of the corporate credit unions, only

federally chartered corporates currently

pay an operating fee to NCUA. Federally

insured corporate credit unions

maintain a deposit of one percent of

insured shares with the NCUSIF, but

corporates have minimal insured shares,

and the income generated is not

significant. Of course, non federally

insured corporate credit unions neither

pay operating fees to NCUA nor

maintain deposits with the NCUSIF.

The Board is concerned that the

additional monetary burden on federal

credit unions puts them at a competitive

disadvantage and is considering ways to

level the playing field. One option is to

assess all corporate credit unions an

annual examination fee, to be based on

the expenses associated with the NCUA

corporate program. Alternatively, the

Board could abolish the operating fee

for federal corporate credit unions,
Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules 20439

requiring natural person credit unions

to make up the difference. Since

corporate credit unions benefit natural

person credit unions, it may be

appropriate to ask the latter to pay for

the whole system. The Board requests

comment on these options.

B. Section-by-Section Analysis

Section 704.1—Scope

Part 704 applies directly to all

federally insured corporate credit

unions. It applies to non federally

insured corporate credit unions, via Part

703 of the Rules and Regulations, if

such credit unions accept shares from

federally chartered credit unions. To

clarify the application of Part 704, the

Board is proposing to amend the Scope

section so that it states both that the

regulation applies to all federally

insured corporate credit unions, and

that non federally insured corporate

credit unions must agree, by written

contract, to adhere to the regulation and

submit to NCUA examination as a

condition of receiving funds from

federally insured credit unions.

The Board considered deleting from

the proposed rule Section 704.1(b),

which sets forth its authority to waive

a requirement of Part 704. In the few

years that the provision has been in

effect, NCUA has been deluged with

requests for waivers. The Board is

concerned that corporate credit unions

may have received the impression that

compliance with the rule is optional

and that waivers are granted as a matter

of course. The Board wishes to

emphasize that corporate credit unions

are expected to comply with the rule.

The Board has determined to retain

Section 704.1(b) in the proposed rule,

however, to make clear its authority, in

extraordinary circumstances, to waive

provisions of the regulation.

The Board proposes to add a sentence

to Section 704.1(b) regarding statechartered credit unions. Where a state

law provision is also contained in Part

704, and a state-chartered corporate

wishes to request a waiver of that

provision, the corporate must obtain

state approval of the waiver before

requesting a waiver from NCUA.

Section 704.2—Definitions

Capital

The Board is proposing to revise the

definition of capital. The revised

definition encompasses primary capital

and secondary capital share accounts

upon which notice has not been given.

These terms are defined later in this

Section. The current definition includes

each of the balance sheet accounts that

comprise primary capital. As these

accounts are also listed in the definition

of primary capital, it is not necessary to

list them under capital.

Commitment

The Board is proposing to delete the

phrase ‘‘or lease financing receivables’’

from the definition of ‘‘commitments,’’

as corporate credit unions generally do

not enter into lease financing

arrangements.

Corporate Service Organization (CSO)

Currently, corporate credit unions can

invest in and loan to credit union

service organizations (CUSOs) as

defined in Section 701.27 of the NCUA

Rules and Regulations. Section 701.27

was written with natural person credit

unions in mind and contains a broad list

of permissible activities, many of which

the Board believes are inappropriate for

corporate CUSOs. Accordingly, the

Board is proposing to create a new term

and establish new rules for such

organizations. They would be called

‘‘corporate service organizations

(CSOs)’’ and would be limited to serving

only the corporate credit unions that

have invested in or loaned to the CSO

and/or the members of such corporate

credit unions. Thus, a CSO wholly

owned by ABC Corporate Credit Union

could serve only ABC and its member

credit unions. If the CSO received a loan

from DEF Corporate Credit Union, it

could serve ABC and its member credit

unions and DEF and its member credit

unions. The Board believes that this

restriction would preserve the integrity

of field of membership requirements.

The Board is also proposing that a

CSO’s services be limited to data and

item processing, wire transfers, record

retention and storage, securities

brokerage services, investment advisory

services, and trust services. The Board

is concerned that some corporate

CUSOs currently are performing

services that have nothing to do with

the daily activities of corporate credit

unions, such as shared branching

services and home banking.

The Board is also proposing to require

that a CSO be chartered as a corporation

under state law.

Embedded Options

Embedded options are a common

feature in many investment securities.

Mortgage backed securities, federal

agency structured notes, and many other

corporate obligations have features such

as maturity calls, principal

prepayments, periodic and lifetime

interest rate caps, and conversion

factors, over which the investor has no

control. The fact that these options can

be exercised by the issuer (or mortgage

holder) and not the investor raises

concerns for the Board.

These features entail substantial risks

for investors that do not properly

understand and evaluate how these

options impact the performance of the

investment. The function of a matched

book strategy is to immunize the effects

that changing interest rates will have on

the economic value of assets and

liabilities. If the characteristics of an

asset are not replicated in the

corresponding source of funds, the

integrity of the match is compromised.

This is especially true for assets which

have conditional cash flows that are

linked to the level of interest rates and

other market factors.

One example of an investment with

conditional cash flows is mortgage

backed securities. Mortgage backed

securities are impacted by the behavior

of the underlying mortgage holders

whose loans make up the securities. If

they elect to pay off or refinance their

mortgages, the securities will likewise

pay down. The investor has no control

over this action. Prepayment risk has a

substantial impact on the market value

and liquidity of an instrument and the

uncertainty of the cash flow behavior

makes these securities especially

difficult to match.

Many investors were caught by

surprise during the rate upswing in

1994 because the market values of their

securities were adversely impacted far

more than they had anticipated. The

embedded options such as prepayment

extension and caps on floating rate

instruments caused a serious threat to

the liquidity and solvency of many

credit unions. The risk associated with

such securities cannot be ignored and it

must be factored into the matching

strategies of corporate credit unions.

This is imperative because corporate

credit unions must ensure that the

viability of the income, liquidity and net

market value of the matched book

balance sheet is not jeopardized.

Identically Matched

The Board recognizes that it is not

possible for corporate credit unions to

perfectly match all shares and

certificates to identical assets because

there sometimes exists an immaterial

difference in dollar amount, the accrual

methods, or the precise maturity date.

To be substantiated as immaterial, such

minute differences cannot have the

effect of causing any significant

exposure to changing spread

performance or the net market value of

the match. The integrity of the matched

book depends upon how substantially

close the match is with regard to such

factors as the dollar amounts, rate reset
20440 Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules

features, final maturities, and embedded

options.

Long-Term Investment; Short-Term

Investment

Section 704.6 of the current regulation

frequently uses the phrases ‘‘long-term

(initial maturity over 1 year)

investments’’ and ‘‘short-term (initial

maturity of 1 year or less) investments.’’

In the interests of simplifying the

regulation, the proposed rule would

simply define, for the purpose of

investment ratings, a ‘‘long-term

investment’’ as one having an initial or

expected maturity greater than one year

and a ‘‘short-term investment’’ as one

having an initial or expected maturity of

one year or less.’’ These definitions

apply only to investment ratings in

Section 704.5, which sets forth

corporate credit union investment

authority in the proposed rule. ‘‘Longterm’’ and ‘‘short-term’’ have different

meanings in the context of asset-liability

management.

Market Value of Portfolio Equity

(MVPE)

MVPE is designed to calculate the risk

that changing interest rates will have on

a corporate credit union’s capital. The

traditional practice of measuring

interest rate risk sensitivity was the

static Gap model. With the introduction

in recent years of more dynamic income

simulation models, a more sophisticated

and precise calculation of income (and

capital) at risk is possible. The evolution

of asset/liability management

techniques has led to a greater

understanding of how changing interest

rates impact not only earnings but

capital as well.

The Board recognizes that, like any

estimation, the validity of the MVPE is

dependent upon the quality of

assumptions and integrity of the data

going into the calculation. If the MVPE

is intended to capture true mark-tomarket risk of capital, the discount rates

in the net present value calculations

must reflect any credit, liquidity, or

option premiums that are inherent in a

specific asset or liability.

The development of simulation

models that calculate changes in net

worth for given changes in interest rates

has changed the way many risk

managers regard interest rate sensitivity.

The MVPE calculation is significant

because it is a measure that captures

risk over a more long term horizon than

net interest income (NII), and as such,

it serves as a better early warning

detection system. Where net interest

income calculations typically focus on

income over the next 12–24 months,

MVPE captures the long-term economic

risk that is inherent in the balance sheet.

It is possible for an institution’s current

earnings to hold steady over the near

term as the mark-to-market of the

balance sheet is rapidly deteriorating. If

a risk manager only focuses on earnings,

the risk of capital depletion may go

unnoticed.

MVPE is intended to show how the

economic values of both sides of the

balance sheet will change in relation to

one another as interest rates change.

One need only look at the toll of the

1994 bear market to understand the

ramifications of ignoring the risk of

capital depletion. The Board is therefore

compelled to ensure that all liquidity

providers be cognizant of the risk

exposures they take with regard to their

capital and liquidity positions.

Many institutions have borrowed

short-term funds to buy long-term

assets. The inducement is typically a

steep yield curve that provides an

instant spread opportunity and quick

income. The contribution of retained

earnings to capital is a favorable

objective but the risk of mismatched

assets and liabilities can easily produce

a situation where the market takes all

the benefits away faster than the income

was produced. The ability to withstand

a liquidity crisis rests on core solvency.

Maintaining core solvency, on a markto-market basis, in all probable interest

rate environments is imperative, and

MVPE is a method by which oversight

authorities can police the capital at risk.

An institution that has negative

capital on a mark-to-market basis cannot

meet the demands or obligations of a

liquidity crisis, and it is for this reason

that the Board desires to expand the risk

measurement techniques employed by

corporate credit unions so as to detect

unacceptable exposures of risk at the

earliest opportunity and mandate an

appropriate course of corrective action

whenever necessary.

The MVPE calculation serves to

inform risk takers of what the stakes are

before the adverse market changes

occur. By employing a ‘‘what if’’

scenario approach, risk managers can

observe the changes in MVPE to

determine the cost of entertaining

certain risk exposures. It is a dynamic

approach that allows the oversight

authorities to know how much is at

stake and to respond before problems

arise.

Net Interest Income

The standard measure of risk in

income simulation calculations is the

variability of net interest income, from

‘‘most likely’’ expectations, for given

changes in interest rates. The

relationship between interest bearing

assets and liabilities is subject to

adverse change when market rates rise

and fall. The ability to capture the

variability of returns that results from

changing rates is widely regarded as a

fundamental tool for managing interest

rate risk.

The policy makers at corporate credit

unions need to place limitations upon

the amount of income that is subject to

interest rate risk. Net interest income

simulation is useful for understanding

what variables will impact earnings and

it allows the user to subject the balance

sheet to severe rate stress tests and

balance sheet composition changes.

‘‘What if’’ analysis is essential for

anticipating the damage that will result

if rates move contrary to the corporate

credit union’s forecast. Since credit

unions cannot predict interest rates, the

risk of positioning the balance sheet for

a specific purpose must be measured in

a variety of interest rate scenarios. A net

interest income simulation provides a

better means for forecasting the

potential risk to income posed by

changing rates. Like MVPE, it helps

senior management and the board of

directors to determine if the levels of

potential risk are acceptable.

Overnight

The integrity of the corporate credit

union system rests on its ability to repay

member funds, other than PCSAs and

SCSAs, upon demand and without

delay. A large portion of the funds in

the system is in overnight accounts, and

the bulk of those funds should remain

immediately available to meet all

contingent member needs. Since

overnight transactions might span

several days when a weekend or holiday

is involved, the term ‘‘overnight’’ is

recognized to mean from one business

day to the next.

Penalty for Early Withdrawal

Market-based penalties on shares,

deposits and liabilities are important

because they protect corporate credit

unions from the replacement risk that

results when an early withdrawal by a

member credit union can only be

replaced by a higher cost alternative.

This risk is tantamount to selling an

investment security on the secondary

market. Corporate credit unions are

financial intermediaries that should not

absorb the risk caused by members

seeking an early redemption.

Member credit unions will have an

economic incentive to request early

redemption when reinvestment

prospects exceed early withdrawal

penalties. Unless the penalties are

assessed on a contemporaneous markto-market basis, the corporate will have
Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules 20441

to absorb the difference between the

penalty and the replacement cost. While

members may not behave in a perfect

economic fashion (calculating the breakeven point), the risk exposure is still

significant. The incorporation of markto-market penalties is consistent with

the principle of running a matched

book.

Permanent Capital Share Account

(PCSA)

The Board recognizes that it may be

difficult for some corporate credit

unions to reach the capital levels

required under proposed Section 704.12

in the timeframes provided. The reports

of the General Accounting Office and

the Corporate Credit Union Study

Committee both propose the use of a

form of nonredeemable membership

shares to assist, in the short-term,

corporate credit unions to attain

minimum capital goals. Accordingly,

the Board is proposing to create a type

of membership share that would be at

risk, would not be redeemable without

written concurrence of NCUA, and

would pay non cumulative dividends.

Because of these elements of

permanency, up to 50 percent of

primary capital could consist of PCSAs.

The Board requests comment on the

criteria NCUA should use to determine

when PCSAs may be redeemed.

PCSAs would be limited to credit

unions within the corporate credit

union’s field of membership, would not

be subject to insurance by the NCUSIF

or other deposit insurer, and could not

be used to collateralize borrowings.

PCSAs would be available to absorb

losses in the event of a deficit in the

corporate credit union’s other primary

capital accounts. In the event of

liquidation of a corporate credit union,

PCSAs would be payable only after

satisfaction of all liabilities.

A corporate credit union would be

required to adequately disclose the

terms and conditions of PCSAs to each

subscriber. A standard form for such

disclosure is provided in the regulation.

Primary Capital

Currently, primary capital is defined

as all corporate statutory and regular

reserves and undivided earnings. The

Board is proposing to amend the

definition to have primary capital

consist of statutory reserves, undivided

earnings, other reserves (excluding the

allowance for loan losses and

accumulated gains/losses on availablefor-sale securities), net income/loss, and

permanent capital share accounts

(PCSAs). No more than 50 percent of

primary capital would be permitted to

be comprised of PCSAs. The proposed

regulation would provide for several

benchmarks that are tied to the level of

the corporate credit union’s primary

capital.

Rated

Section 704.6 of the current regulation

frequently requires that a security be

rated at a certain level ‘‘by an SECrecognized rating agency,’’ which is

defined in § 704.2. In the interests of

simplifying the regulation, the proposed

rule would simply define ‘‘rated’’ to

mean ‘‘rated by an SEC-recognized

rating agency,’’ which would then be

defined.

Secondary Capital Share Account

(SCSA)

The current regulation introduced the

concept of membership capital share

deposits (MCSDs), which are subject to

certain restrictions in order to qualify as

secondary capital. The Board is

proposing to retain this concept in a

new form called secondary capital share

accounts (SCSAs). As with PCSAs,

SCSAs would be limited to credit

unions within the corporate credit

union’s field of membership, would not

be subject to insurance by the NCUSIF

or other deposit insurer, could not be

used to collateralize borrowings, and in

the event of liquidation of a corporate

credit union, would be payable only

after satisfaction of all liabilities.

