Legal Opinion from Paul Hastings, LLP

December 30, 2014

Board of Directors
National Credit Union Administration
1775 Duke Street
Alexandria, VA 22314

Dear Board Members:

We have acted as counsel to the Board of the National Credit Union Administration (hereinafter, "NCUA Board"), in connection with delivering this opinion letter regarding the legal authority of the National Credit Union Administration (hereinafter, the "NCUA") to implement the proposed rule (79 Fed. Reg. 11184 (Feb. 27, 2014), hereinafter, "Proposed Rule") which would amend Part 702 of the NCUA's regulations regarding prompt corrective action (hereinafter, "PCA") to, among other things, establish a two-tier risk-based net worth (hereinafter, "RBNW")¹ requirement for complex² credit unions, a copy of which Is provided as Exhibit A.

You have requested our opinion as to the legal authority of the NCUA to establish a separate RBNW requirement for each of "adequately capitalized" and "well capitalized"³ credit unions that are deemed "complex."

In connection with this opinion letter, we have examined the Proposed Rule. In addition, we have reviewed the NCUA's statutory authority to implement the Proposed Rule as provided in Section 216 of the Federal Credit Union Act (hereinafter, "FCUA") as added by Section 301 of the Credit Union Membership Access Act (hereinafter, "CUMAA"), as well as the legislative history of the CUMAA, the NCUA's prior implementations and interpretations of Section 216, and other background information provided to us by the NCUA.

This opinion letter is based upon our analysis of the foregoing, pursuant to well established precedent under Chevron, U.S.A., Inc. v. NRDC, Inc., 467 U.S. 837 (1984), which establishes the standard of review for a court reviewing a challenge to a governmental agency's construction of a statute, including in connection with an implementing regulation. Under the so-called Chevron standard, in reviewing a federal agency's authority to take certain actions to implement a statute or In connection. with a challenge to an agency's efforts to implement a statute, a court must apply a two-prong test. First, the court must determine whether Congress has "directly spoken to the precise question at issue." Id. at 842. If Congress's intent is clear in addressing the question at issue, the court must "give effect to the unambiguously expressed intent of Congress." Id. at 842-843. If, however, there is ambiguity regarding congressional intent based on the precise meaning of the statutory language, then the court must determine whether the agency's position is based on a permissible construction of the statute. See id. at 843. In this regard, an agency's interpretation will generally be deemed permissible and "given controlling weight unless [it is] arbitrary, capricious, or manifestly contrary to the statute." Id. at 844.

With respect to this opinion letter, we note that the question raised herein ordinarily would be determined only through a litigated proceeding, and that the outcome of any proceeding before a United States court having jurisdiction over the NCUA, including, but not limited to, any federal district court or appellate court, cannot be predicted with certainty and depends upon the legal arguments, facts and circumstances as they would be presented, admitted and developed in such proceeding.⁴

1. RELEVANT FACTS, ASSUMPTIONS AND LIMITATIONS

a. General Assumptions

As to matters of fact, we have examined and relied exclusively, without independent investigation, upon the statements, and representations of the NCUA Board, its officials and representatives. We have assumed that the Proposed Rule's two-tier RBNW requirement is in substantially the form attached hereto as Exhibit A, that its issuance complied with the NCUA's rulemaking and public comment procedure requirements and that the NCUA will timely perform and satisfy in all respects all of its obligations with respect to implementing a new federal regulation. This opinion letter is based on the assumption that the facts set forth herein and which we have assumed, without investigation, to be true and correct, are, and except as set forth herein, will continue to be, accurate.

We express no opinion as to the law of any jurisdiction other than that of the federal courts. Furthermore, this opinion letter is being furnished to you solely for your benefit in connection with the implementation of the Proposed Rule and is not to be used, circulated, quoted, relied upon or otherwise referred to for any other purpose or by any other person without our prior express written consent, except as otherwise provided herein.

b. Summary of the Proposed Two-Tier RBNW Requirement

Currently, "well capitalized" and "adequately capitalized" credit unions that are deemed "complex" are required to meet a RBNW requirement.⁵ Under the current PCA system implemented by the NCUA, a credit union's RBNW requirement is calculated based on each credit union's aggregate risk-weighted amounts of certain types of assets. See 12 C.F.R. § 702.106. Thus, an individual credit union's RBNW requirement is unique to the institution and remains constant for the institution regardless of whether the institution seeks to qualify as an "adequately capitalized" or "well capitalized" credit union. See 12 C. F. R. Part 702.

Under the Proposed Rule, the NCUA proposes a separate RBNW requirement for each of the "well capitalized" and "adequately capitalized" categories. As explained by the NCUA, "Section 216(c) of the FCUA requires that a credit union that meets the definition of "complex,"⁶ and whose net worth ratio initially places it in either of the "adequately capitalized" or "well capitalized" net worth categories, also must satisfy a separate RBNW requirement. Under this separate RBNW requirement, the complex credit union must meet or exceed the minimum RBNW ratio corresponding to its net worth category ("adequately capitalized" or "well capitalized") in order to remain classified in that category." Proposed Rule, 79 Fed, Reg. at 11186.

