James W. Hammersley, Director
Loan Programs Division
U.S. Small Business Administration
409 3rd Street, SW
Washington, DC 20416
Re: Small Business Administration (SBA) Loans Originated by Federal Credit Unions.
Dear Mr. Hammersley:
You have asked if federal credit unions (FCUs) may make business loans under the terms and conditions of the SBA 7(a) lending program. The Federal Credit Union Act (the Act) and our lending regulations permit FCUs to make member business loans (MBLs) under the terms and conditions of a government program that secures the loans with insurance or a guarantee if the program’s terms and conditions are consistent with our MBL regulation. FCUs may make business loans under the terms and conditions of the SBA 7(a) program except for certain collateral requirements in our MBL regulation with which FCUs must currently comply.
The Act and our lending regulations generally authorize FCUs to make loans to members, including loans for a business purpose, subject to certain limitations. 12 U.S.C. §1757(5); 12 C.F.R. §701.21 & Part 723. The Act’s limitations include maturity limits based on loan type, a usury ceiling, and a prohibition against prepayment penalties. Id. NCUA’s MBL rule has additional limitations, such as collateral and equity requirements. 12 C.F.R. Part 723.
The Act provides an exception to its limitations if a loan is insured or guaranteed by a government agency and this exception is incorporated in NCUA’s lending regulations. The Act provides:
A loan secured by the insurance or guarantee of, or with advance commitment to purchase the loan by, the Federal Government, a State government or any agency of either may be made for the maturity and under the terms and conditions specified in the law under which such insurance, guarantee, or commitment is provided ...
12 U.S.C. §1757(5)(A)(iii). NCUA’s general lending rule mirrors this provision of the Act and states that these guaranteed and insured loans “may be made for the maturity and under the terms and conditions, including rate of interest, specified in the law, regulations or program under which the insurance, guarantee or commitment is provided.” 12 C.F.R. §701.21(e).
Our MBL rule also incorporates this exception for government guaranteed and insured loan programs:
The provisions of §701.21(a) through (g) [thus, incorporating §701.21(e)] of this chapter apply to member business loans granted by federal credit unions to the extent they are consistent with this part.
12 C.F.R. §723.4 (emphasis added). Thus, the MBL rule permits FCUs to make MBLs under government programs, as authorized under §701.21(e), to the extent the terms and conditions under which the guarantee or insurance is provided are consistent with Part 723. 12 C.F.R. §723.4. As the MBL rule does not address maturity or interest rate limitations, FCUs may rely on the exception provided in §701.21(e) and make MBLs as part of a government insured or guaranteed loan program for the maturity and interest rates permitted under the program. We note that, for business loans that are exempt from the MBL rule, for example, those for $50,000 or less, the exception in the general lending rule permits FCUs to make business loans as part of a government guaranteed loan program under all of the terms and conditions required or permitted by the program. 12 C.F.R. §§701.21(e), 723.1(b).
The SBA is a government agency offering guaranteed loan programs to which the foregoing exception applies. It is an independent agency in the executive branch of the federal government assisting small business concerns in various ways including providing financial assistance through guarantees of portions of business loans made by lenders, including credit unions. The SBA 7(a) program provides loan guarantees from 50% to 85%, depending on the size of the loan, and a maximum loan amount of two million dollars, with a maximum loan maturity of 25 years for real estate and certain equipment loans. 13 C.F.R. §120.212. We also understand that currently the 7(a) program permits a lender to charge a maximum interest rate of the prime rate plus 4.75 percent, depending on the loan size and maturity term. See 13 C.F.R. §§120.213-.215. Based on our analysis, FCUs participating in the 7(a) program may make loans with the interest and maturity terms permitted under the program. Our analysis would be the same for other similar SBA programs, such as the Certified Development Company (504) Loan Program.
Prepayment Penalties and Subsidy Recoupment Fees
The SBA’s subsidy recoupment fee, which is part of the 7(a) program, does not appear to be a prepayment penalty and an FCU may collect it but we also conclude that, even if the fee were a prepayment penalty, an FCU could charge it. While an FCU generally cannot charge a prepayment penalty on a loan, it can if it is part of government guaranteed or insured loan program. 12 U.S.C. §1757(5)(A)(iii) and (viii); 12 C.F.R. §§701.21(c)(6) and (e), 723.4. We note that, unlike other SBA programs, the 7(a) program specifically prohibits a lender from charging a fee for full or partial prepayment of a loan. 13 C.F.R. §120.221(e). The 7(a) program does provide for a subsidy recoupment fee that borrowers pay to the SBA for the prepayment of loans with a maturity of 15 years or more if a borrower makes a voluntary prepayment within the first three years of the loan. 15 U.S.C. §636(a)(4)(C); 13 C.F.R. §120.223. The subsidy recoupment fee is in the nature of a service charge imposed as a condition of SBA’s guarantee that a lender forwards directly to the SBA when a borrower prepays the loan without obtaining any benefit from the fee.
Collateral and Loan-To-Value (LTV) Requirements
An FCU may not rely on the exception for government guaranteed loans to avoid the MBL rule’s collateral requirements because the MBL rule expressly sets a borrower equity requirement for construction and development MBLs and maximum LTV ratios. 12 C.F.R. §§723.3(b), 723.7. If the SBA guarantees an MBL, however, the MBL rule’s general LTV requirements are relaxed. 12 C.F.R. §723.7(a)(1). In that case, an FCU may exceed the rule’s general 80% maximum LTV ratio requirement, up to 95%, because the MBL is guaranteed by an agency of the federal government. Id. It appears that an SBA 7(a) guarantee on a secured MBL provides an additional safeguard to protect the FCU from undue risk as contemplated by the rule’s general LTV requirement. Alternatively, an FCU may seek a waiver from the appropriate NCUA regional office of the LTV requirements. 12 C.F.R. §723.10. We also note that the MBL rule provides exceptions from the general collateral requirements for unsecured loans and certain vehicle MBLs. 12 C.F.R. §723.7(c)-(e).
NCUA is currently considering revisions to Part 723 to align the rule with SBA’s lending programs, as noted in the preamble to NCUA’s most recent MBL rule amendment. 68 Fed. Reg. 56537, 56538 (Oct. 1, 2003).
Federally Insured State-chartered Credit Unions (FISCUs)
NCUA’s MBL rule applies to FISCUs unless they operate under one of seven states’ MBL rules the NCUA Board has exempted from the federal rule. We note the statutory exception provided in the Act for FCUs does not apply to FISCUs. 12 U.S.C. §1757(5)(A)(iii). State law will determine whether an FISCU may make loans under the terms and conditions of a government guarantee program to the extent they are consistent with NCUA’s MBL rule.
We believe many FCUs would greatly benefit from participating in programs like the SBA Basic 7(a) Loan Program, however, they can create some additional safety and soundness concerns. These loans may have more risk and many FCUs would not make these kinds of loans without the security the guarantee provides. NCUA is aware that SBA guarantee programs generally place stringent requirements on participating lenders to comply with program requirements or face losing the guarantee. Some of these requirements can be complex and compliance may be difficult for some FCUs. Accordingly, NCUA recommends that, before an FCU becomes a participating lender, it makes certain that it fully understands the terms of the program and has procedures in place to assure its compliance with all program requirements. See 12 C.F.R. §723.5.
Sheila A. Albin
Associate General Counsel