In order for an SCSA to count as

capital, it would have to have a

minimum notice of withdrawal of two

years. The Board weighed several

options in establishing the notice

period. The Board believes that the one

year notice that currently exists for

MCSDs is too short. If a corporate credit

union experienced problems, all of its

secondary capital could be depleted in

12 months. This is often not enough

time to resolve problems, and a total

depletion of secondary capital could

threaten a corporate credit union’s

continued viability. The Board believes

that a two year notice period would

serve to preserve capital, yet allow

maneuverability on the part of member

credit unions. Individual corporates

would be free to set longer notice

periods if they wished.

The Board also proposes that SCSAs

be available to absorb losses in the event

of a deficit in the corporate credit

union’s primary capital. SCSAs could be

used not only if a corporate credit union

were liquidated, but also to cover any

losses in a continuing corporate credit

union that has depleted its level of

primary capital.

The Board is concerned that all the

requirements and conditions of SCSAs

are adequately disclosed to each

member credit union. Therefore,

specific disclosure at the time of the

opening of an SCSA, and annual

disclosure thereafter, is provided in the

regulation, along with standard forms

that may be used by the corporate credit

unions.

The Board notes that SCSAs are the

only permitted form of secondary

capital in the proposed rule. Currently,

secondary capital consists of MCSDs

and term subordinated debt. A review of

the corporate credit unions determined

that none had in fact used term

subordinated debt as a way to build

secondary capital. In light of this, and

the Board’s belief that it is more

appropriate to build capital through a

corporate credit union’s members, the

proposed rule would not include term

subordinated debt in secondary capital

and would delete any reference to it in

the regulation. Since SCSAs would be

the only component of secondary

capital, the proposed rule would simply

refer to SCSAs instead of secondary

capital.

Undivided Earnings

The Board is proposing to revise the

definition of ‘‘undivided earnings’’ to

remove the term ‘‘corporate reserves,’’

as that term is not used in the proposed

rule.

United States Government or its

Agencies; United States GovernmentSponsored Corporations and Enterprises

The Board is proposing to delete the

reference to Appendix C from these

definitions and to delete current

Appendix C. Rather than having a fixed

list of agencies and enterprises, which

may become erroneous as entities are

created, dissolved, or changed, the

Board wishes to simply present the

definition of government agencies and

enterprises and place the responsibility

of determining an entity’s status on the

corporate credit union.
20442 Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules

Adjusted Trading; Bailment for Hire

Contract; Cash Forward Agreement;

Collateralized Mortgage Obligation;

Facility; Federal Funds Transaction;

Forward Rate Agreement; Futures

Contract; Immediate Family Member;

Market Price; Maturity Date; Official;

Option Contract; Primary Dealer; Real

Estate Mortgage Investment Conduit;

Repurchase Transaction; Residual

Interest; Reverse Repurchase

Transaction; Section 107(8) Institution;

Senior Management Employee;

Settlement Date; Short Sale; Standby

Commitment; Stripped Mortgage Backed

Security; Swap Agreement; Trade Date;

Zero Coupon Bond

Currently, Part 704 incorporates by

reference Part 703, which governs

federal credit union investments, except

where inconsistent with Part 704. To

eliminate the confusion that has arisen

over the applicability of certain

provisions of Part 703, and because Part

703 may be amended in the future, the

Board is proposing to move the relevant

portions of Part 703 into Part 704. Most

of these definitions are from Part 703;

some have been altered slightly. A few

other investment-related definitions

have been added.

Capital of a Broker/Dealer; Claims;

Corporate Reserves; Credit Union

Service Organization; Membership

Capital Share Deposit; Non Credit

Union Member; Original Maturity;

Other Reserves; Risk-Based Capital;

Secondary Capital; Speculative

Activities; Term Subordinated Debt

The Board is proposing to eliminate

all of these definitions, primarily

because the terms are not used in the

proposed regulation. The term ‘‘claims’’

is used in the appendices, but the

definition, ‘‘loans or other debt

obligations,’’ is deemed to be selfevident.

Section 704.3—Planning: Strategic and

Business Plans

The Board is proposing to revise

§ 704.3 to specify that the board of

directors of a corporate credit union

must adopt written strategic and

business plans. The Board is concerned

that the directors of corporate credit

unions might develop concepts for such

plans through discussion and

brainstorming sessions, but not place

them in formal written format. The lack

of written documentation would result

in the inability of the directors to

monitor their success in achieving their

goals. Additionally, wording was added

to require that the annual review of the

plans be documented and provided to

the corporate credit union’s auditor and

supervisory committee and to NCUA.

Section 704.4—Asset/Liability

Management

Matched book requirement. The

evolution of ‘‘managed’’ book strategies

in the corporate credit union network

has become a huge concern to the

Board. The assumption of interest rate

risk by some corporates has been

demonstrably short-sighted as

evidenced by the wide-spread exposure

to rising interest rates taken by many

corporates in recent years.

In some dramatic instances, portfolios

were merely matched by repricing

characteristics, and not always

effectively at that, which subjected some

corporate credit unions to potentially

extreme depletions of capital. The

mismatches that result when short

duration liabilities are matched against

longer duration investment assets

cannot be managed if the ability to sell

troubled assets is forfeited by a ‘‘holdto-maturity’’ philosophy. Thus, the

managed book approach has, in many

cases, resulted in an unmanaged wager

against changing interest rates.

The fact that most securities in

corporate portfolios that can be

adversely impacted by rising rates are

classified as ‘‘hold-to-maturity’’ largely

contradicts the notion that the risks

associated with these managed

portfolios can be managed when and if

the wrong combination of circumstances

prevails.

The Board is concerned about the

potential problems that result when

corporate credit unions that ‘‘manage’’

sources and uses of funds assume

unreasonable levels of risk exposure

with the overnight portion of member

funds. The growth and complexity of

the floating rate securities market has

inspired many corporate credit unions

to employ a ‘‘managed’’ risk approach in

which maturity and average life are

disregarded in favor of matching sources

and uses of funds by interest rate reset

characteristics.

This has led some corporate credit

unions to assume substantial duration

mismatches when they ‘‘match’’ their

overnight funds against corresponding

floating rate assets which have

embedded options, long weighted

average lives, or coupons linked to

inappropriate indices. When such assets

have interest rate dependent features

that affect their market values, the

liquidity and solvency of the credit

union can be adversely affected. The

Board believes that such risk exposures

should be identified, measured, and

limited to a reasonable level of primary

capital. When such risks cannot be

immunized in the matching process,

they are unacceptable.

The Board is aware that a floating rate

security can have a very short duration

if it is tied to a sensitive market index,

reprices frequently, has little or no

embedded option risk, and has a

relatively short final maturity. The

Board also recognizes that a portion of

overnight shares at a corporate credit

union represents a core amount of funds

that is essentially permanent in nature.

Such core funds are required to cover

clearings and other daily activities. It is

not inappropriate for a corporate credit

union to mismatch a conservative

portion of overnight funds into longer

maturity assets provided that the assets

are convertible to cash without suffering

a material loss.

The Board is proposing that a

corporate credit union be permitted to

mismatch 25 percent of funds in the

overnight book. The parameters set forth

on the assets permitted in this 25

percent portion are established to

prevent any material adverse market

value effect upon the liquidation

potential of these assets if and when the

need arises. The ability to mismatch a

conservative portion of the overnight

account allows corporate credit unions

to augment their earnings potential in

addition to the investment of capital.

The Board does not believe that any

interest rate risk should be taken with

term certificates. Any source of funds,

with the exception of capital, that has a

maturity of greater than one business

day must be identically matched to an

asset that has the same maturity and

repricing characteristics. The danger of

entertaining duration mismatches with

member certificates is regarded to be

completely inconsistent with the charge

of a liquidity facility. This activity is not

regarded to be a legitimate means of

generating retained earnings because of

the risk and complexity associated with

managing a mismatched portfolio.

Portfolio pricing. It is essential for

corporate credit unions to evaluate the

risk inherent in their balance sheets on

a regular basis. A frequent pricing of the

investment portfolio is an important

component of risk assessment since it

provides critical information about

changes in the liquidation value of the

balance sheet.

Whether assets are classified as

available-for-sale or hold-to-maturity,

they need to be reviewed in the context

of fair market value. The management of

a corporate credit union should know at

all times where the relative market

value of its balance sheet stands in order

to ensure that the core solvency of the

institution is not remotely threatened by

any adverse change in market rates.
Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules 20443

Maximum unrealized loss on

available-for-sale assets. The Board is

proposing that the aggregate loss in the

accumulated unrealized gains/losses on

available-for-sale assets, net of any

unrealized gains or losses on the

corresponding source of funds, be

limited to a conservative percentage of

the corporate’s primary capital.

Consistent with the provision that all

investment securities be priced to

market on a monthly basis, the need to

closely monitor the impact of changing

market rates on the available-for-sale

portfolio is imperative.

The Board is also proposing that

sufficient early withdrawal penalties be

in place to guarantee protection from

replacement risk. This would allow

corporates to capture the economic

benefit of the liabilities that are matched

against available-for-sale assets;

accordingly, it is appropriate to factor in

the corresponding liabilities when

setting a maximum limit upon the

aggregate loss in the accumulated

unrealized gain/loss on ‘‘available-forsale’’ assets.

Rate shock analysis. The use of

scenario analysis to measure potential

risk is not a new concept to many

corporate credit unions. This discipline

is already resident in a number of

corporates. The purpose of using a rate

shock calculation is to view interest rate

risk from a severe but plausible

perspective. The senior management

and board of directors of a corporate

should always be cognizant of potential

interest rate risk exposures before they

arise.

It is clear that a perfectly matched

book does not have the same volatility

that a ‘‘managed’’ mismatched book has.

Depending upon how the overnight and

capital accounts are structured, they

could potentially create some exposure

to changing rates. Such exposures need

to be identified, measured, related to

primary capital, and reported to all

oversight authorities on a regular basis.

Rate shock analysis is a standard form

of risk assessment that is used in many

industry applications. The FFIEC High

Risk Stress Test for CMOs, total return

analysis, and income simulation models

all feature this approach. It is a useful

and conservative practice that enhances

the risk management process.

Risk analysis, supervision and

compliance. The Board is particularly

concerned that corporate credit unions

have a comprehensive risk management

process in place to identify all

applicable risk exposures before and

after an investment is made. The

process should ensure that such risk

exposures are measured on a regular

basis and in relation to all limitations

that are in place to govern such risks.

The risk management process is a

discipline that requires a large measure

of vigilance on the part of management.

The impact of changing market and

credit conditions may be swift and

severe. The risk management process

must be a proactive and defensive

mechanism for preserving the earnings

and capital of the credit union. The

more in-depth the risk analysis and the

greater the frequency of review, the

more accountable the board of directors

can be in policing the risks that are

undertaken.

The board of directors of a corporate

credit union is responsible for the

actions and risk exposures that the

institution undertakes. In order to

effectively understand and ultimately

supervise risk, the board must receive a

complete distillation of risk activities on

a timely basis. That information must

summarize the actions taken and the

consequences, as stated in terms of

capital at risk, that will result when

applicable risk factors change.

The board of directors cannot

supervise and direct the actions of the

credit union at the line level. However,

the board is obligated to demand that

management provide all of the

information necessary for board

members to make fully informed

decisions. Thus the reporting element of

the risk management process is no less

important in the scheme of managing

risk. The board must have clear, concise

summaries of risk activities and

exposures in order to carry out its

oversight responsibilities.

The Board regards risk analysis,

supervision, and compliance as an

essential process for all credit unions.

Risk management procedures vary

considerably among corporate credit

unions and are a major concern. The

need to standardize the discipline of the

risk management process is obvious.

The incorporation of a consistent

framework will bolster the integrity and

viability of the corporate credit union

system.

Contingency funding. The role of all

corporate credit unions as liquidity

custodians has drawn attention to a

major deficiency in the system. The

disregard for contingent funding plans

has been a particularly troublesome

issue. Contingency funding plans

guarantee the role of a corporate as an

inviolable provider of liquidity,

regardless of the circumstances. The fact

that liquidity is most scarce when it is

most required underscores the danger of

not planning for unexpected needs.

The borrowing capacity of corporate

credit unions is not an unlimited

resource. Many corporate credit unions

have suggested that liquidity will be

easily obtainable through repurchase

agreements and lines of credit. The

reality is that many factors can impinge

upon the ability of a corporate to borrow

the amount of funds for the amount of

time that is required.

Corporate credit unions must evaluate

all viable resources of liquidity on a

regular basis and understand how

changes in market factors will impact

those resources over time. For example,

it may be unreasonable to assume that

borrowing capacity is not hindered by

severe economic circumstances. The

corporate must know that it can provide

liquidity in normal or catastrophic

situations. The board of directors needs

to be assured that the plan to meet

liquidity needs is realistic and up-todate.

Modeling. The Board wishes to

quantify more precisely how the

proposed changes to Part 704 will affect

corporate credit union earnings and

capital accumulation. To this end,

NCUA will conduct analytical

assessments of these changes through

simulation modeling techniques using a

sampling of corporate credit union

balance sheets. Interested parties who

believe the proposed changes, if

implemented, would adversely affect

corporate credit unions’ ability to serve

their members are requested to submit

the results of similar assessments to

support their positions.

Section 704.5—Investments

The Board is proposing to modify and

move the policies section of current

§ 704.6 to proposed § 704.4. The

remaining sections of current § 704.6

would be revised and recodified at

proposed § 704.5. The Board is also

proposing to include the relevant

provisions of Part 703, governing federal

credit union investments, in proposed

Part 704, rather than simply

incorporating them by reference, as is

done currently. Sections 703.4 and

703.5, with some modifications, would

be included in § 704.5, and § 703.2,

which provides definitions, would be

included in proposed § 704.2.

Proposed § 704.5(a) would replace

current § 704.6(b)(2)(i), except that the

reference to investments authorized by

Part 703 would be deleted. This

paragraph would also explain the

operation of the divestiture provisions

set forth in the remainder of the section.

Finally, this paragraph would address

investments that must be classified as

available-for-sale and the limit on

investments in any one issuer. While

the current rule bases all investment

limitations on a percentage of assets, the
20444 Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules

proposed rule would base those

limitations on a percentage of primary

capital. This would encourage the

building of primary capital.

The Board has determined that a

corporate credit union should not be

permitted to invest in any non federally

insured state banks, trust companies,

and mutual savings banks, so current

§ 704.6(b)(2)(ii) is not included in

proposed § 704.5.

Proposed § 704.5(b) would replace

current § 704.6(b)(i), except that it

would refer to CSOs rather than CUSOs.

In addition, the limit on investments in

CSOs would move to new § 704.7,

which would address a number of

issues relating to CSOs.

Proposed § 704.5(c) would authorize

corporate credit unions to invest in U.S.

Central Corporate Credit Union.

Proposed § 704.5(d) would establish

limits on investments in domestic banks

for the first time. Proposed § 704.5(e)

would replace current § 704.6(b)(2)(iii),

except that it would add an entity rating

requirement for foreign banks and

establish limits on investments in

foreign banks in any one country and in

all foreign banks.