With respect to the "well capitalized" and "adequately capitalized" categories, Section 216(c) provides:

(A) WELL CAPITALIZED – An insured credit union is "well capitalized" if – (i) it has a net worth ratio of not less than 7 percent; and (ii) it meets any applicable risk-based net worth requirement under subsection (d).

(B) ADEQUATELY CAPITALIZED – An insured credit union is "adequately capitalized" if – (i) it has a net worth ratio of not less than 6 percent; and (ii) it meets any applicable risk-based net worth requirement under subsection (d).

Section 216(d) sets forth the RBNW requirement for complex credit unions as follows:

(1) IN GENERAL – The regulations required under subsection (b)(1) shall include a risk-based net worth' requirement for insured credit unions that are complex as defined by the Board based on the portfolios of assets and liabilities of credit unions.

(2) STANDARD – The Board shall design the risk-based net worth requirement to take account of any material risks against which the net worth ratio required for an insured credit union to be adequately capitalized may not provide adequate protection.

Notably, Section 216(b) of the FCUA requires the NCUA Board to "by regulation, prescribe a system of prompt corrective action for insured credit unions that is – (i) consistent with this section [216 – Prompt Corrective Action]; and (ii) comparable to" section 38 of the Federal Deposit Insurance Act. In this regard, the legislative history provides that "comparable" means "parallel in substance (though not necessarily identical in detail) and equivalent in rigor," See S. Rep, No. 193, 105th Cong. 2d Sess. 13, p. 12.

Finally, as noted by NCUA in its July 2000 implementation of 12 C.F.R, Part 702 with respect to the purpose and rationale for the RBNW requirement specific to complex credit unions:

CUMAA requires NCUA to develop a definition of a "complex" credit union based on the risk level of a credit union's portfolio of assets and liabilities, [12 U.S.C.] § 1790d(d)(1), and to formulate a [RBNW] requirement to apply to credit unions meeting that definition. The RBNW requirement must "take account of any material risks against which the net worth ratio required for an insured credit union to be adequately capitalized [6 percent] may not provide adequate protection." [12 U.S.C.] § 1790d(d)(2). NCUA was encouraged to, "for example, consider whether the 6 percent requirement provides adequate protection against interest-rate risk and other market risks, credit risk, and the risks posed by contingent liabilities, as well as other relevant risks. The design of the [RBNW] requirement should reflect a reasoned judgment about the actual risks involved." S. Rep. No.193, 105th Cong., 2d Sess. 13 (1998) (S. Rep.).

These specifications reflect the Department of the Treasury's recommendation to Congress to require NCUA to develop a supplemental RBNW requirement "for larger, more complex credit unions * * * to take account of risks * * * that may exist only for a small subset of credit unions." U.S. Dept. of Treasury, Credit Unions (1997) at 71.

65 Fed. Reg. 44950, 44951 (July 20, 2000).

2. APPLICABLE LAW – Chevron Standard

Courts generally review challenges to a federal agency's construction of a statute that the agency administers under the two-pronged Chevron standard.⁷ As the U.S. Supreme Court noted in Chevron, "[w]hen a court reviews an agency's construction of the statute which it administers, it is confronted with two questions. First, always, is the question whether Congress has directly spoken to the precise question at issue." Chevron, 467 U.S. at 842. According to the Court, under this threshold question, "[l]f the intent of Congress is clear, that is the end of the matter; for the court, as well as the agency, must give effect to the unambiguously expressed intent of Congress." Id. at 842-842 (emphasis added). If, however, "Congress has not directly addressed the precise question at issue, . . . the question . . . is whether the agency's answer is based on a permissible construction of the statute." Id. at 843. In this regard, as noted in Chevron, when a statute is ambiguous with respect to a specific issue, courts must defer to a federal agency's construction of a statute, provided the federal agency's construction is permissible and not "arbitrary, capricious, or manifestly contrary to the statute." See id. at 842-843.

