New Rules for Open-End Lending

CUs can’t require any form of credit verification when members request advances, NCUA rules say.

December 31, 2012

If you work for a federal credit union that offers multi-featured open-end lending (MFOEL) plans and you’ve fallen behind on your compliance reading, you might want to peruse Letter to Federal Credit Unions 12-FCU-02 as soon as possible.

NCUA issued this letter in late July to provide guidance and best practices on MFOEL plans. It supersedes and replaces the agency’s Letter to Federal Credit Unions No.10-FCU-02, issued in September 2010, which contained NCUA’s previous guidance on MFOELs.

A foundation of open-end lending is that consumers apply for credit only at account opening, the updated letter reports. Therefore, underwriting must take place only at account opening.

After the plan has been established, credit unions may verify a borrower’s creditworthiness “occasionally or routinely” to ensure it has not declined. Credit unions can then revise credit limits and account terms accordingly.

When creditworthiness has declined, credit unions may increase the annual percentage rate (with proper notice), reduce the credit limit, or even terminate the account.

The issue of greatest importance to credit unions, however, is the prohibition of any form of verification at the time of an advance request.

“Changes to the official staff commentary,” the letter states, “essentially mean credit unions offering MFOEL plans may ‘occasionally or routinely’ verify credit information, but verification of credit information cannot be done ‘as a condition’ of granting a new advance under the plan.”

This statement references Comment 2-(a) (20)-5 (Reg Z Section 1026.2).

“In other words,” the letter continues, “the underwriting of individual advances is not allowed for an extension treated as open-end credit under an MFOEL plan.”

It’s clear, therefore, that no verification of any information—credit report, credit score, debt-to-income ratio—and no confirmation of information, such as the member’s current income or employment status, can be obtained at the time of an advance request.

The letter does provide for occasional verification on a limited ad-hoc basis or routine verification on a regular periodic schedule, such as every three, six, or 12 months.

Implications for HELOCs

The letter discusses the impact of Regulation Z’s Commentary Section 2-(a) (20)-5 on MFOEL plans, but fails to mention that Section 2-(a)(20)-5 of the commentary applies equally to all open-end credit.

That includes all open-end loans, including simple lines of credit, credit card accounts, and home equity lines of credit (HELOC).

Whether a member has an advance request for $100 on a simple line of credit or a request for $50,000 on a HELOC, credit unions may not verify any of the member’s credit information whatsoever in connection with the advance request.

The inability to verify any credit information at the time of a $100 advance request isn’t too troubling, but the same can’t be said for the $50,000 HELOC advance request.

It seems like a safety and soundness issue would be created by not verifying certain information, such as the member’s credit score or employment status, at the time of a large HELOC advance request.

But Reg Z’s commentary, as well as NCUA’s Letter to Federal Credit Unions, makes it clear that verification of credit information can’t be done as a condition of granting a particular advance, even if it’s a large HELOC advance request.

NEXT: Safety and soundness

Safety and soundness

Reg Z Section 1026.40(f) prohibits a credit union from changing any term of a HELOC plan unless the member specifically agrees to the change in writing, the change will unequivocally benefit the member throughout the remainder of the plan, or the change is insignificant.

A credit union may prohibit additional extensions of credit or reduce the credit limit during any period in which it “reasonably believes that the consumer will be unable to fulfill the repayment obligations under the plan because of a material change in the consumer’s financial circumstances,” or the consumer is in default of any material obligation under the agreement.

A significant decrease in the member’s income or the fact that the consumer is unemployed would constitute a material change in financial circumstances.

While a credit union may not verify any credit information at the time of a HELOC advance request, it may perform occasional verification on a limited or ad-hoc basis, or routine verification of credit information on a regular periodic schedule (i.e., every three, six, or 12 months).

Credit unions should consider having policies and procedures that provide for routine verification—more frequently for higher credit limit HELOCs and less frequently for HELOCs with lower limits.

Based on routine or occasional verifications, credit unions may immediately prohibit additional extensions of credit or reduce credit limits if they conclude there has been a “material change” in the member’s financial circumstances.

When a credit union suspends further extensions under the plan or reduces the credit limit based on any of the designated circumstances (including a material decline in the member’s financial circumstances), Reg Z Section 1026.9(c)(1)(iii) requires the credit union to provide a written notice to each member who is obligated on the account.

The notice must be provided within three business days and must contain specific reasons for taking the action. The notice also must state if the credit union requires the member to request reinstatement of credit privileges.

Reinstatement of credit privileges

The Reg Z commentary makes it clear that credit privileges must be reinstated when the circumstances that led to the suspension of credit extensions or a credit limit reduction cease to exist.

If, for example, the HELOC limit is reduced because of a significant decline in the borrower’s income, it must be increased when the borrower’s income grows to its former level.

Credit unions are responsible for ensuring that credit privileges are restored as soon as possible after the condition ceases to exist or when the situation returns to normal.

One way credit unions can meet this responsibility is to monitor the line of credit or the member’s financial circumstances through routine verification to determine when the condition ceases to exist.

Another way a credit union can meet this responsibility is to require members to request reinstatement of credit privileges. But once the member has requested reinstatement, the credit union must immediately investigate to determine whether the condition that permitted the freeze or credit limit reduction continues to exist.

The member’s request for reinstatement could be considered a trigger for occasional verification.

Credit unions should review their policies and procedures—and make any necessary changes—to conform to the guidance in the updated NCUA Letter to Federal Credit Unions.





MICHAEL McLAIN is CUNA’s assistant general counsel and senior compliance counsel. Contact him at 608-231-4185.