Federal Deposit Insurance Act: FTC Best Among Candidates to Enforce Consumer Protection Provisions
Released: 2003-08-20T00:00:00

Letter

Background

Under federal and state laws, all federally chartered depository institutions and the vast majority of state-chartered institutions are required to have federal deposit insurance. The federal deposit insurance funds were established to restore and maintain depositors’ confidence in the banking system by providing a government guarantee of deposits. This guarantee insures that a person’s money on deposit with an insured institution, within certain limits, would be safe and helps negate the need for depositors having to assess the financial condition of their financial institution. FDIC administers the Bank Insurance Fund (BIF) and the Savings Association Insurance Fund (SAIF). Deposit accounts maintained at banks and thrifts generally are federally insured, regardless of who charters the institution. Similarly, credit unions that are federally chartered must be federally insured by the National Credit Union Share Insurance Fund (NCUSIF), which is administered by NCUA. Almost all (98 percent) credit unions are federally insured. As of December 2002, 9,688 credit unions were federally insured, with about 81 million members and $483 billion in deposits.

However, in our survey of the 50 state regulators, we found that not all states require federal deposit insurance for credit unions they charter. As of December 2002, 212 credit unions—about 2 percent of all credit unions—chose to purchase private deposit insurance. These privately insured credit unions are located in eight states and had about 1.1 million members with deposits totaling about $10.8 billion, as of December 2002— a little over 1 percent of all credit union members and 2 percent of all credit union deposits. We identified nine additional states that could permit credit unions to purchase private deposit insurance through our survey of 50 state regulators and subsequent discussions with state regulators. Figure 1 illustrates the states that permit or could permit private deposit insurance as of March 2003 and the number of privately insured credit unions as of December 2002.

The number of privately insured credit unions and private deposit insurers has declined significantly since 1990. In 1990, 1,462 credit unions in 23 states purchased private deposit insurance from 10 different nonfederal, private insurers. At that time, deposits at these credit unions totaled $18.6 billion—73 percent more than the total of privately insured deposits as of December 2002. Shortly after the failure of Rhode Island Share and Depositors Indemnity Corporation (RISDIC), a private deposit insurer in Rhode Island in 1991, almost half of all privately insured credit unions converted to federal deposit insurance voluntarily or by state mandate. As a result of the conversions from private to federal deposit insurance, most private deposit insurers have gone out of business due to the loss of their membership since 1990 and only one company—ASI—currently offers private primary deposit insurance.

ASI has a statutory charter granted by the State of Ohio. ASI is licensed by the Ohio Superintendent of Insurance and is subject to oversight by that department and Ohio’s Superintendent of Credit Unions. Unlike federal deposit insurance, which is backed by the full faith and credit of the United States, ASI’s insurance fund is not backed by the full faith and credit of any governmental entity. Also, in contrast to federal deposit insurance, which covers up to $100,000 in an insured account, the coverage amount provided by ASI is subject to a $250,000 statutory cap in Ohio law.

Depository institutions lacking federal deposit insurance—privately insured credit unions—do not directly present a risk to the respective federal deposit insurance funds and do not pay for participation in those funds. Accordingly, they are not subject to supervision by the agencies that administer those funds. The Federal Credit Union Act contains criteria for credit unions applying for federal deposit insurance from NCUA and requires NCUA to consider a list of factors before approving an application to become federally insured. For example, NCUA must assess the credit union’s financial condition, the adequacy of reserves, the fitness of management, and the convenience and needs of the members to be served by the institution. To continue to be eligible for federal deposit insurance, credit unions must continue to comply with NCUA regulations for measures of net worth, prompt corrective action requirements, and rules governing investment and deposit activities.

Section 43 Requirements

Section 43 imposes requirements on depository institutions lacking federal deposit insurance and private deposit insurers and assigns FTC with the responsibility for enforcing compliance with these provisions. Specifically, section 43 requires depository institutions lacking federal deposit insurance to Include conspicuously on all periodic account statements, signature cards, passbooks, certificates of deposits, or similar instruments evidencing a deposit, a notice that the institution is not federally insured and that if the institution fails, the federal government does not guarantee that depositors will get back their money; Include conspicuously in all advertising and where deposits are normally received a notice that the institution is not federally insured; and Obtain a written acknowledgement from depositors that the institution is not federally insured and that if the institution fails, the federal government does not guarantee that the depositor will get back their money.

In addition, section 43 prohibits institutions lacking federal deposit insurance from engaging in interstate commerce unless the appropriate supervisor of the institution’s charter state has determined that the institution meets all eligibility requirements for federal deposit insurance. This prohibition is referred to as the “shut-down” provision.

With respect to private deposit insurers, section 43 requires each insurer to Obtain an annual audit from an independent auditor using generally accepted auditing standards that includes a determination of whether the private deposit insurer follows generally accepted accounting principles and has set aside sufficient reserves for losses; and Distribute copies of the audit report to each depository institution it insures and to the appropriate supervisory agency of each state in which such an institution receives deposits, within specified time frames.

With respect to FTC, section 43 Requires the Commission to prescribe “the manner and content of disclosure required under the section” in order to “ensure that current and prospective customers understand the risks involved in forgoing federal deposit insurance;”

Assigns to FTC the responsibility to enforce compliance with the section under the Federal Trade Commission Act (FTC Act); Authorizes FTC to determine that an institution not chartered as a depository institution nonetheless is subject to the section, referred to as the look-alike provision; and Authorizes FTC, in consultation with FDIC, to exempt an institution from the shut-down provision.

Since being charged with the responsibility to enforce and implement these requirements, FTC has requested Congress to prohibit it from enforcing these provisions. In response, FTC’s appropriation language, since 1993, has contained provisions prohibiting it from using funds to implement these provisions.

FTC has authority to enforce a variety of federal antitrust and consumer protection laws. According to FTC, it works to enhance the smooth operation of the marketplace by eliminating acts or practices that are unfair or deceptive, and its efforts have been directed toward stopping actions that threaten consumers’ opportunities to exercise informed choice. The FTC Act charges FTC with responsibility for preventing the use of unfair methods of competition and unfair or deceptive acts or practices. That act, however, provides that FTC’s powers generally do not extend to depository institutions—banks, thrifts, and federal credit unions—which typically are beyond FTC’s authority. In addition, one section of the FTC Act has been interpreted to mean that FTC does not have jurisdiction over nonprofit corporations.

NCUA and State Regulators Imposed Related Disclosure and Audit Requirements

Consistent with its appropriations authority prohibiting FTC from enforcing section 43, FTC has not implemented regulations or orders to prescribe the manner and content of required disclosures; to date, FTC has not brought any enforcement cases as a result of the identification of noncompliance with the disclosure, shut-down, and annual audit provisions. As part of this review, we also ascertained whether other laws or rules impose requirements similar to those of section 43. We found that NCUA and state regulators have imposed disclosure and audit requirements on state-chartered credit unions and private deposit insurers that, while not comparable to section 43 requirements, help achieve the objectives of section 43.

For example, NCUA imposes notification requirements on federally insured credit unions seeking to convert to private deposit insurance. NCUA requires these credit unions to notify their members, in a disclosure, that if the conversion were approved, the federal government would not insure deposits. Specifically, under the Federal Credit Union Act, if a federally insured credit union terminates federal deposit insurance or converts to nonfederal (private) insurance, the institution must give its members “prompt and reasonable notice” that the institution has ceased to be federally insured. NCUA rules implement these provisions by prescribing language to be used in (1) the notices of the credit union’s proposal to terminate federal deposit insurance or convert to nonfederal (private) insurance, (2) an acknowledgement on the voting ballot of the member’s understanding that federal deposit insurance will terminate, and (3) the notice of the termination or conversion. Under NCUA’s rules, the prescribed language is to include a statement apprising members that their accounts no longer would be federally insured. Other language to be included on the notice of a proposal to convert to private deposit insurance and on the related voting ballot is to state that NCUA’s insurance is backed by the full faith and credit of the United States and that the private deposit insurance is not backed by the full faith and credit of the United States.

While NCUA’s disclosure requirements provide some assurance that current members of credit unions converting to private deposit insurance are notified of the lack of federal deposit insurance coverage, these NCUA regulations do not apply to institutions that never were federally insured. In addition, disclosures contained in NCUA’s required notifications are not as extensive as disclosures required under section 43. NCUA disclosure pertains to a specific event (termination of insurance or conversion to private deposit insurance) and is provided only to those individuals who are members of the credit union at the time of the event. Section 43, on the other hand, requires disclosure to all members who are depositors, including those individuals who become members after the credit union has terminated federal deposit insurance. Section 43 also requires that depositors acknowledge in writing that the institution is not federally insured and that no federal guarantee exists. In addition, under section 43, an institution’s lack of federal deposit insurance must be stated, on an ongoing basis, in periodic account statements, signature cards, passbooks and instruments evidencing a deposit, and in advertising and displays.

In our review of Ohio’s law, we noted that Ohio imposes certain disclosure requirements about the insured status of depository accounts. Ohio law requires credit union brochures that include the name of the private deposit insurer to also include a specific notice: “Members Accounts Are Not Insured or Guaranteed by Any Government or Government-sponsored Agency.” The requirements we reviewed, like Ohio law, typically do not require disclosure of the same information or in the same manner as is required by section 43.