Proposed § 704.5 (f) and (g) would

replace current § 704.6(b)(2) (iv) and (v)

respectively. Proposed § 704.5(h) would

replace current § 704.6(b)(2)(vi), except

that it would revise the stress test and

would require corporate credit unions

test their CMOs/REMICs on a monthly

basis. Corporate credit unions would

have to test floating as well as fixed rate

CMOs.

Proposed § 704.5 (i)–(k) would set

forth the relevant authorized activities

listed in § 703.4, and proposed § 704.5(l)

would set forth most of the prohibitions

listed in § 703.5. The Board is proposing

additionally to prohibit corporate credit

unions from buying or selling swap

agreements, option contracts, and

forward rate agreements, and making

deposits in non federally insured state

banks, trust companies, and mutual

savings banks. While federal natural

person credit unions may purchase

stripped mortgage backed securities and

CMO/REMIC residuals to reduce

interest rate risk, the Board is proposing

to prohibit corporate credit unions from

purchasing such securities for any

purpose. The Board is also proposing to

lower the maturity date on permissible

zero coupon securities from 10 years

to 5.

Finally, the Board notes that

§ 107(15)(B) of the Federal Credit Union

Act authorizes federal credit unions to

invest in mortgage related securities as

defined in § 3(a)(41) of the Securities

Exchange Act of 1934, 15 U.S.C.

78c(a)(41). Until recently, that definition

required that a security be backed by

promissory notes secured by a first lien

on real estate, upon which is located ‘‘a

dwelling or mixed residential and

commercial structure.’’ Because of this,

a mortgage related security did not

include a security backed by purely

commercial mortgages. The Riegle

Community Development and

Regulatory Improvement Act of 1994,

enacted on September 23, 1994,

amended the Exchange Act to provide

that the underlying notes of a mortgage

related security may be directly secured

by a first lien on real estate upon which

is located one or more commercial

structures. Thus, federal credit unions

were granted the statutory authority to

invest in commercial mortgage related

securities.

Under § 107(15), however, this

authority is ‘‘subject to such regulations

as the Board may prescribe.’’ It is the

Board’s view that federal credit unions

may not purchase commercial mortgage

related securities until explicitly

permitted to do so by regulation. The

Board has not yet issued a regulation

permitting federal natural person credit

unions to purchase such securities but

will consider the matter in its upcoming

review of Part 703. The Board will also

consider at that time whether

commercial mortgage related securities

are appropriate for corporate credit

unions. In the meantime, to eliminate

potential confusion, the proposed rule

explicitly prohibits corporate credit

unions from purchasing such securities.

Section 704.6—Capital Goals,

Objectives, and Strategies

The proposed rule would substitute

‘‘CSO’’ for ‘‘CUSO’’ and would require

a cost/benefit analysis and impact study

when an activity might have a material

effect on a corporate credit union. When

an impact study must be conducted, the

proposed rule would require that it be

on a corporate’s earnings, in addition to

its capital position.

Section 704.7—Corporate Service

Organizations (CSOs)

As noted in the definitions section,

the Board is proposing to revise the

CUSO concept for corporate credit

unions. Currently, Part 704 incorporates

much of § 701.27 by reference. Because

of the proposed change in terminology,

and the determination that some of the

provisions of § 701.27 are not applicable

to corporate credit union service

organizations, proposed § 704.7 contains

all of the necessary regulations

governing CSOs. Therefore, the

proposed rule does not reference

§ 701.27.

Proposed § 704.7(a) would

incorporate most of the definitions in

current § 701.27(c). Proposed § 704.7(b)

would limit a corporate’s aggregate

investments in and loans to member and

non member CSOs to 15 percent of

capital at the time the investment or

loan is made. The current rule allows a

corporate to invest 15 percent of capital

in and loan 15 percent of capital to

CUSOs. The Board has determined that

it is inappropriate to allow corporate

credit unions to risk 30 percent of

capital in such organizations. The Board

has added ‘‘member or non member’’ to

the limitation to clarify that loans to and

investments in all CSOs are governed by

the § 704.7, regardless of whether the

CSO is a member of the corporate credit

union or not.

Proposed § 704.7(b) would

incorporate some of the limitations of

§ 701.27 (b) and (d). Proposed § 704.7(c)

would incorporate the conflicts

provisions of § 701.27(d)(6). Proposed

§ 704.7(d) would replace the accounting

and information access provisions of

§ 701.27(d)(7).

Finally, proposed § 704.7(e) would

require a corporate credit union to take

steps to bring its investments and loans

in line with the new regulation. Under

the proposed rule, corporate credit

unions would not be authorized to

invest in or loan to CUSOs. If a CUSO

already meets the CSO requirements, an

investment in or loan to the CUSO

becomes an investment in or loan to a

CSO, and there is no problem. If a CUSO

can meet the CSO requirements with

some slight adjustments, as for example,

eliminating a service that a CSO may

not perform, it is expected that this be

accomplished by the effective date of

the regulation. If there is no way that a

CUSO can meet the CSO requirements,

a corporate credit union must divest

itself of any investments in the CUSO by

the effective date of the regulation. Any

loan to such a CUSO must be terminated

if permitted by contract. If not

permitted, a corporate credit union may

retain the loan on its books but may not

renew or extend it.

Section 704.8—Lending

The Board is proposing to revise

§ 704.7(b)(1), which would be codified

at § 704.8(b)(1), to tighten the limitation

on aggregate loans to one member credit

union. In the existing regulation, loans

to one borrower are limited to the

corporate credit union’s capital or 10

percent of the corporate credit union’s

shares and capital, whichever is greater.

Under the proposed regulation, the

aggregate of loans to one member credit

union would be limited to the corporate

credit union’s primary capital. The
Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules 20445

Board believes that the existing

limitation is far too permissive and

poses a potential threat to the NCUSIF.

In several of the larger corporate credit

unions, the current limitation could

allow one member to borrow in excess

of $1 billion. Limiting total loans to one

borrower to the amount of a corporate

credit union’s primary capital would

greatly reduce the exposure to the

corporate credit union and the NCUSIF

and, in addition, would provide an

incentive to the corporate credit union

to increase its level of primary capital.

The Board is proposing to eliminate

§ 704.7(b)(2) and (3), regarding loans to

members that are not credit unions and

to credit unions that are not members.

Proposed § 704.8(b)(5) would explicitly

prohibit a corporate from making a loan

to a non member or a natural person

member. Except for providing overdraft

protection for a clearing account, a

corporate credit union would also be

prohibited from making a loan to a trade

association member. Loans to CSO

members would be governed by

proposed § 704.7. The proposed rule

would require any loan to a trade

association member to be fully

collateralized.

Section 704.9—Borrowing

The Board is proposing to tighten the

limitations on the amount a corporate

credit union may borrow. In the existing

regulation, a corporate credit union is

permitted to borrow up to 10 times

capital or 50 percent of shares

(excluding shares created by the use of

member reverse repurchase agreements)

and capital, whichever is greater. In the

proposed regulation, the wording is

changed to indicate whichever is less.

The Board has determined that tying

borrowing authority more closely to the

level of capital would encourage capital

growth. Additionally, unless extremely

strong capital existed, the corporate

would not be permitted to borrow up to

50 percent of shares and capital. The

more well capitalized a corporate credit

union, the higher borrowing capacity it

would have. The Board views this as an

enhancement to the safety and

soundness of the corporate credit union

system.

This section is also revised in the

proposed regulation to restrict a

corporate credit union to borrowing

only to meet liquidity needs, except for

issuing a minimum amount of

commercial paper to maintain a market

presence. As a liquidity center, a

corporate credit union must have the

ability to borrow funds under certain

circumstances to ensure that liquidity

remains available to meet member credit

unions’ needs. However, the Board

wishes to make it clear that corporate

credit unions should not be borrowing

in order to fund investment transactions

to enhance net income. Therefore, the

proposed regulation also requires that

the need for borrowing be documented,

in writing, and that the documentation

be provided to the corporate credit

union’s auditor and supervisory

committee and to NCUA.

Finally, in acknowledging that there

may exist extraordinary circumstances

under which a corporate credit union

may need to borrow in excess of the

limitation set forth in this section, the

regulation allows a corporate credit

union to submit a request to NCUA for

additional borrowing authority.

Section 704.10—Services

The Board is proposing to revise this

section to eliminate the list of services

a corporate credit union may provide.

Currently, corporate credit unions may

provide services involving investments,

liquidity management, payment

systems, and correspondent services.

The Board believes that this authority

has, on occasion, been interpreted too

broadly. Accordingly, the Board is

proposing simply to say that corporate

credit unions may provide services to

their member credit unions, intending

that to mean traditional loan, deposit

and payment services. A corporate

credit union wishing to provide other

types of services should contact NCUA

to determine whether such services are

permissible.

The Board is also proposing to clarify

that a corporate credit union may

provide services only to its members.

Historically, two corporate credit unions

might informally agree between

themselves for one to provide services

to the members of the other. These types

of correspondent arrangements are

permissible for natural person credit

unions, but only when the agreements

are formalized in writing and certain

other requirements are met. The Board

has determined that such arrangements,

even if formalized, are inappropriate for

corporate credit unions and is proposing

to state that explicitly in the regulation.

Corporate credit unions have also

argued that they are authorized to

provide services to non member credit

unions pursuant to § 701.26 of the

NCUA Rules and Regulations, which

provides that a federal credit union may

enter into a contract with one or more

credit unions or other organizations ‘‘for

the purpose of sharing, utilizing,

renting, leasing, purchasing, selling,

and/or joint ownership of fixed assets or

engaging in activities and/or services

which relate to the daily operations of

credit unions.’’ NCUA never intended

this provision to authorize corporate

credit unions to provide services to non

member credit unions. Such an

interpretation would make field of

membership limitations meaningless.

The provision was intended to allow

natural person credit unions to jointly

contract to obtain services from a non

credit union third party. In any event,

the Board has the opportunity now to

clarify that § 701.26 does not authorize

corporate credit unions to provide

services to non member credit unions.

Finally, corporate credit unions have

argued that they can accept deposits

from non member credit unions

pursuant to Section 107(7)(G) of the

Federal Credit Union Act, 12 USC

1757(7)(G), which authorizes federally

chartered credit unions to invest in the

shares or deposits of any central credit

union. The Board has determined that

corporate credit unions may only accept

shares or deposits from members,

pursuant to its authority, under Section

120(a) of the Federal Credit Union Act,

12 USC 1766(a), to issue regulations

governing corporate credit unions.

Section 704.11—Fixed Assets

The Board is proposing to revise

§ 704.11(b)(1) to change the limitation

on the amount a corporate credit union

may invest in fixed assets without a

waiver from NCUA. In the existing

regulation, a corporate credit union may

invest up to 15 percent of capital in

fixed assets. In the proposed regulation,

the limitation has been revised to 15

percent of primary capital. While all of

the corporates are presently in

compliance with the proposed

limitation, some may wish to make large

fixed asset investments in the future.

The Board views the proposed limit as

a further incentive for corporate credit

unions to build stronger levels of

primary capital.

Additionally, references to the

Director, Office of Examination and

Insurance have been changed to NCUA

in the proposed rule. These references

relate to the submission of waivers from

the fixed asset limitation. For the time

being, waivers should be submitted to

the Director, Office of Corporate Credit

Unions. Waivers may need to be

submitted elsewhere in the future,

however, if NCUA offices are

restructured. Finally, the Board is

proposing to eliminate the provision

regarding a corporate credit union

proceeding with its investment if it does

not receive notification of the action

taken on its request within 45 days. This

will ensure that NCUA has adequate

time to review any corporate credit

union request to invest more than 15
20446 Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules

percent of primary capital in fixed

assets.

Section 704.12—Corporate Credit Union

Reserves

A number of sources (including

Congress, the General Accounting

Office, and the Corporate Credit Union

Study Committee) have expressed

concern over the relativity low levels of

capital in corporate credit unions. The

proposed regulation provides for several

very specific changes to the corporate

credit union reserve structure. The

existing regulation establishes specific

levels of capital that corporate credit

unions must maintain, based on riskweighted assets. Currently, corporate

credit unions must maintain a ratio of

4 percent of primary capital to riskweighted assets and a ratio of 8 percent

of total capital to risk-weighted assets.

Under proposed § 704.12(a), corporate

credit unions would have to reach

capital levels based on primary capital

to average daily assets. The Board is

proposing the changes to the reserve

requirements in order to emphasize the

need for stronger primary capital. The

regulation provides for incremental

increases in the minimum ratio of

primary capital to average daily assets

until the level of 4 percent is achieved

by January 1, 1998. (The increments are

2.5 percent by January 1, 1996 and 3

percent by January 1, 1997.) The

regulation does allow for a possible

waiver from the requirements at the first

two intervals. However, the Board is

committed to building primary capital

in corporate credit unions. Any waiver

request from this requirement must

include very specific time frames, with

supporting documentation, for reaching

the regulatory capital level.

Proposed § 704.12(b) would require

that all corporate credit unions maintain

a minimum of 10 percent capital to riskweighted assets. Under the existing

regulation, corporate credit unions are

required to maintain a capital to riskweighted assets ratio of 8 percent.

Although the major focus will be on

primary capital, the Board sees a

continued need to provide a measure of

capital compared to risk-weighted

assets. Risk-weighting of assets does

provide some delineation of the risk in

a corporate credit union’s balance sheet.

The amount of capital available to cover

the risks associated with the balance

sheet is valuable information to

corporate credit union officials as well

as NCUA. Currently, all corporate credit

unions with the exception of U.S.

Central have capital to risk-weighted

assets in excess of 10 percent.

Proposed § 704.12(i) would require

that each corporate credit union develop

a written projection detailing its action

plan to achieve the primary capital

requirements established in § 704.12(a).

As part of the plan, a corporate credit

union will need to make reserve

transfers at levels that will ensure

compliance with the minimum primary

capital requirements. At a minimum,

corporate credit unions that have

already met the minimum 4 percent

primary capital requirement, must make

reserve transfers as set forth in

§ 704.12(j).

Section 704.12(j) establishes the

required reserve transfers for corporate

credit unions. The proposed rule makes

certain changes to conform to the

proposed definitions of primary capital

and capital to risk-weighted asset ratios.

There are five reserve transfer

categories. All corporate credit unions

would be required to maintain

minimum primary capital to average

daily assets of 4 percent and capital to

risk-weighted assets of 10 percent.

Therefore, Category 1 begins when these

ratios are at 4 percent and 10 percent

respectively. Once the primary capital

ratio is greater than 6 percent, and the

capital to risk-weighted assets ratios is

greater than 20 percent, reserve transfers

are no longer required. For the purposes

of reserve transfers, it is proposed that

PCSAs be excluded from primary

capital.

The Board is proposing to eliminate

the term ‘‘risk-based capital.’’ In the

current regulation, risk-based capital

includes primary capital and secondary

capital up to 100 percent of primary

capital. Risk-based capital is used in

comparison to risk-weighted assets to

establish minimum risk-based capital

ratios for reserving purposes. In the

proposed regulation, reserve transfers

are based on primary capital to average

daily assets and capital to risk-weighted

assets. There would no longer be any

specific category of risk-based capital.