Question one of Chevron acknowledges the inherent challenge in assigning and determining congressional intent in connection with a statute, particularly in applying the specific laws an agency oversees and administers. In addressing this issue, the Court noted, "[t]he power of an administrative agency to administer a congressionally created . . . program necessarily requires the formation of policy and the making of rules to fill any gap left, implicitly or explicitly, by Congress," Id. The Court further noted it "long recognized that considerable weight should be accorded to an executive department's construction of a statutory scheme it is entrusted to administer, and the principle of deference to administrative interpretations has been consistently followed by [the] Court whenever [a] decision as to the meaning or reach of a statute has involved reconciling conflicting policies, and a full understanding of the force of the statutory policy in the given situation has depended upon more than ordinary knowledge respecting the matters subjected to agency regulations." Id., referencing National Broadcasting Co. v. United States, 319 U.S. 190; Labor Board v. Hearst Publications, Inc., 322 U.S. 111; Republic Aviation Corp. v. Labor Board, 324 U.S. 793; Securities & Exchange Comm'n v. Chenery Corp., 332 U.S. 194; Labor Board v. Seven-Up Bottling Co., 344 U.S. 344. In the Court's view, if an agency's determination "represents a reasonable accommodation of conflicting policies that were committed to the agency's care by the statute, [a court] should not disturb it unless it appears from the statute or its legislative history that the accommodation is not one that Congress would have sanctioned." Id. at 844, citing United States v. Shimer, 367 U.S. 374,383 (1961).

Thus, upon reaching question two of Chevron, a court must determine whether the NCUA's construction of Section 216 is a permissible construction. See Id. at 843. Chevron provides that where Congress has explicitly or implicitly delegated authority to an agency to make rules, the agency's regulations will be permissible and given "controlling weight unless they are arbitrary, capricious, or manifestly contrary to the statute." Id. at 844. Courts generally treat the "arbitrary" and "capricious" analysis as a single test when reviewing agency interpretations. See, e.g., Nat'l Ass'n of Home Builders v. Defenders of Wildlife, 551 U.S. 644 (2007); Motor Vehicle Mfrs. Ass'n of U.S., Inc. v. State Farm Mut. Auto. Ins. Co., 463 U.S. 29 (1983); Citizens to Pres. Overton Park, Inc., v. Volpe, 401 U.S. 402 (1971). A court applying the arbitrary and capricious test must determine "whether there has been a clear error of judgment" by the agency. See Citizens to Pres. Overton Park, 401 U.S. at 416; Motor Vehicle Mfrs. Ass'n, 463 U.S. at 416. Under the arbitrary and capricious test, a court will consider whether the agency based its statutory interpretation on a "consideration of all of the relevant factors" and demonstrated a "rational connection between facts and judgment." Motor Vehicle Mfrs. Ass'n, 463 U.S. at 31. A court would likely deem an agency's interpretation "arbitrary and capricious" if the agency "relied on factors which Congress has not intended it to consider, entirely failed to consider an important aspect of the problem, offered an explanation for its decision that runs counter to the evidence before the agency, or is so implausible that could not be ascribed to a difference in view or the product of agency expertise." Id. at 43; Nat'l Ass'n of Home Builders, 551 U.S. at 645.

Notably, even if other potential interpretations exist, Chevron provides that "[t]he court need not conclude that the agency construction was the only one it permissibly could have adopted to uphold the construction, or even the reading the court would have reached If the question initially had arisen in a judicial proceeding." Chevron, 467 U.S. at 843.

3. LEGAL DISCUSSION – NCUA's Legal Authority

In applying the Chevron standard to a determination of whether the NCUA has the legal authority under Section 216 of the FCUA to implement the two-tier RBNW requirement set forth in the Proposed Rule, a court would first need to determine whether Congress has "directly spoken to the precise question at issue." Id. at 842. If the court finds in the affirmative, then the court would need to determine whether the NCUA's Proposed Rule had given effect to the "unambiguously expressed intent of Congress," Id, at 842-843.

If, however, the court finds that Section 216 of the FCUA is silent or ambiguous with respect to the permissibility of a two-tier RBNW requirement, the court must then determine whether the NCUA's construction of Section 216 is a permissible construction. Id. at 843. Chevron specifies that where Congress has explicitly or implicitly delegated authority to an agency to make rules, the agency's regulations will be given "controlling weight unless they are arbitrary, capricious, or manifestly contrary to the statute." Id. at 844.

This opinion letter sets forth our view as to what a court applying the Chevron standard would conclude upon review of the NCUA's legal authority to establish a two-tier RBNW requirement, as set forth in the Proposed Rule, pursuant to the FCUA. We note that this standard requires a court to give considerable deference to the NCUA where ambiguity exists within Section 216 of the FCUA.

a. Chevron Question One – Has Congress Directly Spoken to the Precise Question at Issue?

As discussed above, Section 216(d) mandates the NCUA Board to establish "a risk-based net worth requirement for insured credit unions that are complex" and that the NCUA Board "shall design the risk-based net worth requirement to take account of any material risks against which the net worth ratio required for an insured credit union to be adequately capitalized may not provide adequate protection." Under the basic principles of statutory construction, one must review the plain language of the statute; however, "the meaning of statutory language, plain or not, depends on context . . . It is a longstanding principle of statutory construction that 'each part or section' of a statute 'should be construed in connection with every other part or section so as to produce a harmonious whole.'" See 2A Norman J. Singer, Sutherland Statutory Construction §§ 45:2, 46.05 (5th ed. 1992) (hereinafter, "Sutherland"), If the statute's language is ambiguous, the interpretation should be guided by the statute's legislative history.