Ohio also imposes several requirements on the remaining private deposit insurer, ASI. For example, Ohio requires ASI to submit annual audited financial statements and quarterly unaudited financial statements to Ohio regulators. While this annual audit requirement is similar to the section 43 provision, Ohio does not require private deposit insurers to distribute this information to the appropriate supervisory agency of each state in which it insures deposits nor to depository institutions in which it insures deposits.

Compliance with Section 43 Provisions Varied; Potential Impact on Consumers Most Evident in Credit Union Noncompliance with Disclosure Requirements

Compliance with section 43 disclosure, shut-down, and annual audit requirements varied considerably. The most likely impact on consumers from the lack of enforcement of these provisions may result from credit unions not providing adequate disclosures about not being federally insured. We found that many privately insured credit unions have not always complied with the disclosure requirements in section 43 that are designed to notify consumers that the deposits in these institutions are not federally insured. While state regulators and ASI officials reported monitoring whether privately insured credit unions disclosed the lack of federal deposit insurance to depositors, we found that these actions varied and did not ensure that all credit unions complied with required disclosures. As a result, depositors at some privately insured credit unions may not be adequately informed that deposits at these institutions are not federally insured. Regarding the shut-down provision, state regulators reported to us that they did not make explicit determinations of insurability but we found that such a determination may not provide a meaningful protection for consumers. The remaining private deposit insurer complied with the annual audit requirements, making it possible for state regulators and member credit unions to become informed about the insurer’s financial condition. Therefore, the lack of enforcement of this provision appears to have had no direct effect on consumers.

The Lobbies, Materials, and Web Sites of Many Privately Insured Credit Unions Lacked Disclosures as Required under Section 43

Section 43 requires privately insured credit unions to disclose to their members that deposits at these institutions are (1) not federally insured and (2) if the institution fails, the federal government does not guarantee that depositors will get back their money. Specifically, these institutions are required to disclose this information at places where deposits are normally received (lobbies) and on signature cards, and on instruments evidencing a deposit (deposit slips). Advertising (brochures and newsletters) must also contain the statement that the institutions are not federally insured. We conducted unannounced site visits to 57 locations of privately insured credit unions (49 main and 8 branch locations) in five states—Alabama, California, Illinois, Indiana, and Ohio. On our visits we looked to see whether credit unions lacking federal deposit insurance had disclosed to their members that the institution was not federally insured and that the federal government did not guarantee their deposits. We found that many privately insured credit unions we visited did not conspicuously disclose this information. Specifically, as shown in table 1, 37 percent (21 of 57) of the locations we visited did not conspicuously post signage in the lobby of the credit union.

Credit unions’ compliance with this requirement varied by state. For example, six of the 21 sites visited in California—or 29 percent—did not display the required notices, while three of the five sites visited in Alabama—or 60 percent—did not display conspicuous signage in their lobbies.

On our visits to these credit unions, we also obtained other available credit union materials (brochures, membership agreements, signature cards, deposit slips, and newsletters) that did not include language to notify consumers that the credit union was not federally insured—as required by section 43. Overall, 134 of the 227 pieces of material we obtained from 57 credit union locations—or 59 percent—did not include specified language. Specifically, 20 of 32 signature cards we obtained from 31 credit unions, and 19 of 20 deposit slips we obtained from 18 credit unions did not include specified language (see table 2).

As part of our review, we also reviewed 78 Web sites of privately insured credit unions and found that many credit union Web sites were not fully compliant with section 43 disclosure requirements. For example, 39 of the 78 sites had not included language to notify consumers that the credit union was not federally insured. Specifically, in six of the eight states we reviewed, more than half of the Web sites identified and analyzed in each state were not compliant (see table 3).

While these results were not obtained from a statistically valid sample that would allow us to project the extent of compliance to all privately insured credit unions, these findings are robust enough, both in the aggregate and within each state, to raise concern about the lack of required disclosures by privately insured credit unions.

Monitoring Efforts over Disclosures by Privately Insured Credit Unions Varied

The extent to which state regulators and ASI officials monitored whether privately insured credit unions disclosed the lack of federal deposit insurance to depositors varied. State regulators in Alabama, California, Idaho, Indiana, Maryland, Nevada, and Ohio reported that during state examinations of credit unions, their examiners looked to see whether privately insured credit unions disclosed the lack of federal deposit insurance to depositors. However, according to these state regulators, state examination procedures did not include specific guidance on how to determine if credit unions were compliant with disclosure requirements in section 43. Also, state regulators reported that although they monitored disclosures at privately insured credit unions, they generally had not enforced these requirements. Since we observed poor compliance with section 43 disclosure requirements in our site visits, oversight by state regulators has not provided sufficient assurance that privately insured credit unions are adequately disclosing that their institutions are not federally insured.

ASI officials told us that they had developed materials that explained the disclosure requirements of section 43 to assist credit unions it insured to comply with these requirements. ASI officials reported that they provide these materials to credit unions when they convert to private deposit insurance and to other credit unions that requested these materials. Among other things, these materials inform credit unions of the specific disclosure requirements and include samples of on-premise signage. However, our review of ASI’s samples for on-premise signage found that not all samples included language to notify consumers that the credit union was not federally insured.

ASI’s on-site audit program included specific guidance on how to determine if credit unions were compliant with disclosure requirements in section 43. In our review of two ASI examination files, we observed that ASI officials had noted that these two credit unions in Nevada had not included language on credit union materials, such as signature cards, stating that the institution is not federally insured and that if the institution fails, the federal government does not guarantee that depositors will get back their money. In our follow-up discussions with ASI management, they indicated that while ASI officials made some notes regarding compliance when conducting on-site exams—as in the examination files on the Nevada credit unions—they did not take action to enforce these federal requirements.

Credit Unions Do Not Appear to Have Obtained State Determinations of Insurability, but Impact on Consumers May Be Limited

The shut-down provision of section 43 prohibits depository institutions lacking federal deposit insurance from engaging in interstate commerce unless the institution’s state regulator has determined the institution’s eligibility for federal deposit insurance. To be eligible for federal deposit insurance, NCUA must, among other things, assess the credit union’s financial condition, the adequacy of reserves, the fitness of management, and the convenience and needs of the members to be served by the institution. It appears that privately insured credit unions have not obtained this determination from their state regulators. One could question, however, whether the states could or should make the determination that institutions meet the standards for federal deposit insurance. Even if the state applied federal deposit insurance eligibility criteria in making the determination for credit unions, the determination may not necessarily provide a meaningful protection for consumers; however, other actions were taken to ensure the health of privately insured credit unions.

Section 43 calls for a one-time eligibility determination and does not require an ongoing state assessment of the institutions’ compliance with federal deposit insurance eligibility requirements. Because this is a one- time determination, it does not ensure that credit unions would remain eligible for federal deposit insurance. Other circumstances also indicate that consumers might not benefit from the eligibility determination. For example, when an institution converts from federal deposit insurance to private deposit insurance, such an eligibility determination would be redundant because the institution had been eligible for federal deposit insurance before it became privately insured. According to ASI, between 1992 and 2002, 27 credit unions converted from federal to private deposit insurance. In these cases, it would be doubtful that an eligibility determination would benefit consumers.

State regulators also told us that while they had not made explicit determinations that these privately insured credit unions had met eligibility requirements for federal deposit insurance, they imposed safety and soundness standards on credit unions lacking federal deposit insurance, which the regulators believed generally satisfied the criteria for federal deposit insurance. For example, these regulators reported that they applied the same examination and supervision process to all state- chartered credit unions—regardless of deposit insurance status. In addition, these states had adopted NCUA’s examination program and their examiners had received training from NCUA. However, implementation of NCUA’s examination program does not fully insure that those institutions meet all federal deposit insurance eligibility standards. For example, besides assessing a credit union’s financial condition and the adequacy of its reserves when making insurability determinations, NCUA is also required to factor in membership considerations such as the convenience and needs of the members to be served by the institution.

Some states also had an approval process for credit unions seeking to purchase private deposit insurance. Alabama, Illinois, and Ohio had written guidelines for credit unions seeking to purchase private deposit insurance. The other five states that permitted private deposit insurance did not have written guidelines for credit unions seeking to purchase private deposit insurance, but Idaho, Indiana, and Nevada state regulators noted that they had the authority to “not approve” a credit union’s purchase of private deposit insurance.

Additionally, ASI had several strategies in place to oversee the credit unions it insured. Specifically, ASI regularly conducted off-site monitoring and conducted on-site examinations of privately insured credit unions at least every 3 years. It also reviewed state examination reports for the credit unions it insured, and imposed strict audit requirements. For example, ASI required an annual CPA audit for credit unions with $20 million or more in assets, while NCUA only required the annual audit for credit unions with more than $500 million in assets. ASI also had targeted its monitoring of its largest and smallest credit unions. For larger credit unions, those with more than 10 percent of ASI’s total insured shares, ASI planned to conduct semiannual, on-site examinations and monthly and quarterly off-site monitoring, including a review of audits and financial statements. In January 2003, five credit unions comprising about 40 percent of ASI’s total assets qualified for this special monitoring. In January 2003, ASI also began a monitoring strategy intended to increase its oversight of smaller credit unions. First, ASI assigned a risk level to credit unions it insured (low, moderate, or high) and then used this assessment to determine the extent and frequency of oversight at the credit union. In January 2003, ASI had determined that 98 credit unions qualified for this monitoring, with shares from the largest of these credit unions totaling about $23 million.

Since the above actions were taken to ensure the health of privately insured credit unions, the effect on consumers from the lack of enforcement of this provision may be negligible.