Section 704.13—Representation

As noted earlier, the Board amended

the representation section of Part 704

last year. In light of the proposed

changes to the definition of ‘‘member,’’

the Board is proposing to delete certain

provisions that were designed to ensure

that corporate credit unions were

controlled by their member credit

unions. These provisions would no

longer be necessary if only

representatives of member credit unions

are permitted to vote and stand for

election. The Board is also proposing to

specifically state that the provisions of

§ 701.14 of the Rules and Regulations,

governing changes in officials and

senior executive officers in credit

unions that are newly chartered or in

troubled condition. This provision

always was intended to apply to

corporate credit unions, as it is not

inconsistent with any provision in Part

704. However, the provision refers to

NCUA Regional Directors, and in light

of the centralization of the corporate

credit union program, its application to

corporate credit unions may have been

unclear. Accordingly, the Board is

proposing to specifically include

§ 701.14 in Part 704, changing the

reference from ‘‘Regional Director’’ to

‘‘NCUA.’’ As with requests for waivers

to the fixed asset limitation, notices

required under § 701.14 should be filed,

for the time being, with the Director,

Office of Corporate Credit Unions.

Section 704.14—Audit Requirements

In the existing regulation, this section

deals only with the need for an annual

audit. The only change relating to the

annual audit in the proposed regulation

is the addition of wording to clearly

specify that the annual opinion audit

will include a letter of reportable

conditions.

The Board is proposing to add a new

§ 704.14(b) to include a requirement for

an internal auditor function in corporate

credit unions with assets in excess of

$100 million. The requirement would

also apply to corporates with assets

under $100 million, if so ordered by

NCUA. The Board realizes that not all

corporate credit unions can readily

afford to hire a full-time internal

auditor. Based on the asset size and

complexity of the institution, the

corporate could hire a part-time internal

auditor or contract with an outside firm

to perform the internal auditor function.

The proposed regulation requires that

the internal auditor report directly to

the chair of the corporate credit union’s

supervisory committee. The regulation

provides specific minimum

responsibilities that the internal auditor

must perform. Finally, the internal

auditor’s findings and reports must be

documented and made available for

review to the outside auditor and

NCUA.

Section 704.15—Contracts/Written

Agreements

The Board is not proposing any

changes to this provision.

Section 704.16—State-Chartered

Corporate Credit Unions

The Board is proposing to add new

§ 704.16(b) to put non federally insured

state-chartered corporate credit unions

that receive funds from federally

insured credit unions on notice that

they are considered ‘‘institutionaffiliated parties’’ within Section 206(r)
Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules 20447

of the Federal Credit Union Act and

subject to all of the enforcement

provisions of the Act.

Section 704.17—Fidelity Bond Coverage

The Board is proposing only minor

changes to this Section. Section

704.17(d) would be amended to clarify

that the minimum bond coverage is

based on a corporate credit union’s

average daily assets as of the preceding

December 31. The Board notes that in

current § 704.17(f), the deductibles are

based on a corporate credit union’s

primary capital to risk asset ratio. Since

the proposed regulation eliminates this

ratio, another one must be used. The

Board is proposing that it be the primary

capital ratio and specifically requests

comments on this issue.

Section 704.18—Effective Date

The Board is proposing to make any

final regulation on these matters

effective January 1, 1996. However,

although not stated in the proposed

regulation itself, the Board is also

considering requiring compliance with

§ 704.5, governing investments, 30 days

after the final rule is published in the

Federal Register. Investments

purchased before that date would be

governed by the regulation in effect at

the time of purchase. The Board is

proposing to make the investment

provisions applicable before the

remainder of the regulation to deter

corporate credit unions from ‘‘loading

up’’ on investments that would no

longer be permissible after January 1,

1996. All investments, regardless of

when acquired, would be subject to the

asset-liability provisions of proposed

Section 704.4. In order to accomplish

this objective, it may be necessary for

the Board to issue a final rule in two

separate stages with different effective

dates, or to issue one rule with a 30 day

effective date, but with a delayed

compliance date for all sections other

than §§ 704.2, Definitions, and 704.5,

Investments.

Appendix A—Summary of Risk

Weights and Risk Categories for

Corporate Credit Unions

The major focus of the Board’s proposed

amendments to the risk weight schedule is

the risk weighting of certain mortgage-backed

securities. The current regulation weights

CMOs based on their response to the interestrate sensitivity test, and the Board has

determined that this is inappropriate in a

scheme designed to address credit risk. In the

proposed rule, mortgage-backed securities,

including pass throughs and certain CMOs

(but not stripped mortgage backed securities),

that are issued or guaranteed by a U.S.

Government agency or U.S. Governmentsponsored enterprise are assigned to the risk

weight category appropriate to the issuer or

guarantor. Generally, a privately-issued

mortgage backed security meeting certain

criteria, as set forth in the proposed

regulation, is treated as essentially an

indirect holding of the underlying assets, and

assigned to the same risk category as the

underlying assets. Privately-issued mortgage

backed securities whose structures do not

qualify them to be regarded as indirect

holdings of the underlying assets are

assigned to the 100 percent risk category.

While the risk category to which mortgage

backed securities is assigned will generally

be based upon the issuer or guarantor or, in

the case of privately-issued mortgage backed

securities, the assets underlying the security,

any class of a mortgage backed security that

can absorb more than its pro rata share of loss

without the whole issue being in default, is

assigned to the 100 percent risk category.

The specific changes being proposed are as

follows. In Category 1, the Board is proposing

to delete item (g), claims on or

unconditionally guaranteed by sovereign

central governments of ‘‘AAA’’ rated

countries. Its inclusion in the current rule

was inadvertent, as such investments are not

permissible for corporate credit unions.

In Category 2, 20 percent risk weight, the

Board is proposing to delete the material at

the end of Category 2, addressing bank

ratings. Proposed Section 704.5 sets forth the

minimum ratings for deposits in banks. The

Board is also proposing to delete items (j) and

(k), which are certain types of repurchase

transactions. Such transactions should be

risk weighted according to the type of

collateral involved. Item (m), CMOs/REMICs

that pass the interest rate sensitivity test,

would also be deleted from the regulation. As

noted above, the proposed rule risk weights

CMOs based on the issuer, guarantor, or

assets underlying the security. Finally, the

Board is proposing to change the risk

weighting of claims on foreign banks from 20

percent to 50 percent.

In Category 3, 50 percent risk weight, the

Board is proposing to delete item (b), CMOs

that pass the interest rate sensitivity test, and

replace it with privately-issued mortgage

backed securities that meet certain criteria

relating to credit risk. Claims on foreign

banks would be added to this category.

In Category 4, 100 percent risk weight, the

Board is proposing to delete investments in

CUSOs from item (a), as corporate credit

unions would not be permitted to hold such

investments from the effective date of this

regulation. The proposed rule would add

item (b), loans to and investments in CSOs,

and replace item (e), membership capital

share deposits, with permanent and

secondary capital share accounts. The Board

is also proposing to delete item (d), hold-incustody repurchase agreements, as the risk

weighting of such agreements should be

based on the underlying collateral. The Board

is proposing to delete item (f), stripped

mortgage backed securities and item (g),

residual interests of CMOs/REMICs. Under

the proposed rule, these investments would

not be permissible for corporate credit

unions. In this category, the Board is also

proposing to add an item for other claims on

private obligors, to make it clear that unless

a claim on a private obligor is guaranteed or

insured by a U.S. Government agency or

enterprise, is collateralized by such a claim,

or is secured or collateralized by highly

liquid and reliable collateral, it is riskweighted at 100 percent.

Appendix C—Model Forms

As noted earlier, the Board is proposing to

delete the current Appendix C as

unnecessary and potentially confusing. The

proposed rule contains a new Appendix C,

which features model disclosure forms for

permanent and secondary capital share

accounts. Corporate credit unions that use

these forms will be deemed to be in

compliance with the proposed disclosure

requirements of § 704.2.

Section 741.3—Other Requirements

The Board is proposing to amend

§ 741.3 of the NCUA Rules and

Regulations, governing requirements for

insured credit unions, to prohibit

federally insured credit unions from

transacting business with corporate

credit unions that do not comply with

Part 704 and are not examined by

NCUA.

Regulatory Procedures

Regulatory Flexibility Act

The NCUA Board certifies that the

proposed rule, if made final, will not

have a significant economic impact on

small credit unions (those under $1

million in assets). The rule applies only

to corporate credit unions, all of which

have assets well in excess of $1 million.

Accordingly, a Regulatory Flexibility

Analysis is not required.

Paperwork Reduction Act

The proposed rule contains a

requirement for the collection of

additional information and a

maintenance of documentation by a

corporate credit union. The proposed

rule requires that each corporate credit

union develop and implement certain

policies and plans and document

compliance with such policies and

plans. The proposed rule also requires

that certain information regarding assetliability management and investments

be sent to NCUA or maintained in the

records of the corporate credit union.

The paperwork requirements will be

submitted to the Office of Management

and Budget (OMB) for review under the

Paperwork Reduction Act. Written

comments on the paperwork

requirements should be forwarded

directly to the OMB Desk Officer

indicated below at the following

address: OMB Reports Management

Branch, New Executive Office Building,

Room 10202, Washington, DC 20530.

Attn: Milo Sunderhauf. NCUA will

publish a notice in the Federal Register
20448 Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules

once OMB action is taken on the

submitted request.

Executive Order 12612

Executive Order 12612 requires

NCUA to consider the effect of its

actions on state interests. It states that:

‘‘Federal action limiting the policymaking discretion of the states should

be taken only where constitutional

authority for the action is clear and

certain, and the national activity is

necessitated by the presence of a

problem of national scope.’’ The risk of

loss to federally insured credit unions

and the NCUSIF caused by actions of

corporate credit unions are concerns of

national scope. The proposed rule

would help assure that proper

safeguards are in place to ensure the

safety and soundness of corporate credit

unions.

The rule applies to all corporate credit

unions that accept funds from federally

insured credit unions. The NCUA Board

believes that the protection of such

credit unions, and ultimately the

NCUSIF, warrants application of the

proposed rule to non federally insured

corporate credit unions. The NCUA

Board, pursuant to Executive Order

12612, has determined that this rule

may have an occasional direct effect on

the states, on the relationship between

the national government and the states,

or on the distribution of power and

responsibilities among the various

levels of government. However, the

potential risk to the NCUSIF without

these changes justifies them.

List of Subjects

12 CFR Part 704

Credit unions, Reporting and

recordkeeping requirements.

12 CFR Part 741

Bank deposit insurance, Credit

unions, Reporting and recordkeeping

requirements.

By the National Credit Union

Administration Board on April 13, 1995.

Becky Baker,

Secretary of the Board.

For the reasons set forth in the

preamble, NCUA proposes to amend 12

CFR chapter VII as follows:

1. Part 704 is revised to read as

follows:

PART 704—CORPORATE CREDIT

UNIONS

Sec.

704.1 Scope.

704.2 Definitions.

704.3 Planning; strategic and business

plans.

704.4 Asset/liability management.

704.5 Investments.

704.6 Capital goals, objectives, and

strategies.

704.7 Corporate Service Organizations

(CSOs).

704.8 Lending.

704.9 Borrowing.

704.10 Services.

704.11 Fixed assets.

704.12 Corporate credit union reserves.

704.13 Representation.

704.14 Audit requirements.

704.15 Contracts/written agreements.

704.16 State-chartered corporate credit

unions.

704.17 Fidelity bond coverage.

704.18 Effective date.

Appendix A to Part 704—Summary of Risk

Weights and Risk Categories for Corporate

Credit Unions

Appendix B to Part 704—Off-Balance Sheet

Credit Conversion Factors

Appendix C to Part 704—Model Forms

Authority: 12 U.S.C. 1762, 1766(a), 1781,

and 1789.

§ 704.1 Scope.

(a) This part establishes special rules

for all federally insured corporate credit

unions. Non-federally insured corporate

credit unions must agree, by written

contract, to both adhere to the

requirements of this part and submit to

examinations, as determined by NCUA,

as a condition of receiving shares or

deposits from federally insured credit

unions. This part grants certain

additional authorities to federal

corporate credit unions. Except to the

extent that they are inconsistent with

this part, other provisions of NCUA’s

Rules and Regulations (12 CFR Parts

700–795) and the Federal Credit Union

Act apply to federally chartered

corporate credit unions and federally

insured state-chartered corporate credit

unions to the same extent that they

apply to other federally chartered and

federally insured state-chartered credit

unions, respectively.

(b) The NCUA Board has the authority

to issue orders which vary from this

Part. This authority is provided under

Section 120(a) of the Federal Credit

Union Act, 12 U.S.C. 1766(a). Requests

by state-chartered corporate credit

unions for waivers to this part must be

approved by the state regulator before

being submitted to NCUA.

§ 704.2 Definitions.

Adjusted trading means any method

or transaction used to defer a loss

whereby a corporate credit union sells

a security to a vendor at a price above

its current market price and

simultaneously purchases or commits to

purchase from the vendor another

security at a price above its current

market price.

Asset-backed securities (ABS) means

all securities supported by installment

loans or leases or by revolving lines of

credit. This definition excludes those

securities referred to in the financial

markets as mortgage-backed securities

(MBS) which includes collateralized

mortgage obligations (CMOs) and real

estate mortgage investment conduits

(REMICs).

Average daily assets means the daily

average of net assets calculated on the

basis of assets at the close of each day

in the period.

Average life means the weighted

average time to principal repayment

with the amount of the principal

paydowns (both scheduled and

unscheduled) as the weights.

Bailment for hire contract means a

contract whereby a third party, bank, or

other financial institution, for a fee,

agrees to exercise ordinary care in

protecting the securities held in

safekeeping for its customers.

Capital means the total of all primary

capital and secondary capital share

accounts upon which notice of

withdrawal has not been given.

Cash forward agreement means an

agreement to purchase or sell a security

with delivery and acceptance being

mandatory and at a future date in excess

of thirty (30) days from the trade date.

Collateralized mortgage obligation

(CMO) means a multi-class bond issue

collateralized by whole loan mortgages

or mortgage-backed securities (MBS).

Commitment means any

unconditional arrangement that

obligates a corporate credit union to

extend credit in the form of loans; to

purchase loans, securities or other

assets; or to participate in loans and

leases. Commitments also include

overdraft facilities, revolving credit,

home equity, and mortgage lines of

credit, and similar transactions. An

obligation is conditional if the corporate

credit union is not automatically

obligated to extend funds.

Corporate credit union means an

organization that:

(1) Is chartered under Federal or state

law as a credit union;

(2) Receives shares from and provides

loan services to credit unions;

(3) Is operated primarily for the

purpose of serving other credit unions;

(4) Is designated by NCUA as a

corporate credit union;

(5) Limits natural person members to

the minimum required by state or

federal law to charter and operate the

credit union; and

(6) Does not condition the eligibility

of any credit union to become a member

on that credit union’s membership in

any other organization.
Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules 20449

Corporate service organization (CSO)

means an entity that:

(1) Serves only corporate credit

unions that have made investments in

or loans to the entity and/or the member

credit unions of such corporate credit

unions;

(2) Limits the services it provides to

data and item processing, wire transfers,

record retention and storage, securities

brokerage services, investment advisory

services, and trust services; and

(3) Is chartered as a corporation under

state law.