See Sutherland § 45.01. After careful review and deliberation, we find that the language of Section 216(d) is, at best, ambiguous with respect to the statutory authority of the NCUA to implement a two-tier RBNW requirement for complex credit unions, as the language can be interpreted in multiple ways, as discussed below.⁸

(i) Section 216(d)(2)'s Reference to "Adequately Capitalized" and "Adequate Protection"

Section 216(d)(2) highlights Congress's intent for the NCUA to consider certain types of risks when designing the RBNW requirement applicable to complex credit unions. Section 216(d)(2) requires the RBNW requirement to "take account of any material risks against which the net worth ratio required for an insured credit union to be adequately capitalized may not provide adequate protection." We view Section 216(d)(2)'s reference to the "adequately capitalized" PCA category as a baseline reference that is intended to guide the NCUA in determining what types of material risks it must consider. That is, the NCUA must consider the specific types of material risks that would cause a complex credit union that is at least adequately capitalized to have inadequate protection. In other words, the NCUA must identify the "material risks" that would cause a credit union to fall from an adequately capitalized position into an undercapitalized position.

The plain language of Section 216(d)(2) does not expressly restrict the NCUA from imposing a higher RBNW requirement for "well capitalized" versus "adequately capitalized" credit unions for the supervisory purpose of building in additional risk management controls before a credit union becomes undercapitalized. Moreover, nor does the statutory language unambiguously mandate a single, uniform RBNW requirement applicable to "well capitalized" and "adequately capitalized" credit unions. In our view, the only clear restriction imposed on the NCUA as a result of the language in Section 216(d)(2) is that the RBNW requirement that is to be "designed"⁹ by the NCUA must take account of certain kinds of "material risks" contemplated by Congress. In this regard, and in our opinion, the language of Section 216(d)(2) does not prevent NCUA from imposing higher requirements on "well capitalized" credit unions to provide greater protection against these risks.

Thus, a reasonable interpretation of Section 216(d)(2) is that the NCUA is being asked to identify material risks that could cause a credit union to become undercapitalized, and to design a RBNW requirement that protects against those material risks. Such a requirement could reasonably impose different degrees of protection for "well capitalized" and "adequately capitalized" credit unions so that well capitalized credit unions are further insulated, and appropriately, more protected than adequately capitalized credit unions against the material risks that could cause each of such credit unions to become undercapitalized.

(ii) Section 216(d)'s Use of "Requirement" in the Singular Form

Section 216(d)'s reference to a RBNW "requirement" in its singular form is, at most, ambiguous and cannot be viewed as a precise statement of specific congressional intent for several reasons.

First, Section 216(d)'s reference to "requirement" in its singular form logically makes sense when read in conjunction with the language in Section 216(c), which sets forth the five PCA categories, including well capitalized and adequately capitalized. As specified, for each of these latter two categories:

(A) WELL CAPITALIZED – An insured credit union is "well capitalized" if – (i) It has a net worth ratio of not less than 7 percent; and (ii) it meets any applicable risk-based net worth requirement under subsection (d).

(B) ADEQUATELY CAPITALIZED – An insured credit union is "adequately capitalized" if – (i) it has a net worth ratio of not less than 6 percent; and (ii) it meets any applicable risk-based net worth requirement under subsection (d). (emphasis added).

Specifically, it is appropriate that there would be only one RBNW requirement that is applicable at any one time to each PCA category. Section 216(c), the section defining the "well capitalized" and "adequately capitalized" categories, does not unequivocally provide that the same RBNW requirement must apply uniformly to both well capitalized and adequately capitalized credit unions. That is, the definitions for both "well capitalized" and "adequately capitalized" require the credit union to meet "any applicable risk-based net worth requirement under subsection (d)." The legislative history of the CUMAA with respect to Section 216 supports this view and provides that "in order to be well capitalized or adequately capitalized, a complex credit union must meet any applicable risk-based net worth requirement prescribed In this section." S, Rep. No. 193, 105th Cong, 2d Sess. 13, p. 13 (emphasis added).

A reasonable interpretation of the "any applicable risk-based net worth requirement" language Includes the interpretation that Congress intended to allow the NCUA to determine what RBNW requirement would be "applicable" in each case for well capitalized and adequately capitalized credit unions. We do not view the language as evidencing congressional intent to preclude the NCUA from implementing different RBNW requirements for different capital categories. Section 216(c)'s reference to "any applicable" requirement supports the view that Congress did not intend to limit the NCUA's authority to implement more than one RBNW requirement for different capital categories, The fact that the legislative history makes reference to both the well capitalized and adequately capitalized categories at the same time and indicates that credit unions In these categories must comply with "any applicable [RBNW] requirement" provides support for why the reference to "requirement" in its singular form is ambiguous in terms of whether more than one requirement was intended. Had Congress Intended for only one RBNW requirement to apply in all cases for all complex credit unions in different capital categories, rather than referring to "any applicable" requirement in Section 216(c), Congress could have specifically indicated its intent for "the" or "the same" rather than "any applicable" risk-based net worth requirement for both the adequately capitalized and well capitalized categories. Accordingly, as written, Section 216(d) does not clearly and unambiguously prohibit the NCUA from establishing a two-tier rather than single-tier RBNW requirement.