Remaining Private Deposit Insurer Complied with Federal Audit Requirements

The remaining private deposit insurer has complied with the audit requirements under section 43, which requires private deposit insurers to obtain an annual audit and provide it to state regulators and the management of privately insured credit unions within certain time frames. Among other things, the audit must be conducted by an independent auditor using generally accepted auditing standards and include a determination of whether the insurer follows generally accepted accounting principles and has set aside sufficient reserves for losses. The private deposit insurer must provide a copy of the report to each depository institution it insures not later than 14 days after the audit is completed. Also, the private insurer must provide a copy of the report to the “appropriate supervisory agency” of each state in which such an institution receives deposits not later than 7 days after the audit is completed.

We found that the audits obtained by ASI for 1999, 2000, 2001, and 2002 complied with this federal requirement. Specifically, these audits noted that the reviewed consolidated financial statements presented fairly, in all material respects, ASI’s financial position and the results of their operations and cash flows for the years reviewed in conformance with accounting principles generally accepted in the United States. Further, appropriate state regulators and the management of some privately insured credit unions told us that ASI had provided them copies of the annual audits in accordance with the requirement. Since the private deposit insurer has obtained and distributed the audit as required, it has given state regulators and the management of privately insured credit unions the opportunity to become informed about the financial condition of the private deposit insurer. This could help ensure the safety and soundness of ASI—which, in turn, protects consumers. It appears consumers have suffered no negative impact from the nonenforcement of this provision.

Although There Is No Ideal Regulator to Enforce Section 43, FTC Is Best among Candidates to Enforce Provisions

In evaluating which agency should enforce section 43, we did not find an agency that was ideally suited to carry out the responsibilities set forth in the provision. Although FTC, NCUA, and FDIC officials generally agreed that consumers should receive proper notification about the insured status of their deposits, they maintained that their respective agencies should not be charged with responsibility for implementing and enforcing section 43. NCUA and FDIC oppose having any responsibilities under section 43 because such a role would result in a regulatory conflict of interest and would be inconsistent with their missions and the section’s purpose. Credit union industry representatives believe that FTC is the appropriate federal agency to enforce section 43. FTC staff stated that questions about the Commission’s authority under section 43 and the Commission’s lack of expertise to administer the section justify removing FTC from any responsibilities under the provision. The staff asserted that other federal agencies are more qualified to carry out the section. Based on our review of these concerns, we believe FTC is the best among these candidates to enforce these provisions; however, clarifying FTC’s authority and providing it with additional flexibility in administering these provisions could better ensure effective enforcement of these provisions.

NCUA and FDIC Oppose Having Enforcement Responsibility under Section 43

NCUA has taken the position that it should not be responsible for enforcing section 43. In our discussions with NCUA officials, they offered several reasons why NCUA should not be charged with enforcing section 43. They expressed concern that placing the responsibility with NCUA would closely identify NCUA with uninsured credit unions and, in turn, create the potential for confusion as to whether an institution was federally insured. The officials also maintained that if NCUA were responsible for enforcing and implementing the section, the costs would be passed on to federally insured credit unions. In addition, the officials stated that NCUA regulation of a private insurer would result in a regulatory conflict of interest that might erode confidence in NCUA’s authority. They said that if the private deposit insurance system were to fail while under NCUA’s purview, confidence in NCUA, as well as federal deposit insurance for credit unions, could weaken to a point that it could have a devastating impact on the financial health of the credit union system.

In our discussions with FDIC officials, they expressed several reasons— similar to those presented by NCUA—why FDIC should not be charged with enforcing section 43. First, FDIC officials noted that FDIC insures the deposits at banks and savings associations—but does not regulate or supervise credit unions or insure deposits at these institutions. Officials also expressed concern that placing the responsibility with FDIC would closely identify a federal agency with uninsured credit unions and, in turn, create the potential for confusion as to whether an institution was federally insured.

Industry Views on Private Deposit Insurance and the Enforcement of Section 43 Requirements

While officials from the National Association of Federal Credit Unions (NAFCU) oppose the option of private primary deposit insurance for credit unions, NAFCU officials believe that since private primary deposit insurance is an option, then section 43 requirements are important and FTC should enforce these requirements for several reasons. NAFCU officials believe that members of privately insured credit unions should be adequately informed that deposits in these institutions are not federally insured. NAFCU officials stated that the enforcement of the provisions in section 43 requires an expertise in “consumer protections” and “deceptive practices.” NAFCU takes the position that FTC has this expertise and, further, that the entity does not need expertise in “safety and soundness of depository institutions.” NAFCU officials also believe that federal financial regulators, such as NCUA and FDIC, are not the appropriate oversight entities for issues related to private deposit insurance because their involvement would imply federal backing. Further, the involvement of NCUA or FDIC in the enforcement of the requirements in section 43 could create conflict between the federal and private insurer. NAFCU officials commented, however, that it would be beneficial for FTC to consult with FDIC and NCUA regarding the enforcement of these requirements because of their expertise. Regarding enforcement, NAFCU officials believe that state regulators could be involved in, but not solely responsible for, enforcing certain section 43 requirements. For example, during state exams of credit unions, examiners could determine if the credit union were compliant with disclosure and insurability requirements of section 43 and then submit a certification to FTC.

Credit Union National Association (CUNA) and National Association of State Credit Union Supervisors (NASCUS) support the option of private deposit insurance for credit unions and believe that the requirements in section 43 are important and that FTC should enforce the requirements in section 43. CUNA’s public position is that it supports the option of private deposit insurance because the association believes “it is an integral part of the dual-chartering system for credit unions (the system allowing credit unions meaningful choice between a state and federal charter).” NASCUS also supports the option of private deposit insurance for credit unions because the association thinks credit unions should have a choice when it comes to deposit insurance. Specifically, NASCUS believes that if there was only a single insurer (such as NCUA) this would create a uniform approach, thus obviating state choice, and could revert to a rigid framework.

Tying NCUA and FDIC Insurance to the Regulation of Uninsured Entities Presents a Conflict of Interest

As the agencies charged with administering and safeguarding their respective insurance funds, NCUA and FDIC have an interest in seeing that the public does not lose confidence in the federal deposit insurance system. The section 43 disclosure requirements help protect this interest by imposing measures designed to inform depositors at nonfederally insured institutions that their deposits are not backed by the federal government. To the extent that institutions comply with section 43, there is a reduced risk that depositors in nonfederally insured institutions would mistakenly believe that their deposits are federally insured. Because section 43 protects NCUA and FDIC interests, it can be argued that those agencies should be responsible for enforcing the provision. Although that proposition has some merit, we have no reason to disagree with statements by NCUA and FDIC officials that placing both private insurers and institutions lacking federal deposit insurance under the jurisdiction of NCUA and FDIC could increase the risk of depositor confusion and create the potential for a loss of public confidence in the federal deposit insurance system. Moreover, assigning responsibility to NCUA and FDIC would mean that federally insured depositary institutions would subsidize the regulation of nonfederally insured institutions. However, we recognize that deciding who pays the cost for regulating nonfederally insured institutions is a complicated issue.

Some observers have asserted that if NCUA were responsible for regulating the disclosures required by section 43, a depositor’s knowledge that the disclosure was prescribed by NCUA could generate confusion as to NCUA’s relationship with a nonfederally insured institution. The identity of the federal agency may be of no consequence because the consumer might not understand, or even be aware of, which federal agency prescribed the disclosure requirements. However, should NCUA determine, as FTC has, that section 43 calls for substantial disclosure of the risks relating to a specific depository institution and its insurer, NCUA would risk significant exposure to conflict of interest charges. For example, if NCUA were to impose requirements on privately insured credit unions that were considered by states or institutions to be too stringent, its partiality as a regulator would be questioned. The costs of compliance with such requirements could cause privately insured institutions to turn to federal deposit insurance, thus adversely affecting the private deposit insurer, NCUA’s competitor.

We recognize that in two instances Congress has chosen NCUA to implement laws that apply to credit unions regardless of whether they are federally insured. The Truth in Savings Act (TISA) requires that NCUA implement its provisions with respect to all credit unions, regardless of who insures them. The Home Mortgage Disclosure Act (HMDA) also charges NCUA with implementing responsibility for all credit unions regardless of their insured status. See appendix II for an illustration of who is responsible for the enforcement of various laws at credit unions. NCUA has promulgated regulations implementing TISA and issued guidelines for credit union reporting under HMDA. By implementing these laws, NCUA has demonstrated the capacity to regulate operations of credit unions it does not insure. Moreover, the cost of enforcing these laws with respect to nonfederally insured credit unions is passed on to insured credit unions. It is particularly noteworthy that NCUA’s TISA regulations require specific disclosures about the terms and conditions of deposit accounts at both federally and nonfederally insured institutions. However, NCUA’s administration of those laws does not present the same potential or perceived conflict of interest. The requirements under those laws apply equally to federally insured and nonfederally insured institutions. In contrast, regulations under section 43 would, by definition, treat the institutions differently and expose NCUA to a regulatory conflict of interest.

The regulatory conflict of interest also would exist with respect to NCUA enforcement of the audit provision. NCUA would be regulating its competition. If NCUA, like FTC, were to consider enforcement of the requirement as called for by evaluating the conclusions of the audit or scrutinizing the financial health of the insurer, NCUA’s action would be inherently suspect. In addition to the regulatory conflict of interest, closely associating NCUA with nonfederally insured institutions could have an undesirable “shadow effect.” For example, if NCUA were to be responsible for reviewing the private insurer’s audit report, NCUA would be closely associated with determinations about the financial health of the private deposit insurer. Should the insurer, which is subject to state regulation, fail to honor its insurance commitments, NCUA’s credibility as a regulator would be compromised.