Credit equivalent amount means the

face amount of each off-balance sheet

item multiplied by a credit conversion

factor outlined in Appendix B of this

part.

Embedded options mean

characteristics of certain assets and

liabilities which give the issuer of the

instrument the ability to change the

features such as final maturity, rate,

principal amount and average life.

These options include, but are not

limited to, caps, floors, and prepayment

options. These options are found in

most mortgage-backed securities,

structured notes, and some Network

instruments.

Expected maturity means the date on

which all remaining principal amounts

of an instrument or bond are anticipated

to be paid off on the basis of projected

payment assumptions.

Facility means the home office of a

corporate credit union or any suboffice

thereof including, but not necessarily

limited to, wire service, telephonic

station, or mechanical teller station.

Federal funds transaction means a

short-term or open-ended transfer of

funds between U.S. depository

institutions.

Federally issued CMO/REMIC means a

CMO or REMIC which is issued by a

U.S. Government agency or a U.S.

Government-sponsored corporation or

enterprise.

Foreign bank means an institution

which is organized under the laws of a

country other than the United States,

which is engaged in the business of

banking, and which is recognized as a

bank by the banking supervisory

authority of the country in which it is

organized.

Forward rate agreement means an

over-the-counter market instrument that

allows two parties to trade interest rates

on a notional principal amount for a

specified time period in the future.

Futures contract means a contract for

the future delivery of commodities,

including certain government securities,

sold on commodities exchanges.

Identically matched means matched,

to the extent possible, by amount,

repricing, behavior, and final maturity.

Any embedded options, such as calls,

caps, and prepayments, must be

replicated in the corresponding source

or use of funds.

Immediate family member means a

person related by blood, marriage, or

adoption.

Long-term investment means, for the

purpose of issue ratings, an investment

that has an initial maturity, or expected

maturity, greater than one year.

Market price means the price at which

a security can be bought or sold.

Market value of portfolio equity

(MVPE) means the net market value of

all assets and liabilities, including their

embedded options. This reflects the

liquidation value of the balance sheet.

Material means an amount that

exceeds 5 percent of the corporate credit

union’s capital.

Maturity date means the date on

which a security matures, and shall not

mean the call date or the average life of

the security.

Member reverse repurchase

transaction means an integrated

transaction in which a corporate credit

union purchases a security from one of

its member credit unions under

agreement by that member credit union

to repurchase the same security at a

specified time in the future. The

corporate credit union then sells that

same security, on the same day, to a

third party, under agreement to

repurchase it on the same date on which

the corporate credit union is obligated

to return the security to its member

credit union.

Net assets means total assets less

Central Liquidity Facility (CLF) stock

subscriptions, CLF loans guaranteed by

the NCUSIF, U.S. Central CLF

certificates, and member reverse

repurchase transactions.

Net interest income means the

difference between income earned on

interest bearing assets and interest paid

on interest bearing liabilities.

Official means any director or

committee member.

Option contract means a right, but not

an obligation, to buy or sell a security

at a specified price and settlement date

in the future.

Overnight means having a maturity or

call date of one business day.

Penalty for early withdrawal of a

share, deposit, or liability means a fee

which will, at a minimum, fully

compensate a corporate credit union for

the difference between fair value and

book value of the asset that is divested

(including any accumulated unrealized

losses since the asset was purchased), or

the replacement cost of funds, to meet

the demand for early withdrawal.

Permanent capital share account

(PCSA). (1) PCSA means a share account

that:

(i) Is restricted to credit unions within

a corporate credit union’s field of

membership;

(ii) Is not subject to share insurance

coverage by the NCUSIF or other

deposit insurer;

(iii) Cannot be used by member credit

unions to collateralize borrowings;

(iv) Is available to absorb losses in the

event of a deficit in other primary

capital accounts in the corporate credit

union;

(v) In the event of liquidation of the

corporate credit union, is payable only

after satisfaction of all liabilities of the

liquidation estate including uninsured

obligations to shareholders and the

NCUSIF;

(vi) Is redeemable only with the

written concurrence of NCUA; and

(vii) Pays noncumulative dividends.

(2) The terms and conditions of

permanent capital share accounts must

be disclosed at the time an account is

opened. The board of directors of the

member credit union must acknowledge

those terms and conditions by signing a

disclosure form. A copy of the

disclosure form must be given to the

member credit union, with the original

retained by the corporate credit union.

Primary capital means statutory

reserves, undivided earnings, other

reserves (excluding the allowance for

loan losses and accumulated unrealized

gains/losses on available-for-sale

securities), net income (loss), and

permanent capital share accounts

(PCSAs). No more than 50 percent of

primary capital may be comprised of

PCSAs.

Primary dealer means a bank or

investment dealer authorized to buy and

sell government securities in direct

dealings with the Federal Reserve Bank

of New York in its execution of Fed

open market operations.

Privately issued CMO/REMIC means a

CMO or REMIC that qualifies as a

permissible investment for a federal

credit union pursuant to the provisions

of Section 107(15)(B) of the Federal

Credit Union Act.

Rated, in the context of investments

under § 704.5, means rated by an SECrecognized rating agency. An SECrecognized rating agency is any firm

recognized by the Securities and

Exchange Commission (SEC) as

qualified to assign risk ratings to various

investment instruments required to be

registered with the SEC.

Real Estate Mortgage Investment

Conduit (REMIC) means a nontaxable

entity formed for the sole purpose of

holding a fixed pool of mortgages
20450 Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules

secured by an interest in real property

and issuing multiple classes of interests

in the underlying mortgages.

Repurchase transaction means a

transaction in which a corporate credit

union agrees to purchase a security from

a counterpart and to resell the same or

any identical security to that

counterpart at a later date.

Residual interest means the remainder

cash flows from a CMO or REMIC

transaction after payments due

bondholders and trust administrative

expenses have been satisfied.

Reverse repurchase transaction means

a transaction whereby a corporate credit

union agrees to sell a security to a

purchaser and to repurchase the same or

any identical security from that

purchaser at a future date and at a

specified price.

Risk-weighted assets means the sum

of total balance sheet assets and offbalance sheet credit equivalent amounts

multiplied by their appropriate risk

weights.

Secondary capital share account. (1)

Secondary capital share account means

a share account that:

(i) Is restricted to credit unions within

a corporate credit union’s field of

membership;

(ii) Is not subject to share insurance

coverage by the NCUSIF or other

deposit insurer;

(iii) Is established, at a minimum, as

a two year notice account;

(iv) Cannot be used by member credit

unions to collateralize borrowings;

(v) Is available to absorb losses in the

event of a deficit in primary capital in

the corporate credit union; and

(vi) In the event of liquidation of the

corporate credit union, is payable only

after satisfaction of all liabilities of the

liquidation estate including uninsured

obligations to shareholders and the

NCUSIF.

(2) Notwithstanding the notice

requirement, in the case of a member

credit union’s merger or liquidation, a

corporate credit union shall return the

member’s secondary capital shares, less

any penalty for early withdrawal, within

30 days of written notification from

NCUA.

(3) The terms and conditions of

secondary capital share accounts must

be disclosed at the time an account is

opened. The board of directors of the

member credit union must acknowledge

those terms and conditions by signing a

disclosure form. A copy of the

disclosure form must be given to the

member credit union, with the original

retained by the corporate credit union.

A statement of the terms and conditions

of a secondary capital share account

must be provided to member credit

unions annually. The annual disclosure

statement must be signed by the

chairman of the board of the corporate

credit union.

Section 107(8) institution means an

institution described in Section 107(8)

of the Federal Credit Union Act (12

U.S.C. 1757(8)).

Senior management employee means

the corporate credit union’s chief

executive officer, any assistant chief

executive officer (e.g., any assistant

president, any vice president or any

assistant treasurer/manager) and the

chief financial officer (controller).

Settlement date means the date

originally agreed to by a corporate credit

union and a counterpart for settlement

of the purchase or sale of a security.

Short sale means the sale of a security

not owned by the seller.

Short-term investment means, for the

purpose of issue ratings, an investment

that has an initial maturity, or expected

maturity, of one year or less.

Standby commitment means a

commitment to either buy or sell a

security, on or before a future date, at

a predetermined price. The seller of the

commitment is the party receiving

payment for assuming the risk

associated with committing either to

purchase a security in the future at a

predetermined price, or to sell a security

in the future at a predetermined price.

The seller of the commitment is

required to either accept delivery of a

security (in the case of a commitment to

buy) or make delivery of a security (in

the case of a commitment to sell), in

either case at the option of the buyer of

the commitment.

Stripped mortgage-backed security

(SMBS) means a security that represents

either the principal or interest only

portion of the cash flows of an

underlying pool of mortgages.

Swap agreement means a contract to

exchange interest payments that are

based upon a specified dollar amount

(the ‘‘notional’’) at specified dates in the

future.

Trade association means an

association of organizations or persons

formed to promote their common

interests. The term includes entities

owned or controlled directly or

indirectly by such an association but

does not include credit unions.

Trade date means the date a corporate

credit union originally agrees, whether

orally or in writing, to enter into the

purchase or sale of a security.

Undivided earnings means all forms

of retained earnings, except:

(1) Regular or statutory reserves; and

(2) Valuation allowances established

to meet the full and fair disclosure

requirements of § 702.3 of this chapter.

United States depository institutions

means offices or branches (foreign and

domestic) of federally insured banks

and depository institutions chartered

and headquartered in the United States,

Puerto Rico, and U.S. territories and

possessions. This includes banks,

mutual or stock savings banks, savings

or building and loan associations,

cooperative banks, credit unions,

international banking facilities of

domestic depository institutions, and

U.S. chartered depository institutions

owned by entities outside of the United

States.

United States Government or its

agencies means the United States

Government or instrumentalities of the

United States whose debt obligations are

fully and explicitly guaranteed as to the

timely payment of principal and interest

by the full faith and credit of the United

States Government.

United States Government-sponsored

corporations and enterprises means

agencies originally established or

chartered to serve public purposes

specified by Congress, but whose

obligations are not explicitly guaranteed

by the full faith and credit of the United

States Government.

Wholesale corporate credit union

means a corporate credit union that

serves other corporate credit unions.

Zero coupon bond means a debt

obligation that makes no periodic

interest payments but instead is sold at

a discount from its face value. The

holder of a zero coupon bond realizes

the rate of return through the gradual

appreciation of the security, which is

redeemed at face value on a specified

maturity date.

§ 704.3 Planning; strategic and business

plans.

(a) The board of directors of a

corporate credit union shall adopt a

written strategic plan with appropriate

objectives and goals. This plan will be

reviewed periodically during the year to

determine that the goals are being

accomplished. At least annually, the

strategic plan will be reviewed and

updated. These reviews will be

documented in writing and provided

upon request to the auditor, supervisory

committee, and NCUA.

(b) A written business plan will be

prepared for any material expenditure

in fixed assets, new products and

services, or investments in a CSO and/

or for any planned field of membership

expansion. Such plans shall be provided

upon request to the auditor, supervisory

committee, and NCUA.
Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules 20451

§ 704.4 Asset/liability management.

(a) Matching. All shares and deposits,

exclusive of permanent capital share

accounts and secondary capital share

accounts, whether fixed or variable rate,

must be identically matched to a

corresponding asset. An identical match

means that any factor which impacts the

cash flows of an asset must be

identically replicated in the

corresponding liability. The corporate’s

capital is exempt from the matching

requirement. The overnight shares of a

corporate credit union are subject to the

matching requirement with the

following exception: Up to, but no more

than, 25 percent of a corporate credit

union’s overnight shares and deposits

(based on the average daily overnight

balance for the preceding calendar year)

can be matched against variable rate

securities with a final maturity of three

years or less provided that the following

provisions are met: the security coupon

reprices at least monthly, the coupon

formula is tied to an appropriate market

index (such as LIBOR, PRIME, Fed

funds and Treasury Bills) not a lagging

indicator (such as COFI); the change in

coupon formula is not inverse to or a

multiple of the change in the market

index, and, if the asset is a marketable

security, is classified as ‘‘available for

sale’’.

(b) Unmatched embedded option

limitation. A corporate credit union is

limited to an aggregate amount of

instruments that possess unmatched

embedded options of no more than

capital.

(c) Penalty for early withdrawal. All

shares and deposits must either be non

redeemable or include a fair value

penalty for early withdrawal as defined

in § 704.2.

(d) Portfolio pricing. The fair value of

all investment securities, regardless of

classification, must be calculated and

documented on a monthly basis using

reliable market price indicators. Such

documentation shall be provided upon

request to the auditor, supervisory

committee, and NCUA.

(e) Maximum unrealized loss on

‘‘available-for-sale’’ assets. The

aggregate loss in the accumulated

unrealized gains/losses on ‘‘availablefor-sale’’ assets, net of any unrealized

gains/losses on the corresponding

source of funds, may not exceed 15

percent of primary capital excluding

accumulated unrealized gains/losses on

available for sale securities. Any

violation of this limit must be addressed

with a corrective action that reduces the

loss below the maximum allowed

within 10 days.

(f) Rate shock analysis. A corporate

credit union must perform a monthly

‘‘shock test’’ calculation to show the

impact upon its net interest income and

market value of portfolio equity (MVPE)

for an immediate and sustained tandem

shift in interest rates of plus and minus

300 basis points. The MVPE cannot

change by more than plus or minus 25

percent for a plus or minus 300 basis

point rate shock. The documentation for

these calculations must include the

balance sheet categories, interest rates,

and other assumptions used. This

information must be presented to a

senior committee that includes board

membership and provided upon request

to the auditor, supervisory committee

and NCUA.

(g) Risk analysis. A corporate credit

union must identify and list all risks

associated with an asset or source of

funds prior to purchase or issuance.

Where applicable, the risk analysis must

include, at a minimum, liquidity,

market, credit, legal, systems/

operations, sovereign, exchange, and

management risks. The risk analysis

shall be maintained with other

supporting documentation in a

permanent record, which shall be

provided upon request to the auditor,

supervisory committee, and NCUA.

(h) Risk supervision. A corporate

credit union must identify, measure,

and document the risks associated with

all assets. The measure of risk exposure

and a comparison of such exposure to

board policy limits must be reported in

writing on a quarterly basis. Such

reports shall be provided upon request

to the auditor, supervisory committee,

and NCUA.

(i) Risk compliance. A corporate

credit union must review all investment

assets on a monthly basis for

compliance with NCUA Rules and

Regulations and board of director

policies to determine whether any such

assets require divestiture. The results

and analysis shall be provided upon

request to the auditor, supervisory

committee, and NCUA.

(j) Contingency funding. A corporate

credit union must develop a

contingency funding plan that ranks, in

order of priority, all sources of liquidity,

by category and amount, that are

available to service an immediate

outflow of member funds. The plan

must analyze the impact that potential

changes in fair value will have on the

disposition of assets in a variety of

interest rate scenarios and be reviewed

by a committee of the board no less

frequently than annually or as market

and business conditions dictate. The

plan and annual review shall be

provided upon request to the auditor,

supervisory committee, and NCUA.

