I. BACKGROUND
The OCC has issued a final rule on debt cancellation contracts (DCC) and debt suspension agreements (DSA). The purpose of the final rule is to establish standards governing these products in order to ensure that national banks provide such products consistent with safe and sound banking practices and subject to appropriate consumer protections. The rule became effective on June 16, 2003, except as otherwise provided under paragraph IX of this article.
The final rule prohibits national banks from requiring a single lump-sum payment for a DCC or DSA purchased in connection with a mortgage loan. It also prohibits national banks from: (1) conditioning the availability of credit upon a customer’s purchase of a DCC or DSA; (2) engaging in misleading practices or using misleading advertising; (3) retaining a unilateral right to modify a DCC or DSA, unless either the modification is favorable to customer and is made without additional charge, or the customer is notified of the modification and had a reasonable opportunity to cancel the contract before it takes effect.
In addition, under the final rule, the OCC will require a number of standardized disclosures that must be used in marketing DCCs or DSAs. Further, the OCC requires national banks, among other things, to: (1) tell customers of the prohibition on tying; (2) explain that a DSA, if activated, does not cancel the debt, but only suspends requirements to make payments; (3) disclose the amount of the fees charged; (4) make customers aware of the option to pay in a lump sum or periodic installments; (5) disclose their refund policy if the fee is paid in a single payment and added to the amount borrowed; (6) tell customers whether they would be barred from using the credit line if the DCC or DSA was activated; and (7) explain eligibility requirements, conditions, and exclusions that might affect a customer’s ability to purchase or obtain benefits under a DCC or DSA.
II. NATIONAL BANKS’ AUTHORITY TO OFFER DCCS AND DSAS
A DCC is a loan term or a contractual arrangement modifying loan terms linked to a bank’s extension of credit, under which the bank agrees to cancel all or a part of a customer’s obligation to repay an extension of credit from that bank upon the occurrence of a specified event. A DSA is a loan term or a contractual arrangement modifying loan terms linked to a bank’s extension of credit, under which the bank agrees to suspend all or part of a customer’s obligation to repay an extension of credit from that bank upon the occurrence of a specified event.
NOTE: Since a DCC or DSA must be in connection with extensions of credit that the bank makes, a DCC or DSA cannot be sold in connection with dealer paper or purchased loans.
Under a DCC or a DSA, the customer typically agrees to pay an additional fee to the bank in exchange for the bank’s promise to cancel or temporarily suspend the borrower’s obligation to repay the loan. The fee may be a lump sum that is payable at the outset of a loan (that may be financed over the term of a loan), or the fee may take the form of a monthly or other periodic charge. The fee compensates the bank for releasing borrowers from loan obligations under the circumstances specified in the DCC or DSA. These arrangements also provide customers a convenient method of extinguishing debt in times of financial or personal hardship, and enable the bank to avoid the time and expense of collecting the balance of the loan from a borrower’s estate in the event of the borrower’s death or other specified circumstances.
The authority of national banks to offer DCCs and DSAs is well established as the OCC has concluded that offering DCCs was a lawful exercise of the powers of a national bank in connection with the business of banking. The only Federal circuit court of appeals that has considered DCCs or DSAs upheld the OCC’s determination that the National Bank Act authorizes national banks to enter into DCCs with their borrowers and that DCCs were banking products, not part of the “business of insurance” (see First Nat’l of Eastern Arkansas v. Taylor, 907 F.2d 775 (8th cir.), cert. denied, 498 US 972 (1990)).
III. STATE BANK AUTHORITY TO OFFER DCCs AND DSAs
The provisions of the OCC regulation should apply equally to state-chartered banks. The “wild card” provisions of § 8-1,140 allow a state bank to “have all the rights, powers, privileges, benefits and immunities” which may be exercised by a federally chartered bank doing business in Nebraska, including the exercise of all powers and activities that are permitted for a financial subsidiary of a federally chartered bank. Accordingly, if a state-chartered bank plans to offer DCCs or DSAs, it should try to fit its activities within the guidelines of the new regulations.
IV. PROHIBITED PRACTICES
A. Anti-Tying Provision
The final rule contains several types of customer protections that would be standard when a bank provides products associated with a loan, including an anti-tying provision precluding a bank from extending credit or changing the terms or conditions of an extension of credit conditioned upon the purchase of a DCC or a DSA from the bank.