Concerns about a regulatory conflict of interest also would accompany NCUA actions involving the shut-down requirement. The agency would be closely associated with liquidating institutions it does not insure and safeguarding deposits it does not protect. In effect, NCUA would be shutting down the institutions that are members of the agency’s competition—the private deposit insurer. Similarly, NCUA enforcement of the look alike provision could be seen as an attempt by the agency to eliminate entities that compete with federally insured credit unions.

NCUA’s concern that its enforcement of section 43 would require federally insured institutions to subsidize the regulation of institutions that forgo insurance, in part involves a question of a level playing field; that is, federally insured institutions would be forced to pay the cost of regulating competitors who may benefit from avoiding federal deposit insurance. This concern also touches on other considerations. For example, this additional cost could act as an incentive for federally insured credit unions to convert to private deposit insurance. However, who pays for the oversight of nonfederally insured institutions is a more complicated issue, because federally insured institutions could also benefit from clarifying for consumers the insurance status of these institutions, and if FTC oversees nonfederally insured institutions, taxpayers bear the costs.

FTC Opposes Having to Implement and Enforce Section 43

Section 43 specifies that FTC shall enforce compliance with its requirements, and any regulations or orders issued under it. In addition, the section charges FTC with specific responsibilities. FTC is to prescribe “the manner and content of disclosure required under the section” in order to “ensure that current and prospective customers understand the risks involved in forgoing federal deposit insurance.” Also, the section authorizes FTC, in consultation with FDIC, to exempt an institution from the shut-down provision. In addition, section 43 authorizes FTC to determine that an institution not chartered as a depository institution nonetheless can be subject to the section. FTC staff told us that because of questions about the Commission’s authority under section 43 and the Commission’s lack of expertise to carry out the section in accordance with the staff’s perception of what the section requires, FTC is not the appropriate federal agency to enforce the section.

FTC Staff Said That Questions about the Commission’s Authority under Section 43 Could Interfere with Its Ability to Enforce the Section

According to FTC staff, the language of section 43 charging the Commission with responsibility for enforcing the section (charging provision) contains an ambiguity that could lead to challenges against the Commission’s authority under the section. As noted above, the charging provision specifies that the FTC shall enforce section 43 “under the Act.” The FTC Act, however, limits the Commission’s jurisdiction in ways that are inconsistent with FTC’s responsibilities under section 43. For example, FTC and federal courts have interpreted the FTC Act to mean that the Commission has no jurisdiction over nonprofit entities, a group that includes credit unions. Another provision of the FTC Act (Section 6), which authorizes FTC to conduct investigations, require reports and promulgate rules and regulations to carry out the FTC Act, expressly excludes the business of insurance from those authorities except under very limited circumstances. According to FTC staff, this limitation raises questions about the Commission’s authority to enforce the audit provision in section 43, which applies specifically to private insurers.

FTC staff said that FTC’s jurisdiction with respect to the audit provision, as well as disclosures about deposit insurance, also would be subject to challenge because of limitations the McCarran-Ferguson Act imposes on federal laws that relate to the business of insurance. Under the McCarran- Ferguson Act, a federal law applicable to the business of insurance can be preempted by a state insurance law. Specifically, the McCarran-Ferguson Act precludes application of a federal statute in the face of a state law “enacted . . . for the purpose of regulating the business of insurance,” if the federal measure does not “specifically relate to the business of insurance,” and would “invalidate, impair, or supersede” the state’s law. The act also specifies that the FTC Act is applicable to the business of insurance “to the extent that such business is not regulated by State law.” According to FTC staff, this latter provision displaces application of the FTC Act where there is state regulation of the business of insurance. The staff explained that FTC’s authority under section 43 is unclear because the section requires FTC to enforce the deposit insurance disclosure requirements and the audit provision “under the Act” even though the FTC Act does not apply to insurance. FTC staff believe that enforcement of the disclosure provisions could be subject to challenge in states that regulate deposit insurance, and that enforcement of the audit provision would be subject to challenge because the State of Ohio specifically regulates the only private deposit insurer, ASI.

FTC Staff Raised Practical Concerns about the Commission’s Ability to Carry Out Section 43

FTC staff raised several concerns about the Commission’s ability to carry out section 43 responsibilities. One concern relates to the manner in which FTC would exercise its rulemaking authority under the section. Section 43 does not specify the authority under which FTC’s implementing rules should be promulgated. To the extent that the Commission’s rulemaking authority under the section is subject to requirements of the FTC Act, FTC staff made two points. They noted that the Commission’s general rulemaking authority under the FTC Act may be exercised only “for purposes of carrying out the provisions of .” The Commission also has special rulemaking authority under section 18 of the FTC Act with respect to unfair or deceptive acts or practices. That section contains specific procedures FTC must follow in prescribing rules that define unfair or deceptive acts or practices. Among other things, section 18 requires that Commission rules define such acts or practices with specificity and establishes rigorous procedures for issuing the rules. FTC staff asserted that without specific guidance from Congress as to the Commission’s rulemaking authority, the Commission could face having to promulgate rules under section 43 in accordance with the requirements in section 18 of the FTC Act. They stated that because the separate rulemaking authorities involve different procedures and authorize different remedies, the absence of guidance in this area makes it difficult for FTC to carry out its rulemaking responsibilities under section 43.

FTC staff also raised concerns that section 43 requires the Commission to engage in activities that are incompatible with the manner in which FTC undertakes its consumer protection mission or are beyond FTC’s expertise. According to the staff, section 43 calls upon FTC to engage in activities more suitable for a supervisor of depository institutions. These include reviews of insurance company accounting practices and audits, supervisory examinations or inspections, specification of disclosures that should include the risk profiles of depository institutions and their private deposit insurers, and the regulation and possible closure and liquidation of depository institutions and other entities that could be mistaken for depository institutions (such as securities firms that offer accounts with deposit account characteristics). The staff asserted that these responsibilities call for close supervision by an agency that, unlike FTC, has the expertise, tools, and resources to assess and regulate the operations of depository institutions and is knowledgeable about risks associated with depository institutions and deposit insurance.

Several provisions of section 43 underlie FTC’s concern that the section calls for expertise the Commission does not have. The first is the requirement that FTC promulgate disclosure regulations to ensure that current and prospective customers understand the risks involved in forgoing federal deposit insurance. Commission staff asserted that disclosure of those risks requires more than a standardized notice that the institution is not federally insured and that the federal government does not guarantee that the depositor will get back their deposits. The staff maintained that disclosure could involve a discussion of a depository institution’s financial strength and liquidity, as well as the health of the private insurer, because the risk of not having federal deposit insurance would be tied to the health of both the institution and the insurer.

The staff also stated that even if disclosure did not require discussion of the safety of the particular institution and insurer, any explanation about the risks of forgoing federal deposit insurance would be beyond FTC’s expertise because the Commission lacks the expertise necessary to define those risks. For example, they said that the disclosure requirement creates the dilemma that too much emphasis on the risks of forgoing federal deposit insurance could dissuade depositors from using uninsured institutions, thus weakening them; whereas, too little risk disclosure could mean that such depositors would be inadequately informed. In addition, the staff asserted that the Commission lacks the ability to determine which documents and records should contain the risk disclosure.

The second provision of concern to FTC is the shut-down provision. According to FTC staff, this section would require expertise in depository institution operations and depositor protection. They maintained that enforcement of this provision could require FTC to do more than merely declare that an institution must stop doing business. They asserted that if an entity were instructed to shut down, the Commission would have to be prepared to enforce that shut-down, which would necessitate “winding up” the operations of the entity, a role that would require expertise in the operation of depository institutions and the protection of customer deposits. The staff also expressed a concern that section 43 fails to provide standards for FTC to consider in deciding whether an institution is eligible for an exemption from the shut-down provision. They maintained that in deciding upon an exemption the Commission likely would have to engage itself in the complexities of depository institution law.

Another aspect of section 43 that FTC believes to be beyond its expertise is the look-alike definition. The definition of “depository institution” in section 43 includes any entity FTC determines to be engaged in the business of receiving deposits, and could reasonably could be mistaken for a depository institution by the entity’s current or prospective customers. Under this authority, FTC could determine that an entity not chartered as a depository institution is subject to section 43. FTC staff asserted that the Commission lacks the expertise necessary to determine whether an entity’s business constitutes “receiving deposits” or what would cause customers to mistake an entity for a depository institution. Any entity determined to be a look alike and not exempted would be subject to section 43, including the requirements for disclosures regarding lack of federal deposit insurance (even if it holds other forms of federal deposit insurance). According to FTC staff, proper implementation of this provision, in conjunction with the shut-down provision, could lead to shutting down a variety of institutions such as securities firms and mutual funds.

FTC officials also stated that the Commission lacks the expertise necessary to enforce the audit requirement for private insurers. As mentioned previously, section 43 requires any private deposit insurer to obtain an annual audit from an independent auditor using generally accepted auditing standards. The audit must determine whether the insurer follows generally accepted accounting principles and has set aside sufficient reserves for losses. FTC staff stated that diligent enforcement would require a review of the auditor’s determinations, which, in turn, would necessitate expertise and adequate resources for assessing both the quality of the audit and the financial health of the insurer. FTC staff asserted that the Commission does not possess this expertise. The staff also were of the view that financial audits do not and cannot include determinations about whether reserves set aside for losses are sufficient. The staff said that FTC does not have expertise regarding loss and reserve issues with which to determine whether some form of substitute assurances should be deemed sufficient.