(k) Policies. Corporate credit unions

must develop and implement

comprehensive written policies, which

shall be reviewed annually and

provided upon request to the auditor,

supervisory committee, and NCUA. The

policies must address, at a minimum,

the following:

(1) Diversification of assets by issuer,

type and risk;

(2) Approved issuers, instruments,

and broker-dealers;

(3) Liabilities, including pricing

strategies, diversification and penalties

for early withdrawal;

(4) Limits on the maximum permitted

change in net interest income as

calculated for a plus and minus 300

basis point rate shock;

(5) Acceptable credit risk;

(6) Authorization of and limitations

on persons/committees involved with

asset/liability management.

§ 704.5 Investments.

(a) A corporate credit union may

invest in those securities, deposits, and

obligations set forth in Sections 107(7),

107(8), and 107(15)(B) of the Federal

Credit Union Act (12 U.S.C. 1757(7),

1757(8), and 1757(15)(B)), except as

provided in this section. Any asset that

has the potential to be divested must be

classified as available-for-sale. An asset

downgraded by the same rating agency

used when the investment was

purchased must be divested within 10

business days of the downgrade. Other

than investments in wholesale corporate

credit unions, CSOs, and repurchase

transactions, the aggregate of a corporate

credit union’s investments in any one

institution, issuer, or trust is limited to

25 percent of the corporate credit

union’s primary capital at the time of

purchase.

(b) A corporate credit union may

invest in CSOs, as defined in § 704.2

and subject to the limitations of § 704.7.

(c) A corporate credit union may

invest in deposits in, the sale of Federal

Funds to, and debt obligations of

wholesale corporate credit unions.

(d)(1) A corporate credit union may

invest in deposits in, the sale of Federal

Funds to, and debt obligations of

Section 107(8) institutions subject to the

following requirements:

(i) The institution must have assets of

at least US $5 billion and an entity

rating no lower than B (or equivalent);

(ii) The investment must be rated no

lower than A–1 (or equivalent) for shortterm investments and no lower than AA

(or equivalent) for long-term

investments; and

(iii) The investment must be

denominated in United States dollars.

(2) A written evaluation of lines of

exposure to all Section 107(8)
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institutions must be prepared quarterly

by qualified staff and approved by an

appropriate committee of the board so

that changes in credit quality can be

detected at the earliest opportunity.

This approval must be documented in

the minutes of the committee and be

provided upon request to the auditor,

supervisory committee, and NCUA.

(e)(1) A corporate credit union may

invest in deposits in, the sale of Federal

Funds to, and debt obligations of foreign

banks, subject to the following

requirements:

(i) The bank must have assets of at

least US $20 billion and an entity rating

no lower than A/B (or equivalent);

(ii) The investment must be rated no

lower than A–1 (or equivalent) for shortterm investments and no lower than AA

(or equivalent) for long-term

investments;

(iii) The investment must be

denominated in United States dollars;

(iv) The country in which the issuing

bank is organized must be rated AAA

(or equivalent) for political and

economic stability;

(v) Aggregate investments in banks in

any single foreign country are limited to

50 percent of the corporate credit

union’s primary capital at the time of

purchase; and

(vi) Aggregate investments in all

foreign banks are limited to 300 percent

of the corporate credit union’s primary

capital at the time of purchase.

(2) A written evaluation of lines of

exposure to all foreign banks must be

prepared quarterly by qualified staff and

approved by an appropriate committee

of the board so that changes in credit

quality can be detected at the earliest

opportunity. This approval must be

documented in the minutes of the

committee and be provided upon

request to the auditor, supervisory

committee, and NCUA.

(f) A corporate credit union may

invest in marketable debt obligations of

corporations chartered in the United

States, provided that the obligations are

rated not lower than A–1 (or equivalent)

for short-term investments and not

lower than AA- (or equivalent) for longterm investments. A marketable

obligation is one that may be sold with

reasonable promptness at a price which

corresponds reasonably to its fair value.

This authority does not apply to debt

obligations that are convertible into the

stock of the corporation.

(g) A corporate credit union may

invest in asset-backed securities subject

to the following requirements:

(1) Rated not lower than AAA (or

equivalent); and

(2) Having an average life at the time

of purchase not to exceed 5 years.

(h) A corporate credit union may

invest in federally and privately issued

CMOs/REMICs, subject to the following

limitations:

(1) All investments in fixed rate

CMOs/REMICs must meet the following

NCUA-modified FFIEC High Risk

Security Test requirements:

(i) The weighted average life of the

security may not exceed 5 years at the

time of purchase;

(ii) The weighted average life may not

extend by more than 2 years nor

contract by more than 3 years for an

instantaneous shift in market rates of

plus or minus 300 basis points;

(iii) The investment’s price may not

decline by more than 10 percent for an

instantaneous shift in market rates of

plus or minus 300 basis points.

(2) All investments in floating rate

CMOs/REMICs must meet the following

NCUA-modified FFIEC High Risk

Security Test requirements:

(i) The weighted average life of the

security may not exceed 5 years at the

time of purchase;

(ii) The weighted average life may not

extend by more than 2 years nor

contract by more than 3 years for an

instantaneous shift in market rates of

plus or minus 300 basis points;

(iii) The investment’s price may not

decline by more than 5 percent for an

instantaneous shift in market rates of

plus or minus 300 basis points.

(3) The prepayment assumption for

the underlying mortgages shall be based

on an industry standard median

prepayment estimate or the median

estimate of no fewer than five

independent brokerage firms, at least

one of which must be a primary dealer.

When estimates from specific dealers

are used, those dealers must be

approved by an appropriate committee

and listed along with monthly test

results. The same industry standard or

selection of dealers must be used for all

CMO/REMIC securities each time the

tests are performed. In computing the

average life of a CMO/REMIC

investment, it must be assumed that the

anticipated rate of prepayment remains

constant over the remaining life of the

mortgage collateral.

(4) Any CMO/REMIC security that

fails the average life standard or the

price sensitivity test shall be divested

within 10 business days.

(5) Results of monthly CMO/REMIC

tests must be documented and reviewed

by an appropriate committee and

maintained in a permanent record. Such

results shall be provided upon request

to the auditor, supervisory committee,

and NCUA.

(i) A corporate credit union may enter

into a cash forward agreement to

purchase or sell a security, provided

that:

(1) The period from the trade date to

the settlement date does not exceed one

hundred and twenty (120) days;

(2) If the credit union is the

purchaser, it has written cash flow

projections evidencing its ability to

purchase the security;

(3) If the credit union is the seller, it

owns the security on the trade date; and

(4) The cash forward agreement is

settled on a cash basis at the settlement

date.

(j) A corporate credit union may enter

into a repurchase or reverse repurchase

transaction provided that the collateral

securities are permissible investments

for corporate credit unions and the

transaction is priced to reflect accrued

interest, the risk of the securities, and

the term of the trade. A corporate credit

union purchasing a security in a

repurchase transaction must take

physical possession of the security,

receive written confirmation of the

purchase and a safekeeping receipt from

a third party under a written bailment

for hire contract, or be recorded as the

owner of the security through the

Federal Reserve Book-Entry System. A

corporate credit union obtaining funds

from a reverse repurchase transaction

may not invest those funds for a term

greater than the maturity date of the

reverse repurchase transaction. A

repurchase transaction shall be

considered to have a credit exposure of

5 percent of the principal and accrued

interest outstanding on the transaction

for the purpose of the limitation on

investments in a single institution,

issuer, or trust set forth in paragraph (a)

of this section.

(k) A corporate credit union may

invest in a mutual fund if the

investments and investment

transactions of the fund are legally

permissible for corporate credit unions.

(l) A corporate credit union is

prohibited from:

(1) Purchasing or selling a standby

commitment, except as provided in

§ 701.21(i) of this Chapter;

(2) Buying or selling a futures

contract, forward rate agreement, swap

agreement, or option contract;

(3) Engaging in adjusted trading;

(4) Engaging in a short sale;

(5) Purchasing a stripped mortgagebacked security or residual interest in a

CMO/REMIC;

(6) Purchasing a zero coupon security

with a maturity date that is more than

5 years from the settlement date for

purchase of the security, except for

funds matched against primary capital;
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(7) Making deposits in nonfederally

insured state banks, trust companies,

and mutual savings banks; and

(8) Purchasing commercial mortgagerelated securities.

(m) A corporate credit union’s

officials, senior management employees,

and immediate family members of such

individuals, may not receive pecuniary

consideration in connection with the

making of an investment or deposit by

the corporate credit union. The

prohibition contained in this subsection

also applies to any employee not

otherwise covered if the employee is

directly involved in investments or

deposits. All transactions not

specifically prohibited by this paragraph

must be conducted at arm’s length and

in the interest of the credit union.

§ 704.6 Capital goals, objectives and

strategies.

(a) General. Corporate credit unions

shall adopt formal, written goals (both

long-term and short-term), objectives

and strategies, including a budgetary

process, for the building of capital.

(b) Impact study. Where a proposed

new service or program, purchase or

lease of a fixed asset, or investment in

or loan to a CSO may have a material

effect on a corporate credit union, the

corporate credit union shall perform a

cost/benefit analysis of the activity and

a study of its impact on the earnings and

capital position of the corporate credit

union.

(c) Monitoring. Management will

establish monitoring standards and

procedures to periodically review and

reassess the capital position of the

corporate credit union and will

document these reviews.

§ 704.7 Corporate service organizations

(CSOs).

(a) The aggregate of all investments in

and loans to member and non member

CSOs shall not exceed 15 percent of a

corporate credit union’s capital at the

time the investment or loan is made. A

corporate credit union may not use this

authority to acquire control, directly or

indirectly, of another financial

institution, or to invest in shares, stocks

or obligation of another financial

institution, insurance company, trade

association, liquidity facility, or similar

organization. A CSO must be operated

as an entity separate from any credit

union. A corporate credit union

investing in or lending to a CSO must

take those steps necessary to ensure that

it will not be held liable for the

obligations of the CSO.

(b) An official or senior management

employee of a corporate credit union

which has invested in or loaned to a

CSO, and immediate family members of

such an individual, may not receive,

either directly or indirectly, any salary,

commission, investment income, or

other income or compensation, from the

CSO. This prohibition extends to any

other corporate credit union employee if

such employee deals directly with the

CSO.

(c) Prior to making an investment in

or loan to a CSO, a corporate credit

union must obtain a written agreement

that the CSO will:

(1) Follow GAAP;

(2) Provide financial statements to the

corporate credit union at least quarterly;

(3) Obtain an annual CPA audit and

provide a copy to the corporate credit

union; and

(4) Allow the auditor, supervisory

committee, and NCUA complete access

to its books, records, and any other

pertinent documentation.

(d) A corporate credit union with an

investment in, or a loan to, a credit

union service organization (CUSO) as

defined in § 701.27 of this chapter must,

by January 1, 1996, divest of the

investment, terminate the loan if

contractually possible, or ensure that

the organization meets the requirements

of this section and § 704.2. If the loan

cannot legally be terminated by January

1, 1996 it cannot be renewed or

extended upon its next renewal or

extension date.

§ 704.8 Lending.

(a) Policies. A corporate credit union

shall develop, implement, and adhere to

written loan policies which address, at

a minimum:

(1) Loan types and limits;

(2) Documentation for each loan and

line of credit;

(3) Security;

(4) Analysis of financial and

operational data;

(5) Monitoring standards; and

(6) Review and reassessment of the

credit quality of the member credit

union.

(b) General. Each loan or line of credit

limit will be determined after analyzing

the financial and operational soundness

of the member credit union and the

ability of the member credit union to

repay the loan. Loans are limited as

follows:

(1) Loans to member credit unions.

The maximum aggregated amount in

loans and approved lines of credit to

any one member credit union, excluding

pass-through and guaranteed loans from

the CLF and the NCUSIF and

repurchase transactions, shall not

exceed the corporate credit union’s

primary capital.

(2) Loans to CSOs. A corporate credit

union may make loans and issue lines

of credit to CSOs, as defined in § 704.2

and subject to the limitations of § 704.7

(3) Participation loans with other

corporate credit unions. A corporate

credit union is permitted to participate

in a loan with another corporate credit

union and must retain an interest of at

least 5 percent of the face amount of the

loan. The participation agreement may

be executed at any time prior to, during,

or after disbursement. A participating

corporate credit union must exercise the

same due diligence as if it were the

originating corporate credit union.

(4) Prepayment penalties. If provided

for in the loan contract, a corporate

credit union is authorized to assess

prepayment penalties on loans made to

member credit unions.

(5) Prohibitions. A corporate credit

union may not make loans, issue lines

of credit, or otherwise provide loan

services to non members or natural

person members. Except for providing

overdraft protection for clearing

accounts, a corporate credit union may

not provide loan services to member

trade associations. A loan or line of

credit provided to a member trade

association for the purpose of overdraft

protection must be fully collateralized

by any security which is permissible

under § 704.5.

§ 704.9 Borrowing.

A corporate credit union may borrow

up to 10 times capital or 50 percent of

shares (excluding shares created by the

use of member reverse repurchase

agreements) and capital, whichever is

less. Other that the issuance of the

minimum amount of commercial paper

to maintain a market presence, a

corporate credit union may borrow only

to meet liquidity needs. The need must

be documented in writing and provided

upon request to the auditor, supervisory

committee, and NCUA. CLF borrowings,

as agent member for natural person

credit unions, and borrowed funds

created by the use of repurchase

agreements are excluded from this limit.

In the event of extreme liquidity

demands from its member credit unions,

a corporate credit union may submit a

request to NCUA for additional

borrowing authority.

§ 704.10 Services.

A corporate credit union may provide

services only to its members, subject to

the limitations of this Part. A corporate

credit union may not provide services to

non members through the

correspondent credit union authority or

pursuant to § 701.26 of this chapter.
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§ 704.11 Fixed assets.

(a) General. A corporate credit union’s

ownership in fixed assets shall be

limited as described in § 701.36 of this

chapter, except that in lieu of § 701.36

(c)(1) through (4), paragraph (b) of this

section applies.

(b) Investment in fixed assets. (1) A

corporate credit union may, invest in

fixed assets where the aggregate of all

such investments does not exceed 15

percent of primary capital.

(2) A corporate credit union shall

submit requests to exceed the limitation

of paragraph (b)(1) of this section to

NCUA. Requests shall be supplemented

by such statements and reports as

NCUA may require. If NCUA determines

that the proposal will not adversely

affect the corporate credit union, it will

respond in writing and an aggregate

dollar amount or percentage of primary

capital will be approved for investment

in fixed assets.

§ 704.12 Corporate Credit Union Reserves.

(a) Minimum Primary Capital Ratio.

The primary capital ratio is computed

by dividing primary capital by average

daily assets for the month. Each

corporate credit union shall maintain a

minimum primary capital ratio as

follows:

(1) By January 1, 1996, primary

capital shall be at least 2.5 percent of

average daily assets. If this level of

primary capital is not achieved, the

corporate must submit a request for a

waiver of this requirement to NCUA.

The waiver request must provide an

acceptable plan for meeting the

requirement. This waiver request must

be submitted to NCUA no later than 90

days prior to the effective date of this

requirement.

(2) By January 1, 1997, primary

capital shall be at least 3.0 percent of

average daily assets. If this level of

primary capital is not achieved, the

corporate must submit a request for a

waiver of this requirement to NCUA.