Secondly, Congress's use of the term "requirement" in its singular form in Section 216(d) should not be viewed as determinative in terms of whether Congress clearly intended for the NCUA to have the authority only to implement a single RBNW requirement. The reference to "requirement" does not directly address the question of whether there may be multiple sub-requirements or different sub-requirements for well capitalized and adequately capitalized credit unions. Notably, the PCA statute for banks also uses the term risk-based capital ("RBC")¹⁰ "requirement" in the singular form; however, banks are subject to multiple sub-requirements under the RBC requirement, i.e., a common equity Tier 1 RBC requirement, a Tier 1 RBC requirement, and a total RBC requirement, that are different for well capitalized banks versus adequately capitalized banks. See, e.g., 78 Fed. Reg. 62018 (Oct. 11, 2013); 12 U.S.C. 1831o(c)(1)(A). In reviewing Congress's and the federal banking agencies' use of the term "requirement" in its singular form under the current PCA system for banks, Section 216(d)'s similar use of the term "requirement" in its singular form should also not preclude such a requirement from having multiple subparts that are applicable to different PCA categories. Thus, in our opinion, the use of the term "requirement" in its singular form should not be dispositive as to congressional intent.

We also note that even when the NCUA sought congressional-authority in April 2007 to change the statutory language in the FCUA to expressly mandate the NCUA to implement a two-tiered RBNW requirement, the NCUA did not seek to change the word "requirement" to "requirements." See NCUA White Paper for "Prompt Corrective Action Reform Proposal," p. 10 (April 2007). This further supports our interpretation that the use of "requirement" In the singular form is reasonable and does not expressly and unambiguously demonstrate Congress's intent that only a single-tier RBNW requirement may be established for adequately capitalized and well capitalized credit unions. As such, the reference to "requirement" is at most ambiguous.

(iii) Section 216(c)(1)(C)'s Reference to "Any Applicable Risk-Based Net Worth Requirement under Subsection(d)" for Undercapitalized Credit Unions

Unlike the definitions of "well capitalized" and "adequately capitalized" set forth in Section 216(c)(1)(A) and (B), respectively, which require a credit union to meet both a net worth ratio requirement and a RBNW requirement, the definition for the "undercapitalized" PCA category imposes a disjunctive test – i.e., a credit union is deemed to be "undercapitalized" if "(i) it has a net worth ratio of less than 6 percent; or (ii) it fails to meet any applicable risk-based net worth requirement under subsection (d)." See Section 216(c)(1)(C) (emphasis added).

Some may interpret this distinction as supporting the view that Congress intended for NCUA to establish only a single RBNW requirement that is the "applicable" requirement for all complex credit unions, including for purposes of determining whether a credit union is undercapitalized. In our opinion, however, there is a more reasonable interpretation and application of the disjunctive test used in Section 216(c)(1)(C) for undercapitalized credit unions (as opposed to the conjunctive test used for well capitalized and adequately capitalized credit unions) with respect to the "any applicable [RBNW] requirement'' language. This interpretation is that Congress specifically granted the NCUA the authority and flexibility to determine what RBNW requirement would be "applicable" in each case for: (i) well capitalized credit unions, pursuant to Section 216(c)(1)(A); (ii) adequately capitalized credit unions, pursuant to Section 216(c)(1)(B); and (iii) undercapitalized credit unions, pursuant to Section 216(c)(1)(C). This regulatory flexibility provided by the statutory language on its face does not restrict the NCUA from designating the RBNW requirement "applicable" to adequately capitalized complex credit unions as also being the requirement "applicable" to undercapitalized complex credit unions. Rather, it allows the agency to designate a separate higher RBNW requirement specifically "applicable" only to well capitalized complex credit unions, in each case due to the "any applicable . . . requirement" language in each provision. As such, the broad reference to "any applicable . . . requirement'' in each of Section 216(c)(1)(A), (B), and (C) supports the view that the NCUA possesses the requisite legal authority and regulatory discretion to impose more than one RBNW requirement for credit unions falling within different PCA categories.