FTC Best among Candidates for Enforcement Role

Although we found no agency was ideally suited to carry out the responsibilities set forth in the provision, based on our review of the concerns raised by FTC, NCUA and FDIC, we found no compelling reason to remove FTC from its responsibility as the primary agency responsible for implementing section 43. FTC’s concerns about its authority and resources are rooted in an interpretation of the section that calls for an extensive federal presence in the regulation of private deposit insurance and depository institutions. The scheme of section 43, particularly in the context of federal deposit insurance, suggests that a more modest interpretation is appropriate, although modifications to the section would enhance the Commission’s ability to enforce the section.

FTC’s Concerns about Potential Challenges to Its Authority under Section 43 Can Be Addressed

Although FTC’s concerns about potential challenges to its authority under section 43 are not unrealistic, it appears that the Commission has authority to implement and enforce the requirements of the provision even if the Commission would not otherwise have jurisdiction under the FTC Act or McCarran-Ferguson Act. A challenge to FTC’s authority would arise from uncertainties about what Congress intended by instructing FTC to enforce the section “under the FTC Act.” The phrase indicates that the Commission must enforce the section under the FTC Act even though, under the FTC Act, the Commission would not have authority to enforce certain provisions of the section or take certain other regulatory actions. Interpreting section 43 to mean that FTC enforcement actions are subject to all provisions of the FTC Act would lead to unreasonable results. Among other things, FTC would be without authority to perform the actions specifically prescribed in section 43. Moreover, it is clear that Congress intended that the section would apply to credit unions because section 43 specifically addresses state-chartered credit unions in the shut- down provision. Even if FTC’s authority under the FTC Act did not extend to nonprofit entities before Congress enacted section 43, such a limitation did not preclude Congress from subjecting credit unions to FTC’s authority under that provision. We interpret section 43 as authorizing FTC to enforce the section by using the enforcement powers provided in the FTC Act and not as a limitation on FTC’s authority that would defeat several purposes of the section. “No Act of Congress shall be construed to invalidate, impair, or supersede any law enacted by any State for the purpose of regulating the business of insurance, or which imposes a fee or tax upon such business, unless such Act specifically relates to the business of insurance.”

As interpreted by the Supreme Court, this provision precludes application of a federal statute in the face of a state law “enacted . . . for the purpose of regulating the business of insurance,” if the federal measure does not “specifically relate to the business of insurance,” and would “invalidate, impair, or supersede” the state’s law. One purpose of this provision is to protect state insurance laws against inadvertent preemption by federal law. Section 43 does not inadvertently apply to insurance. Rather, to the extent that the section specifically relates to deposit insurance and to private providers of that insurance a state law relating to the same subject matter would be preempted.

Because the audit provision is valid under the McCarran-Ferguson Act, FTC staff concerns about challenges to the Commission’s authority to enforce the provision appear to be misplaced. Should FTC take an action arguably inconsistent with the role contemplated in section 43, such as regulating the safety and soundness of providers of private deposit insurance, the McCarran-Ferguson Act might serve as grounds to challenge the action. However, the McCarran-Ferguson act does not stand as a general bar to FTC’s authority to enforce the audit requirement.

Lack of Guidance in Section 43 for Rulemaking Procedures Can Be Addressed

The only explicit rulemaking requirement in section 43 is that FTC issue regulations or orders prescribing the manner and content of disclosure required under the section. Section 43 does not designate the procedures FTC should follow in promulgating those rules or orders. Also, to the extent that FTC has authority to issue other regulations under the section, the source of that authority is less clear. Uncertainty about FTC’s rulemaking authority might complicate the Commission’s ability to promulgate regulations, but these potential complications do not appear to undermine FTC’s authority to carry out the section.

Under the FTC Act, the Commission has two types of rulemaking authority. The Commission has general authority to make rules and regulations for the purpose of carrying out the act. In addition, FTC has special rulemaking authority the Commission must use for issuing rules with respect to unfair or deceptive acts or practices. The special rulemaking authority requires, among other things, that the Commission define unfair or deceptive acts or practices with specificity and follow stringent rulemaking procedures. If the Commission’s authority to issue regulations under section 43 is subject to the requirements of the FTC Act, then the Commission would have to rely upon its special rulemaking authority. It is unclear whether the Commission’s authority to issue rules under section 43 is subject to the FTC Act, however. If FTC Act requirements do not apply, then FTC could rely upon the less stringent rulemaking requirements for informal rulemaking under the Administrative Procedure Act. Because section 43 does not provide specific guidance for which of FTC’s rulemaking authorities applies, it could affect the manner in which the Commission undertakes its rulemaking. However, the lack of guidance does not preclude the Commission from carrying out its responsibilities under the section.

FTC’s Concern That Section 43 Enforcement Would Require More Expertise Is Generally Not Warranted

In addition to perceived jurisdictional limitations, FTC staff maintained that enforcement of the section requires expertise and resources the Commission does not have and would require FTC to take actions inconsistent with its consumer protection mission. FTC staff asserted that enforcement of the disclosure requirement and the promulgation of regulations apprising consumers of the risk of not having federal deposit insurance, as well as proper enforcement of the audit requirement and shut-down provision, require an in-depth knowledge of depository institutions and deposit insurance and FTC oversight of the safety and soundness of institutions subject to section 43. Enforcement of the disclosure provisions does not necessarily require such in-depth expertise, although FTC could benefit from consulting with other federal regulators or others to gain this expertise to more effectively enforce these provisions.

The only specific rulemaking mandate in section 43 requires FTC to prescribe “the manner and content of disclosure required under this section” in order “to ensure that current and prospective customers understand the risks involved in forgoing federal deposit insurance.” As noted previously, section 43 specifically requires disclosure of two facts: (1) that the depository institution is not federally insured and (2) if the institution fails the federal government does not guarantee that depositors will get back their money. FTC staff interprets the rulemaking mandate to mean that the Commission must issue regulations or orders requiring disclosure of information that goes beyond what is specifically required under section 43. It appears that a less extreme interpretation of the disclosure requirement—one that does not compromise FTC’s ability to carry out the requirement—would be consistent with section 43.

Even if the requirement for disclosure regulations calls for more than the disclosure specifically described in section 43, it is not clear that Congress intended the regulations to require a discussion of the safety and soundness of the depository institution and its private insurer. It appears that Congress enacted the disclosure requirements in section 43 to ensure that consumers are informed about an institution’s lack of federal deposit insurance. There is no indication in the section or its legislative history that Congress also intended disclosure about the risks associated with the private deposit insurer. The purpose of deposit insurance is to free depositors from having to assess an institution’s safety with respect to their deposits, up to the coverage limit; deposits are protected up to that limit even if the institution becomes unsafe or unsound. With respect to the safety of deposits, risk disclosure is unnecessary. FTC staff maintains that disclosure regarding private deposit insurance should be treated differently because, unlike federal deposit insurance, private deposit insurance is subject to the risk that a private insurer may not be able to protect the deposits it insures. We do not take issue with FTC’s observation about the potential risks of private deposit insurance. However, nothing in section 43 indicates that Congress intended that disclosures with respect to private deposit insurance should be treated any differently; nothing in the section indicates that FTC should preempt the states in assessing the safety and soundness of privately insured institutions and their insurers. In section 43 Congress deferred to the states on whether to permit the operation of privately insured depository institutions. It is reasonable to conclude that Congress anticipated that depositors at those institutions should rely upon the states to oversee the safety and soundness of private deposit insurers.

Finally, we note that the section 43 requirement for disclosure regulations is similar to other laws that require FTC to regulate disclosure without regard to its expertise concerning the subject of the disclosure. For example, under the Fair Packaging and Labeling Act, FTC regulates disclosure about a broad array of commercial items defined generically as “consumer commodities.” Under the FTC Act, the Commission has responsibility for preventing false advertising without regard to the nature of the product. Also, FTC enforces several federal consumer protection laws applicable to financial institution disclosures, including the Truth in Lending Act, the Consumer Leasing Act, the Equal Credit Opportunity Act, and the Electronic Funds Transfer Act. Moreover, the Commission already has demonstrated that it has the ability to regulate extensively how financial institutions must make disclosures about financial transactions and customer financial privacy.

Certain FTC Concerns Do Raise Questions about Its Enforcement Capabilities or Applicability of Its Authority

With respect to the shut-down provision, whether FTC enforcement requires expertise in depository institutions and deposit insurance depends upon how far the Commission might seek to extend its enforcement authority. Under the most likely enforcement scenario, depository institution expertise would not be necessary. The shut-down provision prohibits any depository institution lacking federal deposit insurance from engaging in interstate commerce unless the appropriate state supervisor has determined the institution’s eligibility for federal deposit insurance. Assuming that FTC were not to grant an exemption, enforcing the provision could involve an FTC enforcement action under the FTC Act to shut down the institution. However, because depository institutions subject to section 43 are state-chartered, states likely would have primary responsibility for “winding up” an institution once it has ceased doing business. Section 43 would not prevent the application of federal bankruptcy laws or laws administered by federal agencies. FTC staff pointed out that under some circumstances it might be appropriate for the Commission to remain involved in winding up an entity subject to shut down to ensure that deposits were protected. To the extent that the Commission might remain involved, partnering with the state would be appropriate.