The waiver request must provide an

acceptable plan for meeting the

requirement. This waiver request must

be submitted to NCUA no later than 90

days prior to the effective date of this

requirement.

(3) By January 1, 1998, primary

capital must be at least 4.0 percent of

average daily assets. Thereafter, each

corporate credit union will be required

to maintain a minimum primary capital

to average daily assets ratio of 4.0

percent. Any corporate credit union that

does not meet this provision will be

considered to be inadequately

capitalized and must submit to NCUA a

plan of action to achieve this capital

level within an acceptable period of

time. This plan must be submitted to

NCUA within 30 calendar days of the

month-end in which minimum primary

capital fell below 4.0 percent.

(b) Capital to risk-weighted assets

ratio. The capital to risk-weighted assets

ratio is computed by dividing capital by

total risk-weighted assets at month end.

Each corporate credit unions shall

maintain capital of at least 10.0 percent

of risk-weighted assets. Any corporate

credit union that does not meet this

provision will be considered to be

inadequately capitalized and must

submit to NCUA a plan of action to

achieve this capital level within an

acceptable period of time. This plan

must be submitted to NCUA within 30

calendar days of the month-end in

which capital fell below 10.0 percent of

risk-weighted assets.

(c) Failure to comply with minimum

capital requirements. NCUA will review

each plan of action to achieve stated

levels of capital as put forth in

paragraphs (a) and (b) of this section.

NCUA will make a determination as to

the viability of the plan of action, and

analyze the impact of the capital level

on the corporate credit union and its

member credit unions. If it is

determined that a plan of action is not

viable, the corporate credit union’s

board of directors will be required to

merge or accept other corrective action

as set forth by NCUA.

(d) Procedures. Balance sheet assets

and credit equivalent amounts for offbalance sheet items are assigned to a

risk-weight category. The total dollar

amount in each category shall be

multiplied by the risk-weight assigned

to that category. The sum of the

categories comprises risk-weighted

assets.

(e) Frequency. Each corporate credit

union shall calculate and document the

ratio of primary capital to average daily

assets and capital to risk-weighted

assets each month. Documentation of

such calculations shall be maintained

and provided upon request to the

auditor, supervisory committee, and

NCUA.

(f) Risk weights for balance sheet

assets. Each balance sheet asset shall be

assigned a risk weight of 0 percent, 20

percent, 50 percent, and 100 percent as

indicated in Appendix A of this part.

(g) Other considerations. (1) An

investment in the shares of a mutual

fund is assigned to the risk category

appropriate to the highest risk-weighted

asset that the fund is permitted to hold.

(2) Accruals will be assigned the riskweighting of the underlying asset that

they represent.

(h) Credit conversion factors for offbalance sheet Items. Off-balance sheet

items will be risk-weighted each month

using credit conversion factors as

indicated in Appendix B of this part.

(i) Interim reserve accumulation.

Corporate credit unions will be required

to accumulate sufficient amounts of

primary capital to meet the

requirements of paragraph (a) of this

section. Each corporate credit union

must prepare a written projection,

including assumptions utilized, which

shows compliance with the minimum

primary capital requirements each year

through the accumulation of net income

and reserve transfers, the issuance of

PCSAs, and/or the shrinkage of the

corporate credit union’s assets. The

written projection must be provided

upon request to the auditor, supervisory

committee, and NCUA. In addition,

each corporate credit union must meet

the reserve transfer requirements

outlined in paragraph (j) of this section.

(j) Required reserve transfers. The

amount that a corporate credit union is

required to transfer or set aside in

reserves is based on both the corporate

credit union’s primary capital and

capital to risk-weighted assets ratios.

For the purposes of calculating required

reserve transfers, PCSAs shall be

excluded from primary capital. Ranges

of capital ratios have been established.

These capital ratio ranges are then

associated with 1 of 5 corresponding

categories in determining the required

reserve transfer. To qualify for a lower

reserve transfer category, the capital

ratio must fall in both the primary

capital and capital to risk-weighted

assets ratio ranges of the applicable

category. The corporate credit union

shall set aside an amount equal to the

appropriate required reserve transfer

percentage multiplied by the corporate

credit union’s average daily assets for

the transfer period multiplied by the

number of days in the transfer period

divided by 365.

(1) Category 1 requires a corporate

reserve transfer percentage of 20 basis

points of average daily assets when

either the primary capital ratio is greater

than 4.0 percent and less than 4.75

percent or the capital to risk-weighted

assets ratio is greater than 10.0 percent

and less than 11.0 percent.

(2) Category 2 requires a corporate

reserve transfer percentage of 15 basis

points of average daily assets when

either the primary capital ratio is greater

than 4.75 percent and less than 5.25

percent or the capital to risk-weighted

assets ratio is greater than 11.0 percent

and less than 14.0 percent.

(3) Category 3 requires a corporate

reserve transfer percentage of 10 basis

points of average daily assets when

either the primary capital ratio is greater
Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules 20455

than 5.25 percent and less than 5.75

percent or the capital to risk-weighted

assets ratio is greater than 14.0 percent

and less than 17.0 percent.

(4) Category 4 requires a corporate

reserve transfer percentage of 5 basis

points of average daily assets when

either the primary capital ratio is greater

than 5.75 percent and less than 6.0

percent or the capital to risk-weighted

assets ratio percentage is greater than

17.0 percent and less than 20.0 percent.

(5) Category 5 requires a corporate

reserve transfer percentage of 0 basis

points when the primary capital ratio is

greater than 6.0 percent and the capital

to risk-weighted assets ratio percentage

is greater than 20.0 percent.

(k) Full and fair disclosure. Corporate

credit unions must provide reserves

necessary for full and fair disclosure as

specified in § 702.3 of this chapter.

§ 704.13 Representation.

(a) Board representation. The board

shall be determined as stipulated in the

standard corporate federal credit union

bylaws governing election procedures,

provided that:

(1) The chair of the board may not

serve simultaneously as an officer,

director, or employee of a credit union

trade association;

(2) A majority of directors may not

serve simultaneously as officers,

directors, or employees of the same

credit union trade association or its

affiliates (not including chapters or

other subunits of a state trade

association); and

(3) For purposes of meeting the

requirements of paragraphs (a)(2) and

(a)(3) of this section, an individual may

not serve as a director or chair of the

board if that individual holds a

subordinate employment relationship to

another employee who serves as an

officer, director, or employee of a credit

union trade association.

(b) Representatives of member credit

unions. (1) A member credit union may

appoint one of its members or officials

as a representative to the corporate

credit union. The representative shall be

empowered to attend membership

meetings, to vote, and to stand for

election on behalf of the member. Only

a member credit union representative is

eligible to vote and to stand for election.

No individual may serve as the

representative of more than one member

credit union in the same corporate

credit union.

(2) Any vacancy on the board of a

corporate credit union caused by a

representative being unable to complete

his or her term shall be filled by the

board of the corporate credit union

according to its bylaws governing the

filling of board vacancies.

(c) Recusal provision. (1) No director,

committee member, officer, or employee

of a corporate credit union shall in any

manner, directly or indirectly,

participate in the deliberation upon or

the determination of any question

affecting his or her pecuniary interest or

the pecuniary interest of any entity

(other than the corporate credit union)

in which he or she is interested, except

if the matter involves general policy

applicable to all members, such as

setting dividend or loan rates or fees for

services.

(2) An individual is ‘‘interested’’ in an

entity if he or she:

(i) Serves as a director, officer, or

employee of the entity;

(ii) Has a business, ownership, or

deposit relationship with the entity; or

(iii) Has a business, financial, or

familial relationship with an individual

whom he or she knows has a pecuniary

interest in the entity.

(3) In the event of the disqualification

of any directors, by operation of

paragraph (c)(1) of this section, the

remaining qualified directors present at

the meeting, if constituting a quorum

with the disqualified directors, may

exercise, by majority vote, all the

powers of the board with respect to the

matter under consideration. Where all of

the directors are disqualified, the matter

must be decided by the members of the

corporate credit union.

(4) In the event of the disqualification

of any committee member by operation

of paragraph (c)(1) of this section, the

remaining qualified committee

members, if constituting a quorum with

the disqualified committee members,

may exercise, by majority vote, all the

powers of the committee with respect to

the matter under consideration. Where

all of the committee members are

disqualified, the matter shall be decided

by the board of directors.

(d) Administration. (1) A corporate

credit union shall be under the direction

and control of its board of directors.

While the board may delegate the

performance of administrative duties,

the board is not relieved of its

responsibility for their performance.

The board may employ a chief executive

officer who shall have such authority

and such powers as delegated by the

board to conduct business from day to

day. Such chief executive officer must

answer solely to the board of the

corporate credit union, and may not be

an employee of a credit union trade

association.

(2) The provisions of § 701.14 of this

chapter apply to corporate credit

unions, except that where reference is

made to ‘‘Regional Director,’’ substitute

‘‘NCUA.’’

§ 704.14 Audit requirements.

(a) Annual audit. (1) The corporate

credit union supervisory committee

shall cause an annual opinion audit,

which shall include a reportable

conditions letter (i.e. management letter)

to be made by an independent, duly

licensed certified public account (CPA)

and shall submit the audit report to the

board of directors. A summary of the

audit report shall be submitted to the

membership at the next annual meeting.

(2) The CPA’s audit workpapers shall

be provided upon request to NCUA.

(3) A copy of the audit report and

reportable conditions letter (i.e.

management letter) shall be submitted

to NCUA, within 30 days after receipt

by the board of directors.

(b) Internal auditor function. (1) A

corporate credit union with net assets in

excess of $100 million as of the

preceding December 31, or as ordered

by NCUA, will be required to employ or

contract the services of an internal

auditor.

(2) The internal auditor will report

directly to the chairperson of the

corporate credit union’s supervisory

committee.

(3) The internal auditor’s

responsibilities will include, but are not

limited to, the review of ongoing

compliance with statutory and

regulatory requirements, adherence to

the corporate credit union’s own

policies and procedures, testing of the

accuracy and completeness of

recordkeeping and operation functions,

ensuring adequate control measures are

in place, apprising the supervisory

committee of all findings, and providing

appropriate recommendations to

address concerns and deficiencies

relating to the condition or operations of

the corporate credit union.

(4) The internal auditor’s reports,

findings, and recommendations will be

in writing. Oral presentations by the

internal auditor to the supervisory

committee will be documented in the

supervisory committee minutes. All

documentation relating to the work of

the internal auditor will be provided

upon request to the external auditor and

NCUA.

§ 704.15 Contracts/written agreements.

Services, facilities, personnel, or

equipment shared with any party shall

be supported by a written contract, with

the duties and responsibilities of each

party specified and the allocation of

service fee/expenses fully supported

and documented.
20456 Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules

1A private-issued mortgage-backed security may

be treated as an indirect holding of the underlying

assets provided that: (1) The underlying assets are

held by an independent trustee and the trustee has

a first priority, perfected security interest in the

underlying assets on behalf of the holders of the

security; (2) either the holder of the security has an

undivided pro rata ownership interest in the

underlying mortgage assets or the trust or single

purpose entity (or conduit) that issues the security

has no liabilities unrelated to the issued securities;

(3) the security is structured such that the cash flow

from the underlying assets in all cases fully meets

the cash flow requirements of the security without

undue reliance on any reinvestment income; and (4)

there is no material reinvestment risk associated

with any funds awaiting distribution to the holders

§ 704.16 State-chartered corporate credit

unions.

(a) This part does not expand the

powers and authorities of any statechartered corporate credit union,

beyond those powers and authorities

provided under the laws of the state in

which it was chartered.

(b) A state-chartered corporate credit

union that is not insured by the

National Credit Union Share Insurance

Fund, but that receives funds from

federally insured credit unions, is

considered an ‘‘institution-affiliated

party’’ within the meaning of Section

206(r) of the Federal Credit Union Act,

12 U.S.C. 1786(r).

§ 704.17 Fidelity bond coverage.

(a) Scope. This section provides the

fidelity bond requirements for

employees and officials in corporate

credit unions.

(b) Review of coverage. The board of

directors of each corporate credit union

shall, at least annually, carefully review

the bond coverage in force to determine

its adequacy in relation to risk exposure

and to the minimum requirements in

this section.

(c) Minimum coverage; Approved

forms. Every corporate credit union will

maintain bond coverage with a company

holding a certificate of authority from

the Secretary of the Treasury. All bond

forms, and any riders and endorsements

which limit the coverage provided by

approved bond forms, must receive the

prior written approval of the NCUA

Board. The Corporate Credit Union

Discovery Bond (NCUA 100) and

Standard Form 24 with Credit Union

Bond Conversion Endorsement are

approved for use by corporate credit

unions. Credit Union Blanket Bond

Form 581 and Form 23—Extended

Form, may also be utilized by corporate

credit unions. Fidelity bonds must

provide coverage for the fraud and

dishonesty of all employees, directors,

officers, and supervisory and credit

committee members. Notwithstanding

the foregoing, all bonds must include a

provision, in a form approved by the

NCUA Board, requiring written

notification by surety to the Board:

When the bond of a credit union is

terminated in its entirety; or when bond

coverage is terminated, by issuance of a

written notice, on an employees,

director, officer, supervisory or credit

committee member. Said notification

shall be sent to the Secretary of the

NCUA Board or designee and shall

include a brief statement of cause for

termination.

(d) Minimum; coverage amounts. (1)

The minimum amount of bond coverage

will be computed based on the

corporate credit union’s average daily

assets as of December 31 of the

preceding year. The following table lists

the minimum requirements:

Net assets

Minimum

bond (million)

Less than $50 million ............... $1.0

$50—$99 million ....................... 2.0

$100—$499 million ................... 4.0

$500—$999 million ................... 6.0

$1.0—$1.999 billion .................. 8.0

$2.0—$4.999 billion .................. 10.0

$5.0—$9.999 billion .................. 15.0

$10—$24.999 billion ................. 20.0

$25.0 billion plus ....................... 25.0

(2) It is the duty of the board of

directors of each corporate credit union

to provide adequate protection to meet

its unique circumstances by obtaining,

when necessary, bond coverage in

excess of the above minimums.

(e) Reduced coverage; NCUA

approval. Any proposal for reduced

coverage must be approved in writing

by the NCUA Board at least 20 days in

advance of the proposed effective date

of the reduction.

(f) Deductibles. (1) The maximum

amount of deductibles allowed are

based on the corporate credit union’s

primary capital ratio as defined in

§ 704.12(a). The following table sets out

the maximum deductibles:

Primary capital

ratio Maximum deductible

Less than 4.0

percent.

7.5 percent of primary

capital.

4.0—7.99 percent 10.0 percent of primary

capital.

8.0—11.99 percent.12.0 percent of primary

capital.

Greater than 12.0

percent.

15.0 percent of primary

capital.

(2) A deductible may be applied

separately to one or more insuring

clauses in a blanket bond. Deductibles

in excess of those showing in this

section must have the written approval

of the NCUA Board at least 20 days

prior to the effective date of the

deductibles.

(g) Additional coverage. The NCUA

Board may require additional coverage

for any corporate credit union when, in

the opinion of the Board, current

coverage is insufficient. The board of

directors of the corporate credit union

must obtain additional coverage within

30 days after the date of written notice

from the NCUA Board.