(iv) Section 216(b)'s Mandate for a PCA System "Consistent" with the Statute but "Comparable" to Section 38 of the Federal Deposit Insurance Act

An equally compelling consideration is that Section 216(b) mandates that the NCUA develop a PCA system for credit unions that is "consistent'' with Section 216 and "comparable" to the PCA system for banks. The legislative history of the CUMAA explains that "consistency" refers to the "specific restrictions and requirements of new section 216" and "'comparable' here means parallel in substance (though not necessarily identical in detail) and equivalent In rigor." S. Rep. No. 105-193, p. 12 (1998) (emphasis added). As discussed herein, it is our view that the express language of Section 216 taken as a whole provides the NCUA with the necessary interpretive flexibility to implement a two-tier RBNW system that does not violate any specific restrictions and/or requirements of Section 216, as we have not identified any express statutory restriction or requirement imposed on the NCUA to implement a single-tier RBNW system. Thus, we believe the NCUA's interpretation and implementation of a two-tier RBNW system is consistent with the requirements of Section 216.

Moreover, in our opinion, the mandate for the NCUA to develop a PCA system that is "equivalent in rigor" with the PCA system for banks further supports an interpretation of Section 216(d) that allows the NCUA the flexibility to impose a two-tier RBNW system. It is not only logical but, arguably, imperative that the credit union PCA system reflect different gradations in protection for well capitalized and adequately capitalized credit unions, especially given Congress's clear intent for the credit union PCA system to be "equivalent in rigor" with the PCA system for banks. See S. Rep. No. 105-193, p. 12 (1998). Bolstering this view is that credit unions, unlike banks, do not have the ability to resort to capital raising activities in the market to increase and/or maintain capital. Instead, credit unions are largely restricted to preserving and protecting their capital through their own retained earnings. From a safety and soundness standpoint, a prudent and reasonable expectation from both a supervisory and regulatory perspective is for the NCUA to have in place a PCA system that takes account of differences between banks and credit unions – including weaknesses that credit unions have relative to banks – in a manner that allows the NCUA to act to maintain comparable levels of capital protection for well capitalized credit unions compared to well capitalized banks.

With respect to the particular vulnerabilities of credit unions relative to capital, imposing a two-tiered RBNW system appears to be the type of equivalence in rigor required to address the "lessons learned" by the NCUA in dealing with "several hundred millions of dollars in losses . . . of [failed] credit unions holding inadequate levels of capital relative to [their] levels of [portfolio] risk" that previously ignored warnings from NCUA officials "to hold higher levels of capital to offset the risks in their portfolios." 79 Fed. Reg. 11186. It is also reasonable that more stringent credit union capital rules should follow on the heels of more stringent bank capital and PCA rules finalized in July 2013, which are due to become effective in January 2015. Accordingly, an interpretation of Section 216(d) that is consistent with the policy objectives set forth by Congress in Section 216(b) for the credit union PCA system to be consistent with the statute but "equivalent in rigor" to that of banks supports a two-tiered RBNW requirement comparable to that imposed on banks.

(v) Conclusion for Question One under Chevron

While other potential interpretations and viewpoints of Section 216(d) are supportable, the existence of alternative interpretations does not preclude a court finding in favor of the NCUA's two-tier RBNW requirement under the Proposed Rule pursuant to the Chevron standard. Under Chevron, when statutory language is ambiguous, courts must defer to an agency's interpretation of the statute, provided the interpretation is permissible, i.e., not arbitrary, capricious, or manifestly contrary to the statute. As discussed above, the reference to "adequately capitalized" and use of the term "requirement" in the singular form in Section 216(d) does not demonstrate a "clear and unambiguous" congressional intent that a single-tier RBNW requirement must be applied uniformly to well capitalized and adequately capitalized credit unions. Moreover, the simple fact that the language in Section 216(d) may yield multiple interpretations clearly demonstrates the ambiguity of the statutory language. As such, it is our view that, in a case properly presented and argued, a court would likely conclude that Section 216 of the FCUA is ambiguous with respect to the permissibility of the NCUA's implementation of a two-tier RBNW requirement, as described in the Proposed Rule. The court would then be required to turn to the second question under Chevron, which is whether the NCUA's interpretation of Section 216 of the FCUA, as set forth in the Proposed Rule, is a permissible construction of the statutory language.

b. Chevron Question Two – Given the Determination in Question One that Section 216(d) Is at Most Ambiguous, Is the NCUA 's Interpretation Based on a "Permissible Construction" of the Statute?