FTC staff also stated that FTC lacks the expertise necessary to evaluate a state’s determination of an institution’s eligibility for federal deposit insurance. Nothing in section 43 suggests that FTC is to oversee the states in this regard. Congress deferred to the states with respect to the determination. We agree with the FTC staff that the extent to which FTC can challenge a state’s determination is unclear, but we see nothing in the statute contemplating FTC review of state determinations.

Another of FTC’s concerns about the shut-down provision—that section 43 does not provide standards for the Commission to apply in deciding whether to exempt an entity from the provision—appears to have been partially addressed by Congress when it enacted the section. Section 43 authorizes FTC to permit an exemption from the shut-down requirement “in consultation with the Federal Deposit Insurance Corporation.” Thus, Congress specifically did not rely on FTC’s independent judgment should FTC consider an institution for the exemption. The section, however, does not provide guidance on the factors the Commission should consider in deciding whether an institution is eligible for an exemption. The extent to which this lack of guidance might affect FTC’s enforcement of the provision is unclear. We note, however, that FTC could seek to resolve uncertainties about exempting an institution by consulting with FDIC, as contemplated by section 43.

The merit of FTC’s concern regarding the look alike provision depends upon the Commission’s perception of the role Congress intended it to have. Under the look alike provision, the Commission has discretion to decide whether an entity not chartered as a depository institution nonetheless should be subject to section 43. FTC staff asserted that the Commission could exercise this authority in a way that would include various uninsured institutions where funds are deposited, including securities firms and mutual funds. Such institutions would be subject to FTC enforcement of the disclosure requirements and the shut-down provision. According to FTC staff, proper enforcement of section 43 requires the Commission to promulgate a regulation defining look alike institutions and subjecting them to section 43. The staff asserted that because of FTC’s lack of expertise regarding deposits, the Commission would have to define the look alike entities broadly, thus subjecting a potentially vast group of entities to the section. FTC’s concern in this regard overlooks the fundamental principal that a statute should not be interpreted to produce absurd results. It does not appear that Congress intended that FTC would invoke the look alike provision broadly to include any entity that accepts deposits. For example, a reasonable interpretation of the look alike requirement does not anticipate shutting down entire industries and entities already subject to extensive disclosure regulation under federal law, such as securities firms and mutual funds.

FTC staff also expressed concerns about what role the Commission would have to take if the Commission were to shut down a business, particularly if FTC took the action under the look alike authority. The staff stated that the Commission would lack expertise necessary to wind down the institution and protect its customers’ funds. We note that entities subject to the shut-down provision would be subject to state and federal laws governing the winding up of a business enterprise. In section 43, Congress did not indicate what, if any, role FTC should play in a shut-down scenario. However, nothing in section 43 indicates that Congress intended to preempt laws governing the winding up of an entity.

FTC’s concerns about monitoring compliance with the audit provision are more substantial. The audit provision does not require FTC to test the conclusions of the audit. It appears that the Commission could carry out its responsibility simply by relying upon the auditor’s attestations and checking with the appropriate parties to ensure that the audit report was properly distributed. However, as FTC staff pointed out, proper enforcement of the provision could, under certain circumstances, call for close scrutiny of the audit. According to FTC staff, because the Commission lacks expertise in this area, it might be unaware of circumstances warranting close scrutiny of the audit report.

Clarifying FTC’s Authority and Providing Some Flexibility Could Ensure Effective Enforcement of Section 43

While we found that FTC was the best candidate to enforce section 43 provisions, clarifying FTC’s authority and providing additional flexibility in administering the section could help address some of the Commission’s concerns about its authority and ability to enforce the provision without undermining its objectives. For section 43 to be fully implemented and enforced, the following changes to the identified provisions could clarify FTC’s authority and provide flexibility for more effective enforcement.

Disclosure provisions: FTC staff are apprehensive about the Commission’s ability to carry out this mandate, primarily because of how they interpret the risk disclosure requirement, an interpretation that contemplates a discussion of the financial health of a depository institution and its private insurer. Giving FTC the flexibility to determine what disclosure requirements should be issued and to decide on the appropriate means for enforcing them could help to alleviate the Commission’s concern. For example, the Commission might choose to require nonfederally insured institutions to obtain independent certifications from state supervisors or another independent body that their institution is in compliance with the section’s disclosure requirements. Also, the Commission could be given authority to coordinate with state supervisors of nonfederally insured credit unions to assist in enforcing the disclosure requirements or imposing sanctions for violations of the disclosure provisions.

In addition, a requirement that FTC consult with FDIC and NCUA about disclosure requirements could ensure that disclosure under section 43 covers FDIC and NCUA concerns about the potential for confusion of private deposit insurance with federal deposit insurance, and provides FTC with access to expertise it deems necessary to establish disclosure requirements. Requiring assistance from FDIC and NCUA in fashioning an appropriate disclosure regime may help satisfy FTC concerns about its lack of expertise. Additionally, such assistance would provide the federal deposit insurance agencies with an opportunity to ensure that disclosures adequately inform depositors in a manner that reduces the possibility of confusion with federal deposit insurance and apprises them of the risks associated with the lack of federal deposit insurance.

Shut-down provision: Several aspects of this provision raise regulatory concerns. First, the requirement relies upon states to make a determination that involves federal policies; specifically, whether a particular institution is eligible for federal deposit insurance. The eligibility determination includes many factors that federal regulators apply on a case-by-case basis. A related concern is that the provision does not indicate what criteria a state should use in determining that an institution is eligible for federal deposit insurance. In addition, the section calls upon FTC to shut down institutions that are subject to regulation by state or federal bodies that have expertise in assessing the consequences of a shut down as well as shutting down an institution. To address these concerns, modifications to the shut-down provision could require coordination between FTC and the appropriate primary regulator of an institution in connection with a state’s determination of deposit insurance eligibility, the Commission’s determination of an institution’s eligibility for an exemption from the provision, and the shutting down of an institution.

Annual audit requirements: Section 43 clearly sets forth the requirements for a private deposit insurer with respect to the annual audit it must obtain and to whom the annual audit must be provided. However, the section does not indicate the extent of FTC review and monitoring appropriate for enforcing the provision. In this regard, an amendment to section 43 could provide FTC with specific authority to establish annual audit requirements for private insurers. With such authority, the Commission could set forth the conditions under which it would rely on the annual audit or could enter into a cooperative arrangement with the insurer’s state regulators concerning reviews of the annual audit.

Conclusions

Depository institutions lacking federal deposit insurance are chartered and supervised by states; however, the activities of these entities involve federal interests. Congress acted on these federal interests by enacting section 43 of the FDI Act. However, issues of enforcement remain. Consistent with a prohibition in FTC’s appropriations authority, the Commission has not enforced section 43 provisions. Absent enforcement, our work showed that compliance with these provisions varied significantly.

Our primary concern, resulting from the lack of enforcement of section 43 provisions, is the possibility that members of state-chartered, privately insured credit unions may not be adequately informed that their deposits are not federally insured and should their institution fail, the federal government does not guarantee that they will get their money back. The fact that many privately insured credit unions we visited did not conspicuously disclose that the institution was not federally insured, raises concerns that the congressional interest in this regard is not being fully satisfied.

The lack of enforcement of the other two provisions—shut-down and annual audit—may have a less direct impact on consumers. While it appears that privately insured credit unions have not obtained a determination from their state regulators that they are eligible for federal deposit insurance, this determination may not be a meaningful protection for consumers. Since it is only a one-time requirement, it does not provide any assurance that institutions will continue to operate in a manner to remain eligible for federal deposit insurance. However, state regulators imposed safety and soundness standards for credit unions lacking federal deposit insurance that are similar to federal oversight standards. NCUA officials also may consider other factors when determining eligibility. ASI officials also told us that they rigorously monitor the safety and soundness of their insured institutions. Given the related actions undertaken to help ensure the health of privately insured credit unions, the effect on consumers from the lack of enforcement of this provision may be negligible. Since we found that the remaining private deposit insurer has complied with the annual audit requirements, state regulators and the management of privately insured credit unions have had the opportunity to become informed about the financial condition of this private deposit insurer. Implementation of this provision helps ensure the safety and soundness of ASI—which, in turn, helps to ensure that members of state- chartered, privately insured credit unions have a viable insurer should their credit union fail. Since the remaining private deposit insurer complied with section 43 audit requirements, it appears consumers suffered no negative impact from the nonenforcement of this provision.

In evaluating which federal agency should enforce these provisions, we found the responsibilities outlined in these provisions did not fall ideally within any single agency’s jurisdiction. FTC staff and officials from NCUA and FDIC opposed charging their agencies with this responsibility. NCUA and FDIC both have an interest in making sure that consumers receive adequate information about whether or not their deposits are federally insured. NCUA and FDIC also have considerable expertise in disclosures at federally insured depository institutions. However, FDIC insures the deposits at banks and savings associations—but does not regulate or supervise credit unions or insure deposits at these institutions. If either FDIC or NCUA were charged with this responsibility, it could create potential confusion about federal deposit insurance and would result in a regulatory conflict of interest that could expose the credit union system to a loss of public confidence in the federal deposit insurance system. This would be inconsistent with a central purpose of the provision. Despite this conflict, the agency that enforces section 43 would benefit from coordination with NCUA and FDIC, because of their interests and expertise.