§ 704.18 Effective date.

The regulations in this part are

effective beginning January 1, 1996.

Appendix A to Part 704—Summary of

Risk Weights and Risk Categories for

Corporate Credit Unions

Category 1: Zero Percent Risk Weight.

a. Coin and currency on hand or physically

in transit.

b. Balances due from and claims on

Federal Reserve Banks.

c. Claims on and portions of claims that are

unconditionally guaranteed by the U.S.

Government or its agencies.

d. Claims collateralized by cash or eligible

deposits.

e. CLF subscriptions, including U.S.

Central CLF Participation Certificates, and

CLF Pass-Through Loans from the CLF

through U.S. Central to the corporate credit

unions.

f. Asset Accounts related to Member

Reverse Repurchase Agreements without

indemnity obligation.

g. Accrued Interest Receivable on the

above.

Category 2: 20 Percent Risk Weight.

a. Items, other than coin and currency, in

process of collection.

b. Claims on or portions of claims

guaranteed by U.S. Government-sponsored

corporations and enterprises.

c. Claims conditionally guaranteed by the

U.S. Government or its agencies or U.S.

Government-sponsored corporations and

enterprises.

d. Claims or portions of claims (including

Repurchase Agreements) collateralized by

securities issued by the U.S. Government or

its agencies or U.S. Government-sponsored

corporations and enterprises.

e. General obligation claims on state and

local governments located in the United

States.

f. Claims on U.S. depository institutions

(including Federal Funds sold)

g. Claims on a corporate credit union.

h. Asset accounts related to Member

Reverse Repurchase Agreements with

indemnity obligation.

i. Asset-backed securities with remaining

weighted average lives of 3 years or less.

j. Secured loans to credit unions.

k. Accrued Interest Receivable on the

above.

Category 3: 50 Percent Risk Weight.

a. Asset-backed securities with remaining

weighted average lives greater than 3 years.

b. Privately-issued mortgage-backed

securities provided that: (1) The security is

structured so that it is treated as an indirect

holding of the underlying assets;1 (2) If the
Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules 20457

of the security. In addition, if the underlying assets

of a mortgage-backed security are composed of more

than one type of asset, for example, U.S.

Government-sponsored agency securities and

privately-issued pass-through securities that qualify

for the 50 percent risk category, the entire mortgagebacked security is generally assigned to the category

appropriate to the highest risk-weighted asset

underlying the issue. Thus, in this example, the

security would receive the 50 percent risk weight

appropriate to the privately-issued pass-through

securities.

security is backed by a pool of conventional

mortgages, 1- to 4-family residential, or

multifamily residential properties, each

underlying mortgage must have been made in

accordance with prudent underwriting

standards, be performing in accordance with

its original terms, and not be 90 days or more

past due or carried in nonaccrual status; (3)

If the security is backed by privately-issued

mortgage-backed securities, each underlying

security qualifies for the 50 percent risk

category at the time the pool is originated;

and (4) if the security is backed by a pool of

multifamily residential mortgages, principal

and interest payments on the security are not

30 days or more past due.

c. Accrued Interest Receivable on the

above.

d. Claims on foreign banks (including Fed

Funds sold).

Category 4: 100 Percent Risk Weight for All

Other Assets Including, but NOT LIMITED

to:

a. Loans to CUSOs outstanding as of

January 1, 1996.

b. Loans to and Investments in CSOs.

c. Unsecured loans to credit unions.

d. All fixed assets, including land,

buildings, furniture, fixtures, equipment,

automobiles, and leasehold improvements.

e. Permanent capital share account and

secondary capital share account investments

in a corporate credit union.

f. Any mortgage-backed securities that do

not meet the criteria for assignment to a

lower risk weight (including any classes of

mortgage-backed securities that can absorb

more than their pro rata share of loss without

the whole issue being in default).

g. Zero Coupon Securities.

h. Claims on U.S. chartered corporations

and bank holding companies, including

commercial paper and corporate bonds.

i. Mutual Funds that do not qualify for a

lower risk weighting.

j. Prepaid Assets.

k. Accounts Receivable and other

receivables.

l. NCUSIF Deposit

m. Mortgage servicing rights.

n. Intangible assets.

o. All other claims on private obligors.

p. Accrued Interest Receivable on the

above.

Appendix B to Part 704—Off-Balance

Sheet Credit Conversion Factors

Zero Percent Credit Conversion Factor:

Unused portions of credit lines with

original maturities of 6 months or less, or

which are unconditionally cancelable.

50 Percent Credit Conversion Factor:

a. Unused portions of credit lines with

original maturities exceeding 6 months.

b. Commitments to participate in a loan or

loan package.

100 Percent Credit Conversion Factor:

a. Irrevocable standby letters of credit

guaranteeing financial performance

(including VISA letters of credit issued by

corporate credit unions on behalf of their

members, or standby letters of credit backing

Industrial Revenue Bonds).

b. Forward Commitments to purchase an

asset or perform under a lease contract.

c. Securities held in safekeeping loaned

with indemnification. Other off-balance sheet

items will be addressed on a case-by-case

basis by NCUA.

Appendix C to Part 704—Model Forms

This appendix contains three sample forms

intended for use by corporate credit unions

to aid in compliance with the permanent

capital share account and secondary capital

share account disclosure requirements of

§ 704.2. Corporate credit unions that use

these forms will be in compliance with those

requirements.

C–1 Sample disclosure for opening of

secondary capital share account.

Terms and Conditions of Secondary

Capital Share Account

(1) A secondary capital share account is

not subject to share insurance coverage by

the NCUSIF or other deposit insurer.

(2) A member credit union may withdraw

shares from its secondary capital share

account only with two years’ notice, except

where the member credit union is merging or

liquidating. If a member credit union merges,

the corporate credit union will return the

member’s secondary capital shares, less any

penalty for early withdrawal, within 30 days

of written notification from NCUA.

(3) Secondary capital share accounts

cannot be used by member credit unions to

collateralize borrowings.

(4) Secondary capital share accounts are

available to absorb losses in the event of a

deficit in primary capital in the corporate

credit union.

(5) Where the corporate credit union is

liquidated, secondary capital share accounts

are payable only after satisfaction of all

liabilities of the liquidation estate including

uninsured obligations to shareholders and

the NCUSIF.

I have read the above terms and conditions

and I understand them. I further agree to

maintain in the credit union’s files the

annual notice of terms and conditions of the

secondary capital share account.

Signatures of Directors and Date

lllllllllllllllllllll

lllllllllllllllllllll

lllllllllllllllllllll

lllllllllllllllllllll

lllllllllllllllllllll

Name of member credit union:

lllllllllllllllllllll

Address of member credit union:

lllllllllllllllllllll

lllllllllllllllllllll

C–2 Sample annual notice of terms and

conditions of secondary capital share

account.

Terms and Conditions of Secondary Capital

Share Account

(1) A secondary capital share account is

not subject to share insurance coverage by

the NCUSIF or other deposit insurer.

(2) A member credit union may withdraw

shares from its secondary capital share

account only with two years’ notice, except

where the member credit union is merging or

liquidating. If a member credit union merges,

the corporate credit union will return the

member’s secondary capital shares, less any

penalty for early withdrawal, within 30 days

of written notification from NCUA.

(3) Secondary capital shares cannot be

used by member credit unions to collateralize

borrowings.

(4) Secondary capital share accounts are

available to absorb losses in the event of a

deficit in primary capital in the corporate

credit union.

(5) Where the corporate credit union is

liquidated, secondary capital share accounts

are payable only after satisfaction of all

liabilities of the liquidation estate including

uninsured obligations to shareholders and

the NCUSIF.

Mailed to member llllllllllll

Month/Year.

lllllllllllllllllllll

Signature of the Chairman of the Board

C–3 Sample disclosure for opening of

permanent capital share account.

Terms and Conditions of Permanent Capital

Share Account

(1) A permanent capital share account is

not subject to share insurance coverage by

the NCUSIF or other deposit insurer.

(2) Permanent capital shares are not

redeemable without the written concurrence

of NCUA.

(3) Permanent capital share accounts

cannot be used by member credit unions to

collateralize borrowings.

(4) Permanent capital share accounts are

available to absorb losses in the event of a

deficit in other primary capital accounts in

the corporate credit union.

(5) Where the corporate credit union is

liquidated, permanent capital share accounts

are payable only after satisfaction of all

liabilities of the liquidation estate including

uninsured obligations to shareholders and

the NCUSIF.

(6) Permanent capital share account

dividends are noncumulative.

I have read the above terms and conditions

and I understand them.

Signatures of Directors and Date

lllllllllllllllllllll

lllllllllllllllllllll

lllllllllllllllllllll

Name of member credit union:

lllllllllllllllllllll

Address of member credit union:

lllllllllllllllllllll

lllllllllllllllllllll

PART 741—REQUIREMENTS FOR

INSURANCE

2. The authority citation for part 741

continues to read as follows:
20458 Federal Register / Vol. 60, No. 80 / Wednesday, April 26, 1995 / Proposed Rules

Authority: 12 U.S.C. 1757, 1766, and 1781–

1790. Section 741.11 is also authorized by 31

U.S.C. 3717.

3. Section 741.3 is amended by

revising the heading and adding new

paragraph (c) to read as follows:

§ 741.3 Other requirements.

* * * * *

(c) Adhere to the requirements stated

in Part 703 of this chapter concerning

transacting business with corporate

credit unions.

[FR Doc. 95–10149 Filed 4–25–95; 8:45 am]

BILLING CODE 7535–01–P

DEPARTMENT OF TRANSPORTATION

Federal Aviation Administration

14 CFR Part 39

[Docket No. 94–NM–110–AD]

Airworthiness Directives; British

Aerospace Model Viscount 744, 745D,

and 810 Airplanes

AGENCY: Federal Aviation

Administration, DOT.

ACTION: Notice of proposed rulemaking

(NPRM).

SUMMARY: This document proposes the

adoption of a new airworthiness

directive (AD) that is applicable to all

British Aerospace Model Viscount 744,

745D, and 810 series airplanes. This

proposal would require repetitive

inspections to detect discrepancies of

certain fittings and the actuator beam

structure of the nose landing gear, and

replacement of discrepant parts. This

proposal is prompted by reports of

fatigue cracking of the undercarriage

bracing of the nose wheel. The actions

specified by the proposed AD are

intended to prevent such fatigue

cracking, which could result in the

failure of the structure and fittings, and

subsequent collapse of the nose landing

gear.

DATES: Comments must be received by

May 5, 1995.

ADDRESSES: Submit comments in

triplicate to the Federal Aviation

Administration (FAA), Transport

Airplane Directorate, ANM–103,

Attention: Rules Docket No. 94–NM–

110–AD, 1601 Lind Avenue, SW.,

Renton, Washington 98055–4056.

Comments may be inspected at this

location between 9:00 a.m. and 3:00

p.m., Monday through Friday, except

Federal holidays.

The service information referenced in

the proposed rule may be obtained from

British Aerospace Regional Aircraft Ltd.,

Engineering Support Manager, Military

Business Unit, Chadderton Works,

Greengate, Middleton, Manchester M24

1SA, England. This information may be

examined at the FAA, Transport

Airplane Directorate, 1601 Lind

Avenue, SW., Renton, Washington.

FOR FURTHER INFORMATION CONTACT:

William Schroeder, Aerospace Engineer,

Standardization Branch, ANM–113,

FAA, Transport Airplane Directorate,

1601 Lind Avenue, SW., Renton,

Washington 98055–4056; telephone

(206) 227–2148; fax (206) 227–1320.

SUPPLEMENTARY INFORMATION:

Comments Invited

Interested persons are invited to

participate in the making of the

proposed rule by submitting such

written data, views, or arguments as

they may desire. Communications shall

identify the Rules Docket number and

be submitted in triplicate to the address

specified above. All communications

received on or before the closing date

for comments, specified above, will be

considered before taking action on the

proposed rule. The proposals contained

in this notice may be changed in light

of the comments received.

Comments are specifically invited on

the overall regulatory, economic,

environmental, and energy aspects of

the proposed rule. All comments

submitted will be available, both before

and after the closing date for comments,

in the Rules Docket for examination by

interested persons. A report

summarizing each FAA-public contact

concerned with the substance of this

proposal will be filed in the Rules

Docket.

Commenters wishing the FAA to

acknowledge receipt of their comments

submitted in response to this notice

must submit a self-addressed, stamped

postcard on which the following

statement is made: ‘‘Comments to

Docket Number 94–NM–110–AD.’’ The

postcard will be date stamped and

returned to the commenter.

Availability of NPRMs

Any person may obtain a copy of this

NPRM by submitting a request to the

FAA, Transport Airplane Directorate,

ANM–103, Attention: Rules Docket No.

94–NM–110–AD, 1601 Lind Avenue,

SW., Renton, Washington 98055–4056.

Discussion

The Civil Aviation Authority (CAA),

which is the airworthiness authority for

the United Kingdom, recently notified

the FAA that an unsafe condition may

exist on all British Aerospace Model

Viscount 744, 745D, and 810 airplanes.

The CAA advises that reports have been

received of cracking in the bracing

structures of the nose wheel

undercarriage on these airplanes.

Investigation revealed that the cracking

was fatigue related, and that

deterioration of the structure also has

occurred. These conditions, if not

detected and corrected in a timely

manner, could result in the collapse of

the nose landing gear.

British Aerospace has issued Viscount

Alert Preliminary Technical Leaflet

(PTL) 331, VIS 1 Doc 12 (for Model 744

and 745D airplanes), and PTL 202, VIS

1 Doc. 4 (for Model 810 airplanes), both

dated November 1, 1991. These PTL’s

describe the following procedures:

1. Procedures for repetitive nondestructive testing (NDT) inspections to

detect cracking of the actuator

attachment fittings of the nose landing

gear.

2. Procedures for repetitive visual

inspections to detect signs of structural

deterioration of the central diaphragms

of the actuator beam structure.

3. Procedures to detect elongation,

cracking, buckling in the central

diaphragms and reinforcing angles, and

loosening of fasteners of the mounting

bolt holes of the actuator attachment.

And

4. Procedures for replacement of

deteriorated or cracked parts with new

parts. The CAA classified these alert

PTL’s as mandatory in order to assure

the continued airworthiness of these

airplanes in the United Kingdom.

This airplane model is manufactured

in the United Kingdom and is type

certificated for operation in the United

States under the provisions of § 21.29 of

the Federal Aviation Regulations (14

CFR 21.29) and the applicable bilateral

airworthiness agreement. Pursuant to

this bilateral airworthiness agreement,

the CAA has kept the FAA informed of

the situation described above. The FAA

has examined the findings of the CAA,

reviewed all available information, and

determined that AD action is necessary

for products of this type design that are

certificated for operation in the United

States.

Since an unsafe condition has been

identified that is likely to exist or

develop on other airplanes of the same

type design registered in the United

States, the proposed AD would require

repetitive inspections to detect

discrepancies of certain fittings and the

actuator beam structure of the nose

landing gear, and replacement of

discrepant parts. The actions would be

required to be accomplished in

accordance with the alert PTL’s

described previously.