In applying Chevron, a court must determine whether the NCUA's construction of Section 216 of the FCUA is a permissible construction. See Chevron, 467 U.S. at 843. Chevron provides that where Congress has explicitly or implicitly delegated authority to an administrative agency to make rules, the agency's regulations will be permissible and given "controlling weight unless they are arbitrary, capricious, or manifestly contrary to the statute." Id. at 844. Through the FCUA, Congress has explicitly delegated authority to the NCUA under Section 216(b) of the FCUA to promulgate rules to "prescribe a system of prompt corrective action for insured credit unions" that is (i) consistent with Section 216 of the FCUA and (ii) "comparable" to the PCA provisions of the Federal Deposit Insurance Act for banks. 12 U.S.C. § 1790d(b)(1)(A). Thus, the NCUA's interpretation of Section 216(d) authorizing the NCUA to establish a two-tier RBNW requirement, as set forth in the Proposed Rule, would generally be viewed by a court as permissible and be given controlling weight unless it is "arbitrary, capricious, or manifestly contrary to the statute." Id. at 844. Courts generally treat the "arbitrary" and "capricious" analysis as a single test when reviewing agency interpretations. See, e.g., Nat'l Ass'n of Home Builders v. Defenders of Wildlife, 551 U.S. 644 (2007); Motor Vehicle Mfrs. Ass'n of U.S., Inc. v. State Farm Mut. Auto. Ins. Co., 463 U.S. 29 (1983); Citizens to Pres. Overton Park, Inc., v. Volpe, 401 U.S. 402 (1971). As discussed below, it is our view that the NCUA's implementation of a two-tier RBNW requirement should withstand both a court challenge that asserts the NCUA's interpretation is "arbitrary and capricious," as well as a challenge asserting that the NCUA's position is "manifestly contrary to the statute."

(i) Arbitrary and Capricious Standard

Although the NCUA's interpretation set forth in the Proposed Rule constitutes a reasonable construction of Section 216(d) as discussed above, we note that questions could arise with respect to the potential arbitrariness and capriciousness of the NCUA's current interpretation under the Proposed Rule, in light of potentially inconsistent positions previously taken by the NCUA.

In regard to whether the NCUA's interpretation may withstand Chevron scrutiny and, in particular, whether the interpretation is arbitrary and capricious, the NCUA could encounter challenges with respect to its prior interpretation and actions in implementing Section 216. For example, the NCUA's prior regulations implemented the RBNW requirement in Section 216(d) by establishing a system with a single-tier structure, or alternatively, as a system that imposes multiple RBNW requirements where each complex credit union is subject to its own unique RBNW requirement. See 12 C.F.R. Part 702. The NCUA has held this position in the agency's regulations since 2000. See 65 Fed. Reg. 44950 (July 20, 2000). In its original proposed rule in 2000, the NCUA stated the "NCUA Board has determined that a 6 percent net worth ratio is sufficient to protect against an average level of risk, but that a measure of additional net worth is needed to compensate for risks which are above average. For this reason, the final rule limits the scope of its RBNW requirement to credit unions that have an above average level of risk exposure." Id. at 44955. Additionally, the U.S. Treasury Department assessed the NCUA's implementation of Section 216 in 2001 and found that "[i]n general, the NCUA implemented the RBNW requirements as Congress intended." See Treasury Report Required Under Sections 401 and 403 of the CUMAA, Comparing Credit Unions With Other Depository Institutions, p. 14 (Jan. 2001). Thus, the NCUA's current two-tier interpretation in the Proposed Rule, viewed in light of its prior interpretation and implementation of a single-tier RBNW requirement, could be viewed as an arbitrary change in position and, as such, may be susceptible to challenge under Chevron's arbitrary and capricious standard.

In our view, however, the NCUA's position is defensible, and there are reasonable arguments that such a challenge can be overcome under Chevron if the NCUA bolsters its rationale for and empirical data supporting the change in position to implement an enhanced system of PCA for credit unions. This view is supportable under case law, which provides that a reversal of position by an agency or interpretation "inconsistent with its past practice" is not arbitrary or capricious "if the agency adequately explains the reasons for a reversal of policy." See Nat'l Cable & Telecomms. Ass'n v. Brand X Internet Servs., 545 U.S. 967, 981 (2005). In Nat'l Cable & Telecomms. Ass'n, the Supreme Court held that under Chevron review a change in agency interpretation "is not invalidating, since the whole point of Chevron is to leave the discretion provided by the ambiguities of a statute with the implementing agency." 545 U.S. at 981. The Court specified that "[a]n initial agency interpretation is not instantly carved in stone. On the contrary, the agency . . . must consider varying interpretations and the wisdom of its policy on a continuing basis . . . for example, in response to changed factual circumstances, or a change in administrations." See Id. In Nat'l Cable & Telecomms Ass'n, the Supreme Court found the National Cable and Telecommunication Association's reason for changing its position on the applicability of common-carrier treatment to facilities-based carriers as a result of changed market conditions to be adequate justification. See Id. at 1001. Thus, even if the NCUA's establishment of a two-tier RBNW requirement is deemed to be a change in position, the NCUA's new interpretation would generally not be expected to be deemed arbitrary or capricious, provided the NCUA adequately justifies its new position. Given the change in market conditions over the past 14 years, the recent financial crisis, and changes in the PCA system for banks, it is our view that the NCUA can reasonably justify a transition to a more conservative two-tier RBNW requirement that is intended to better protect against potential risks to credit unions.