Partnering with state regulators could also help FTC enforce certain section 43 requirements. For example, the Commission might choose to require nonfederally insured institutions to obtain independent certifications that their institution is in compliance with the section’s disclosure requirements and that the risks of not having federal deposit insurance have been adequately disclosed. Considering that Congress deferred to the states on whether to permit the operation of depository institutions lacking federal deposit insurance, it is reasonable to conclude that Congress also relied upon the states to oversee the safety and soundness of those institutions and, accordingly, the risks to consumers of dealing with them.

Although institutions lacking federal deposit insurance are chartered and regulated by the states, protecting consumers from confusion about the insurance of their deposits is consistent with the FTC’s consumer protection mission. Congress also determined that the federal agency specifically charged with protecting consumers against misleading or deceptive information practices—FTC—should ensure that the federal interest in proper disclosure is maintained. However, Congress has also prohibited FTC from discharging its responsibilities under section 43. While FTC staff has raised jurisdictional concerns, as well as practical concerns about the Commission’s ability to enforce these provisions, we believe that these interests can be best addressed by retaining FTC’s responsibility for enforcing and implementing section 43. However, the section could be modified to reduce concerns FTC has expressed about its ability to enforce these provisions. Such modifications could allow FTC flexibility in discharging its responsibilities and enable it to call upon the expertise of the federal deposit insurers, state regulators, or others when the Commission deems it necessary without sacrificing the purposes of the section.

Matters for Congressional Consideration

No federal agency was the clear or obvious choice to carry out the responsibilities outlined in section 43 of the FDI Act; however, if modifications were made to these provisions, we believe that FTC would be best suited to retain responsibility for enforcing and administering these provisions. If Congress determines that FTC is the appropriate agency, then Congress should remove the prohibition from FTC using appropriated funds to enforce these provisions. Also, Congress should clarify that FTC’s authority to implement and enforce section 43 is not subject to any limitations on its jurisdiction contained in the FTC Act.

To remove obstacles and provide additional flexibility for FTC’s enforcement of section 43 disclosure requirements, Congress may wish to consider Providing FTC the authority to consult with FDIC and NCUA when determining the manner and content of disclosure requirements to (1) provide FTC with access to expertise it deems necessary to establish disclosure requirements and (2) ensure that the required disclosures address FDIC and NCUA concerns about the potential for confusion of private deposit insurance with federal deposit insurance; Providing FTC the authority to coordinate with state supervisors of nonfederally insured depository institutions to assist in enforcing the disclosure requirements; and Providing FTC authority to impose sanctions for violations of the disclosure provisions.

To remove obstacles and provide additional flexibility for FTC’s enforcement of the section 43 shut-down provision, Congress may wish to consider Requiring coordination between FTC and the appropriate primary regulator of an institution when (1) FTC considers whether to exempt an institution from the requirement to obtain a state determination that it meets eligibility requirements for federal deposit insurance; and (2) FTC seeks to shut down an institution because it has not obtained a state determination that it meets eligibility requirements for federal deposit insurance.

In light of some uncertainty as to the scope of FTC’s jurisdiction under the FTC Act to regulate insurance entities in matters other than antitrust, Congress may wish to consider clarifying FTC’s authority regarding the annual audit provision by Providing FTC with specific authority to establish requirements, such as attestation requirements, to ensure the reliability of annual audits for private insurers.

Agency Comments and Our Evaluation

We requested comments on a draft of this report from the heads, or their designees, of the Federal Deposit Insurance Corporation, the National Credit Union Administration, and the Federal Trade Commission. We received written comments from NCUA and FTC that are summarized below and reprinted in appendixes III and IV respectively. In addition, we received oral comments from the Deputy Director of Supervision and Consumer Protection at FDIC that are summarized below. We also received technical comments from NCUA and FTC that we incorporated into the report as appropriate.

FDIC oral comments focused on the findings in the report dealing with FDIC and the overall report conclusions. FDIC generally agreed with the report’s findings dealing with FDIC and stated that the arguments included in the report against having the FDIC enforce section 43 were generally consistent with arguments it provided to congressional staff during the drafting of the Federal Deposit Insurance Corporation Improvement Act of 1991, which led to the decision in the enacted legislation to assign FTC responsibility for enforcing compliance with the provisions discussed in this report. FDIC also stated that while time did not permit it to conduct an exhaustive legal review, it generally agreed with the report’s overall conclusions.

NCUA concurred with the report’s conclusions that there is a need for enforcement of the consumer protection provisions in section 43 and that, for the reasons stated in our report, FTC, not NCUA or FDIC, is in the best position to enforce these provisions. NCUA also commented on FTC staff concerns expressed in this report that FTC might be challenged if it were to take action against credit unions because its enabling legislation has been interpreted to mean that it has no jurisdiction over nonprofit entities, such as credit unions. NCUA agreed with our conclusion that even if FTC’s authority under the FTC Act did not extend to nonprofit entities, the FTC Act did not preclude Congress from subjecting credit unions to FTC’s authority under section 43. Although NCUA agreed with this logic, it also believed that under FTC’s enabling legislation FTC has jurisdiction over state-chartered credit unions.

FTC disagreed with our conclusion that the Commission is the best among federal agencies to enforce section 43 provisions. FTC believed that the solution we offered does not meet the objectives of the statute and conflicted with our analyses. FTC stated that three principal objectives of section 43 are to provide some federal oversight to determine (1) the safety of deposits in institutions that are neither supervised nor insured by the federal government; (2) the financial soundness of those institutions and their state-supervised insurers; and (3) that disclosures to depositors at those depository institutions “fully inform” the depositors about an institution’s lack of federal deposit insurance. We believe that FTC’s interpretation of section 43 is inconsistent with the overall framework and purpose of the section.

The regulatory scheme of section 43 indicates that Congress did not intend FTC to have a safety and soundness role. For example, Congress relied upon the states to determine whether a depository institution is eligible for federal deposit insurance even though the determination includes an assessment of an institution’s safety and soundness. In addition, Congress required private deposit insurers to obtain an annual audit that satisfies certain standards, but did not require that the insurer submit the audit to FTC. Instead, section 43 requires the insurer to submit the audit to the state supervisors of institutions who have deposits insured by the entity. Finally, Congress’ designation of FTC as the federal agency responsible for enforcing section 43 indicates that Congress did not contemplate a federal safety and soundness role. The legislative history of section 43 supports this interpretation. The Senate bill containing the original version of section 43 set forth substantially the same disclosure requirements as are contained in section 43. The bill designated FDIC and NCUA—two safety and soundness regulators—to enforce those requirements. However, in the next version of the bill, which added the audit requirement, the shut-down provision, and the look-alike provision, Congress substituted FTC as the agency charged with enforcement responsibility. The legislative history does not discuss the reasons for this change, but it is reasonable to conclude that by substituting FTC for the safety and soundness regulators, Congress opted against a federal safety and soundness role under section 43. Neither section 43 nor its legislative history indicate that Congress intended to transform FTC from a consumer protection agency into a safety and soundness regulator of state-supervised depository institutions and their state-supervised private deposit insurers.

We believe that the primary objectives of section 43 are to ensure that consumers are protected by receiving the disclosures and opportunity for acknowledgement specified in the section; the performance of an annual audit of the deposit insurer in accordance with generally accepted accounting standards that attests to the insurer’s adherence to generally accepted accounting principles and the sufficiency of the insurer’s loss reserve; the state certification relating to the shut down provision; and FTC’s prudent and reasoned exercise of its authority pursuant to the look- alike provision. Our proposed solutions are consistent with this interpretation of section 43.

FTC also raised concerns about our proposal that the Commission rely in part on NCUA and FDIC in connection with establishing disclosure requirements. FTC said that this recommendation would expose the Commission’s formulation of disclosure requirements to the regulatory conflict of interest that would arise if NCUA and FDIC were to have primary regulatory responsibility under section 43. We believe that FTC, as a disinterest regulator with primary responsibility in this area, could neutralize any potential conflict of interest by considering the views of all parties having an interest in or expertise regarding an FTC action under section 43.

FTC also contended that we “significantly overestimate” the Commission’s expertise and experience in auditing, deposit safety and reserves, insurance regulation, assessment of financial soundness of depository institutions or insurers, and shutting down depository institutions. The Commission asserted that proper implementation of section 43 “would require grafting onto the FTC, a very small agency, an entirely new deposit safety mission requiring expertise, tools, and resources that the FTC lacks and for which it has no other need.” We disagree. This criticism is based on FTC’s extreme view of the federal role under section 43. FTC assumes that Congress intended to transform the Commission into a regulator of depository institutions and insurers even though section 43 clearly contemplates that the states are to serve in that capacity. As stated above, we believe that section 43 calls for a more moderate role consistent with FTC’s mission as a consumer protection agency.

Congress has charged FTC with disclosure-related responsibilities with respect to many industries that FTC does not regulate. FTC regulates advertising and labeling with respect to a wide variety of consumer commodities and services, yet the Commission does not appear to have expertise in the intricacies of all industries subject to those authorities. Nothing in section 43 calls for FTC to have expertise, experience, or resources to regulate the safety of depository institutions. Also, nothing in section 43 requires FTC to oversee the closure of an institution subject to the shut-down provision. The shut-down provision is self-activating, that is, it is a directive to nonfederally insured depository institutions that they must cease doing business (in interstate commerce), if they have not received an insurance eligibility determination from the state. Congress did not provide any procedure for the institutions to follow when shutting down, and Congress did not charge FTC with responsibility for administering a procedure. It should be noted that FTC has ample experience under its routine enforcement authority in having businesses shut down.