B. Misleading Practices
The final rule prohibits a bank from engaging in any practice that could mislead a reasonable person with respect to the information that the rule requires to be disclosed. This prohibition also expressly applies to misleading advertisements.
C. Unilateral Modifications of the Contract
The final rule prohibits a bank from retaining a unilateral right to modify or cancel the contract, subject to specific exceptions: first, if the modification is favorable to the customer and is made without additional charge to the customer; and, second, if the customer is notified of the proposed change and provided a reasonable opportunity to cancel the contract without penalty before the change goes into effect. The OCC generally regards a 30-notice period as reasonable.
The final rule does not require that the contract language specify the circumstances under which the bank may make a unilateral modification, though inclusion of explicit provisions in the contract may be helpful to avoid misunderstandings. Rather, the rule operates to prohibit the bank from requiring its customer to abide by a unilateral modification unless it meets one of the exceptions described in the rule.
D. Single, Lump Sum Payment
The final rule does not contain an across-the-board prohibition on lump sum fees, however, it does prohibit a national bank from requiring a customer to pay the fee for a DCC or a DSA in a single payment, payable at the outset of the contract, if the debt that is the subject of the contract is a residential mortgage loan. The rule permits single payment contracts in the case of all other consumer loans, but requires banks that offer the option of paying the fee in a single payment to also offer the bona fide option of paying for that contract in periodic payments. In such cases, the bank must also make certain disclosures related to the fee.
V. REFUNDS OF FEES IN THE EVENT OF TERMINATION OF THE AGREEMENT OR PREPAYMENT OF THE COVERED LOAN
The final rule requires that a bank that offers a no-refund DCC or DSA must also offer the customer a bona fide option to purchase a comparable contract that provides for a refund. The option to purchase is bona fide if the refund product is not deliberately structured in such a way, including pricing of the product, as to deter a customer from selecting that option. The rule clarifies that the refund provision does not apply in the case of open-end credit where customers pay for the contract on a month-to-month basis. In such a case, there are not “unearned” fees to refund. Nor does the rule apply if the fee for the contract is paid by the bank or some other third party rather than the customer. The final rule also contains a requirement that banks calculate the amount of any refund due a customer based on a method at least as favorable to the customer as the “actuarial method.”
VI. METHOD OF PAYMENT OF FEES
The final rule requires a bank that offers a customer the option to pay the fee for a contract in a single payment also to offer that customer a bona fide option to pay the fee for that contract in periodic payments. The option is “bona fide” if it is not deliberately priced in such a way as to deter a customer from selecting that option.
VII. DISCLOSURES
A. Content of Short and Long Form of Disclosures in General
The final rule provides two types of disclosures: a short form of disclosure suitable for use in telemarketing and various abbreviated written solicitations, and a more detailed long form of disclosure that a customer generally will receive prior to purchasing the contract. A sample short form and a sample long form are provided as Appendix A and Appendix B, respectfully to this Compliance Update. Use of these forms is not mandatory. A bank may adjust the form and wording of this disclosure so long as the requirements of the regulation are met.
The abbreviated or “short form” disclosures that the rule requires include: (1) disclosure that the decision to buy a DCC or DSA is optional and whether or not the customer purchases the product will not affect the customer’s application for credit or terms of any existing loans; (2) disclosure that if a no-refund product is offered, a product with a refund feature also is available; (3) disclosure for DCCs or DSAs offered in connection with loans other than residential mortgage loans, that if the customer may elect to finance a single payment, a lump sum fee, the customer also has the option to pay the fee in periodic payments, and a statement about the effect of the customer’s cancellation of the DCC or DSA before expiration of the term of the loan; (4) a statement that the customer will receive additional information before being obligated to pay for the DCC or DSA; and (5) a statement that certain eligibility requirements, conditions, and exclusions apply that may affect the customer’s ability to claim benefits under the DCC or DSA are described more fully in the “long-form” disclosures that the rule also requires.
