The changing financial services rules for credit unions and CUSOs

<p>The year 2001 brought significant changes in the power of credit unions to directly offer financial services. These changes and the impact on the credit union/CUSO delivery model are worth examining. The most significant change is NCUA’s amendment of Part 721 of the Regulations that replaced group purchasing powers with incidental powers. Part 721 confirms that federal CUs have the ability to exercise powers not previously recognized. Included is the power entitled finder activities, which enables federal credit unions to enter into arrangements with third party vendors to sell any type of service or product and receive a split of the revenue in exchange for access to members and administrative support. This split is not restricted to reimbursement of expenses. Thus, the finder activity incidental power continues the ability of an FCU to contract with third party providers but removes the group purchasing power an its expense reimbursement cap. State chartered CUs should confirm whether the finder activity incidental power is recognized by their respective state CU regulator. There is a caveat. The CU must make sure that the revenue sharing does not require any other licenses or permits in order to legally receive the split of revenue. Obtaining an Insurance License NCUA General Counsel’s Office has issued an opinion indicating that a federal CU may obtain an insurance agency license in order to receive referral insurance commissions under incidental powers (11/14/01-01-0869). Each state CU regulator needs to be consulted as to whether the respective state chartered CUs also have this right. In some states that require an entity to be licensed in order to receive insurance commissions, a CU does not qualify as a permissible entity to receive an insurance license. Therefore, in those states the CU would not be able to legally receive a split of insurance commissions and a CUSO would have to be used. If a CU receives an insurance agency license, the NCUA General Counsel’s Opinion only permits the CU to receive commission income from referrals. A federal credit union does not have the power to actually sell insurance, even though the CU would not be restricted under the state’s insurance agency license. A licensed CU would not be able to sign selling agreements with insurance companies and CU employees would not be able to sell insurance products. CUSOs will continue to be needed to share commissions in active selling models. NCUA General Counsel’s Office also issued an opinion indicating that CU employees can be licensed to sell investment products (8/31/01-01-0746). The credit union employees would have to be licensed with a broker/dealer and would have to disclose to the members that the CU employee was acting solely on behalf of the broker/dealer when selling investment products. NCUA Letter to Credit Unions Number 150 and its prohibition of CU employees providing investment advice is not repealed. NCUA believes disclosures will be adequate to enable the members to appreciate this metamorphosis from a credit union employee to an investment representative. There is a very real chance of member confusion and the risk to the credit union for errors committed by a credit union employee in his/her registered representative capacity needs to be addressed. Credit union employees selling investments raises insurance coverage issues as most CU liability policies exclude investment activities. Compensation conflicts also exist. There are issues as to how a CU deals with some employees that may be partly or wholly paid on a commission basis and how the registered representatives/employees properly supervised in each capacity. The Gramm-Leach-Bliley Act implemented in July permits the sharing of information among affiliates and among financial institutions (including credit unions, securities broker/dealers and insurance brokers) through joint marketing agreements. The federal regulators (NCUA, FTC, SEC, OCC, OTS, FDIC and Federal Reserve) have issued opinion letters which have greatly restricted the use of sharing of account numbers. The account numbers cannot be disclosed by a CU to a marketer or an affiliate of a marketer. This has severely impacted the models for the delivery of insurance products requiring ACH deductions, particularly AD&D insurance. The account numbers cannot be released by a CU to a broker/dealer or insurance broker even if the member expressly agrees in writing. Under the Gramm-Leach-Bliley Act, the general exemption for banks and thrifts to receive commissions from broker/dealers without a license was removed with instructions to the SEC to issue a regulation to establish specific permissible activities for banks and thrifts in order for them to continue to receive commission revenue without a securities license. Those regulations were issued and have an implementation date of May 2002. Meanwhile, credit unions were left out of the mix and there is some question as to whether the status of the credit unions’ exemption should be continued under Chubb Letter exemption. The Chubb Letter states that the securities license exemption applies to “financial institutions and their required subsidiaries”. Since NCUA permits CUs, under incidental powers, to receive commission income without restriction, some have concluded that CUSOs are not required subsidiaries and therefore should not have the same power to receive commissions as CUs. Under the SEC regulation only the banks and not the bank’s subsidiaries have the power to receive securities commissions. The SEC has assured me that at this point the Chubb Letter continues to apply to both credit unions and their CUSOs. However, the SEC will be looking at this issue in 2002. The interrelationship of federal CU law, state CU law, securities law and state insurance law and the possible combinations of the same do not permit a universal answer as to whether financial services may be offered by the CU, CUSO or either in a particular situation. I expect continuing adjustments to these rules. The rationale for using a CUSO instead of the CU is a subject of another article.</p>