Additional FTC criticisms were that the report overstates the disadvantages and ignores the advantages of NCUA implementing section 43, and that the report does not consider possible alternative assignments of responsibility. FTC’s assertions about the efficiency of NCUA regulation are misguided. As we discussed in the report, assigning NCUA the responsibility for regulating its competition would present an inherent conflict of interest that could undermine NCUA’s credibility as a regulator.

Moreover, bringing nonfederally insured institutions within the umbrella of regulation by a federal deposit insurer is inconsistent with a central purpose of section 43, which is to ensure the separation of nonfederally insured institutions and their private deposit insurer from federal deposit insurance. The report does not discuss the potential for federal regulators other than NCUA, FDIC and FTC to implement section 43 because no other federal regulator appears to be a suitable candidate. Unlike FTC, the Federal Reserve Board has safety and soundness and related responsibilities regarding certain depository institutions. Placing section 43 responsibilities under the Board would subject nonfederally insured, state-supervised institutions to regulation by a federal supervisor of financial depository institutions. We believe that Congress, by selecting FTC to administer and enforce section 43, sought to avoid such a relationship. FTC administration of section 43 would not necessarily have the same effect.

With respect to SEC, we note that requiring SEC to administer the section would unnecessarily expand the Commission’s mission. In some cases a look-alike institution (an entity that takes deposits but which is not chartered as a depository institution) could be involved in a securities violation, in which case SEC could take action under the federal securities laws and would not need authority under section 43 to proceed against an entity. Charging SEC with responsibility under section 43 could blur the distinction between disclosure and audit obligations under the securities laws and those established under section 43. We note, however, FTC is not precluded from working with SEC should FTC invoke the look-alike authority.

FTC also stated that we failed to assess the potential impact on consumers if the disclosure provisions are not enforced. An empirical analysis of the impact on consumers was not performed. Presumably, depositors would not be impacted negatively by the lack of disclosure unless (a) they believed that their deposits were federally insured because of the lack of disclosure; (b) the institution holding their deposits failed; and (c) their deposits were not protected—that is, the deposits were not insured or the insurer was unable to repay the deposits of a failed institution. We note, however, that in section 43 Congress made the judgment that depositors should receive the disclosure required in that section. It is reasonable to conclude that some individuals who do not receive the benefit of that disclosure may be uncertain about the insured status of their accounts.

We agree with FTC’s concerns that if the section 43 enforcement authority were immediately activated a number of institutions would be faced with shutting down because they have not obtained determinations from their state supervisors of eligibility for federal insurance and that some institutions would be subject to sanctions because of disclosure failures. We anticipate that Congress would grant FTC discretion to enforce and implement section 43 and, if necessary, to provide for a phased-in approach to deal with FTC’s concerns.

We will provide copies of this report to the Chairman and the Ranking Minority Member on the Senate Committee on Banking, Housing, and Urban Affairs, and the Chairman and the Ranking Minority Member on the House Committee on Financial Services. Copies of this report also will be provided to the Chairman of FTC; the Chairman of FDIC; the Chairman of NCUA, and other interested parties. Copies will also be made available to others upon request. In addition, this report will be available at no charge on the GAO Web site at http://www.gao.gov.

This report was prepared under the direction of Debra R. Johnson, Assistant Director. Please contact Ms. Johnson or me at (202) 512-8678 if you or your staff have any questions about this report. Other major contributors are acknowledged in appendix V.

Appendix I: Objectives, Scope, and Methodology

To respond to a mandate in the Conference Report to accompany the House Joint Resolution 2, for the Fiscal Year 2003 Consolidated Appropriations Act—which directed us to study the enforcement of section 43 of the Federal Deposit Insurance Act—we (1) determined the current status of enforcement of these requirements; (2) determined the extent of compliance with each requirement and the potential impact on consumers if these requirements were not enforced, and (3) evaluated which federal agency could most effectively enforce section 43.

To better understand the issues around deposit insurance, we reviewed and analyzed relevant studies on federal and private deposit insurers for both credit unions and other depository institutions. In addition, we interviewed officials at the National Credit Union Administration (NCUA), the Department of the Treasury, and the Federal Deposit Insurance Corporation (FDIC) to obtain perspectives specific to federal and private deposit insurance. We also obtained views from credit union industry groups including the National Association of Federal Credit Unions, National Association of State Credit Union Supervisors, and Credit Union National Association, Inc. (CUNA).

We limited our assessment of “depository institutions lacking federal deposit insurance” to state-chartered credit unions that purchase private deposit insurance because banks, thrifts, and federally chartered credit unions generally are required to purchase federal deposit insurance. As of December 2002, 214 state-chartered credit unions lacked federal deposit insurance, and all but two were privately insured. In addition, our analysis was limited to primary deposit insurance.

To determine the extent to which private deposit insurance is permitted and utilized by state-chartered credit unions, we conducted a survey of state credit union regulators in all 50 states. Our survey had a 100-percent response rate. In addition to the survey, we obtained and analyzed financial and membership data of privately insured credit unions from a variety of sources (NCUA, Credit Union Insurance Corporation of Maryland, CUNA, and American Share Insurance (ASI), the only remaining provider of primary share insurance). We found this universe difficult to confirm because in our discussions with state regulators, NCUA, and ASI officials, and our review of state laws, we identified other states that could permit credit unions to purchase private deposit insurance.

To determine the regulatory differences between privately insured credit unions and federally insured state-chartered credit unions, we identified and analyzed statutes and regulations related to deposit insurance at the state and federal levels. In addition, we interviewed officials at NCUA and conducted interviews with officials at the state credit union regulatory agencies from Alabama, California, Idaho, Indiana, Illinois, Maryland, Nevada, New Hampshire, and Ohio.

To determine the extent to which privately insured credit unions met federal disclosure requirements, we identified and analyzed federal consumer disclosure provisions in section 43 of the Federal Deposit Insurance Act, as amended, and conducted unannounced site visits to 57 privately insured credit unions (49 main and 8 branch locations) in Alabama, California, Illinois, Indiana, and Ohio. The credit union locations were selected based on a convenience sample using state and city location coupled with random selection of main or branch locations within each city. About 90 percent of the locations we visited were the main institution rather than a branch institution. This decision was based on the assumption that if the main locations were not in compliance, then the branch locations would probably not be in compliance either. Although neither these site visits, nor the findings they produced, render a statistically valid sample of all possible main and branch locations of privately insured credit unions necessary in order to determine the “extent” of compliance, we believe that what we found is robust enough, both in the aggregate and within each state, to raise concern about lack of disclosure in privately insured credit unions. During each site visit, using a systematic check sheet, we noted whether or not the credit union had conspicuously displayed the fact that the institution was not federally insured (on signs or stickers, for example).

In addition, from these same 57 sites visited, we collected a total of 227 credit union documents that we analyzed for disclosure compliance. While section 43 requires depository institutions lacking federal deposit insurance to disclose they are not federally insured in personal documents, such as periodic statements, we did not collect them. We also conducted an analysis of the Web sites of 78 privately insured credit unions, in all eight states where credit unions are privately insured, to determine whether disclosures required by section 43 were included. To identify these Web sites, we conducted a Web search. We attempted to locate Web sites for all 212 privately insured credit unions; however, we were able to only identify 78 Web sites. We analyzed all Web sites identified. Finally, we interviewed FTC staff to understand their role in enforcement of requirements of section 43 for depository institutions lacking federal deposit insurance.

To understand how private deposit insurers operate, we conducted interviews with officials at three private deposit insurers for credit unions—ASI (Ohio), Credit Union Insurance Corporation (Maryland), and Massachusetts Credit Union Share Insurance Corporation (Massachusetts). Because ASI was the only fully operating provider of private primary deposit insurance, ASI was the focus of our review. We obtained documents related to ASI operations such as financial statements and annual audits and analyzed them for the auditor’s opinion noting adherence with accounting principles generally accepted in the United States. To determine the extent to which ASI provided copies of its annual audits to state regulators and credit unions it insures, we interviewed state regulators in states where ASI insures credit unions and contacted the management of 26 credit unions that are insured by ASI. Additionally, to understand the state regulatory framework for ASI, we interviewed officials at the Ohio Department of Insurance and Department of Financial Institutions.

To evaluate which federal agency could most effectively enforce these requirements, we interviewed FTC staff and officials from NCUA, FDIC, and various interested industry groups to discuss their perspectives and obtain their positions on enforcement of section 43 requirements. We also conducted legal research and analysis related to these provisions.

We conducted our work in Washington, D.C., Alabama, California, Indiana, Illinois, Maryland, Massachusetts, Ohio, and Virginia between February and August 2003, in accordance with generally accepted government auditing standards.

Appendix II: Entities That Enforce Various Laws at Credit Unions

Real Estate Settlement Procedures Act Bank Secrecy Act (Currency and Foreign Transactions Reporting Act)

DOJ Department of Justice FHA/VA Federal Housing Administration/Veterans Administration FRB Federal Reserve Board FTC Federal Trade Commission HUD Department of Housing and Urban Development TREAS Treasury Department The USA PATRIOT Act amended the Bank Secrecy Act, as well as other legislation.

Appendix III: Comments from the National Credit Union Administration

Appendix IV: Comments from the Federal Trade Commission

Appendix V: GAO Contacts and Staff Acknowledgments

GAO Contacts

Acknowledgments

In addition to the persons named above, Anne Cangi, Theresa L. Chen, William Chatlos, Kimberly Mcgatlin, Donald Porteous, Emma Quach, Barbara Roesmann, and Paul Thompson made key contributions to this report.