(ii) Manifestly Contrary to the Statute Standard

As discussed above in Section 3.a.iv., the NCUA's implementation of a two-tier RBNW requirement appears consistent with the specific restrictions and requirements of Section 216, as we believe that the express language of Section 216, taken as a whole, provides the NCUA with the necessary interpretive flexibility to implement a two-tier RBNW system that does not violate any specific restrictions or requirements of Section 216. Thus, the NCUA's interpretation and proposed implementation of a two-tier RBNW requirement, as set forth in the Proposed Rule, should not be viewed as being manifestly contrary to Section 216, specifically given that Section 216 does not expressly prohibit the establishment of a two-tier RBNW requirement and the NCUA's position is consistent with the policy objectives of Congress set forth in Section 216(b).

(iii) Conclusion for Question Two under Chevron

As Congress expressly delegated authority to the NCUA to design a RBNW requirement, the NCUA's proposed two-tier RBNW requirement under the Proposed Rule constitutes a permissible construction of the statute and, as such, should be upheld by a court under the Chevron doctrine. By providing sufficient explanation of its reasons for imposing a higher and more conservative RBNW requirement for complex credit unions to be deemed well capitalized, it is our view that the NCUA's implementation of a two-tiered RBNW requirement would withstand a court challenge alleging the agency's approach is arbitrary, capricious, or manifestly contrary to the statutory language of Section 216 of the FCUA.

4. CONCLUSION

Based on the foregoing facts and a reasoned analysis of Chevron and Section 216 of the FCUA, we are of the opinion that, under current principles of applicable law and existing case law, a court of appropriate jurisdiction, in a litigated mailer or proceeding, could conclude that the NCUA's statutory authority pursuant to Section 216 of the FCUA permits the NCUA to establish the proposed two-tier RBNW requirement set forth in the Proposed Rule.

In providing this reasoned legal opinion, we express no opinion as to the availability or effect of a preliminary injunction, temporary restraining order or other such temporary relief affording delay pending a determination of the issue on the merits. Furthermore, we express no opinion as to any legal or equitable principles with respect to the NCUA's rulemaklng procedural requirements that would have the effect of negating implementation of the Proposed Rule.

The foregoing opinion is expressly subject to there being no material change in the law and there being no additional facts that would materially affect the validity of the assumptions and conclusions set forth herein or upon which this opinion letter is based. The opinion expressed In this opinion letter may be relied upon solely by you, the Board of NCUA, and no one else. In addition, reliance upon this opinion letter in connection with the matters set forth herein is subject to the understanding that this opinion letter is given on the date hereof and our opinion is rendered only with respect to facts described herein and laws, rules and regulations currently in effect. Without our prior express written consent, this opinion letter may not be furnished to, or used or relied upon by any other person or entity, or in any other context, and may not be quoted, in whole or in part, or otherwise referred to, nor filed with or furnished to any governmental agency or other person. This opinion letter is provided solely for the benefit of the NCUA and its Board of Directors in connection with the agency's deliberations on the Proposed Rule. This opinion letter may not be relied upon by the NCUA or its Board for any other purpose, relied upon by any other person or quoted without our prior express written consent.

We note that a court's decision would be based upon Its own analysis and interpretation of the facts before it and applicable legal principles. Therefore, our opinion is based on the assumption that in any case in which this question is considered, the question will be competently briefed and argued by the NCUA. Our opinion is reasoned and also presumes that any decision rendered will be based on existing legal precedents on the date hereof, including those discussed above. The foregoing opinion is expressly subject to there being no material change in the FCUA or the precedential status of Chevron. Nothing in this opinion letter shall be construed as the rendering of advice with respect to the rulemaking process, strategies employed by counsel, or other factors or circumstances that might affect the outcome of those proceedings.

This opinion letter is not a guaranty as to outcome or results, or as to what any particular court would actually hold or what actions a particular court may take, but a reasoned opinion as to the decision we believe a court could well reach if the issues are properly presented to it and the court followed existing precedent on the date hereof as to legal and equitable principles applicable in challenges lo agency statutory construction.

This opinion letter deals only with the specified legal issues expressly addressed herein, and you should not infer any opinion that is not explicitly addressed herein from any mailer stated in this opinion letter. The opinions expressed herein are to be governed by the federal law of the United States and shall be construed in accordance with the customary practice of lawyers who regularly give, and lawyers who regularly advise opinion recipients regarding, opinions of the kinds contained herein.

This opinion letter speaks only as of the date hereof and is not to be deemed to have been reissued by any subsequent delivery of a copy hereof. We expressly disclaim any responsibility to advise you or any other person of any development or circumstance of any kind, including any change in law or fact that may occur after the date of this opinion letter that might affect the opinions expressed In this opinion letter.

Very truly yours,

/s/

PAUL HASTINGS LLP

EXHIBIT A – NCUA Proposed Rule, 79 Fed. Reg. 11184 (Feb. 27, 2014)