The information required to be disclosed in the long form includes: (1) disclosure that the decision to buy a DCC or DSA is optional and whether or not the customer purchases the product will not affect the customer’s application for credit or terms of any existing loan; (2) disclosure that in the case of a DSA, the DSA only suspends, and does not cancel, the customer’s obligation to pay the associated debt; (3) disclosure, if applicable, that the customer may not incur additional charges under its loan agreement if the DCC or DSA is activated; (4) an explanation of the circumstances in which the customer has the right to cancel the DCC or DSA; and (5) a description of any applicable eligibility requirements, conditions, or exclusions, which may be provided either in the disclosure form itself or by reference to particular provisions of the DCC or DSA.
1. Anti-Tying Disclosure
The final rule requires a bank to inform the customer that neither its decision whether to approve a loan nor the terms and conditions of the loan are conditioned on the purchase of a DCC or DSA from the bank. The disclosure must contain a statement that purchase of the product is optional and will not affect either the bank’s credit decision or the terms of credit already extended.
2. Explanation of Effect of Debt Suspension Agreement
The final rule requires a bank to explain the nature of the debt suspension agreement in the long form disclosure. The bank must disclose that if a customer activates the agreement, the customer’s duty to pay the loan principal and interest is only suspended and the customer must fully repay the loan after the period of suspension has expired.
3. Disclosure of the Amount of the Fee
The final rule requires a bank to make disclosures regarding the amount of the fee only in the long form disclosure. However, the disclosure must differ depending on whether the credit is open-end or closed-end. In the case of closed-end credit, the bank must disclose the total fee. In the case of open-end credit, the bank must either: (1) disclose that the periodic fee is based on the account balance multiplied by a unit-cost and provide the unit-cost, or (2) disclose the formula used to compute the fee.
4. Disclosure Concerning Lump Sum Payment of Fee
The final rule requires a bank to disclose the method of payment, including whether the payment would be collected in a single payment or periodic payments, and whether the fee was included in the loan amount. This disclosure, which is included in both the short and long form, requires a bank to disclose, where appropriate, that a customer has the option to pay the fee in a single payment or in periodic payments. This disclosure is not appropriate in the case of a DCC or a DSA provided in connection with a home mortgage loan, since, under the final rule, the option to pay the fee in a single payment is not available in connection with these types of loans. The rule also requires a bank to disclose that adding the fee to the amount borrowed will increase the cost of the contract.
5. Disclosure Concerning Lump Sum Payment of Fees with No Refund
Under the final rule, if a customer may elect to pay the fee in a single payment, the rule requires a bank to disclose that the customer has the option to choose a contract with or without a refund provision. The disclosure appears in both the short and long form disclosures.
6. Disclosure Concerning Refund of Fee Paid in Lump Sum
A bank’s cancellation policy may be a material factor in a customer’s decision whether to purchase the product, particularly if the customer has elected to pay the fee for a DCC or a DSA in a single payment and also has elected to finance the fee. The final rule requires that (for DCCs or DSAs associated with loans other than residential mortgage loans) if a bank permits a customer to pay the fee in a single payment and to add the fee to the amount borrowed, the bank must disclose the bank’s cancellation policy. This disclosure is required in both the short and long form disclosures. It apprises the customer that the DCC or DSA may be cancelled at anytime for a refund, within a specified number of days for a full refund, or at any time with no refund.
7. Disclosure Concerning Whether Use of Credit Line is Restricted
The final rule requires a bank to inform a customer if the customer’s activation of the contract would prohibit the customer from incurring additional charges or using the credit line. This disclosure is only required in the long form disclosures because the information, while relevant to the customer’s final decision to purchase a DCC or a DSA, if not necessary central to the customer’s initial evaluation of the product.
8. Disclosure Concerning Termination of a DCC or a DSA
The final rule requires a bank to explain the circumstances under which a customer or the bank could terminate the contract if the termination is permitted during the life of the loan. This disclosure is only required in the long form disclosures.
9. Additional Disclosures to be Provided
The final rule adds a disclosure in the short form requiring banks to inform consumers that the bank will provide additional information before the customer is required to pay for the product. This disclosure apprises the customer that more information will be available for consideration before the customer is obligated to pay for the product.
10. Disclosure Pertaining to Eligibility Requirements, Conditions, and Exclusions
The final rule requires a bank to describe any material limitations relating to the DCC or DSA. Examples include: imposing a waiting period before a customer may activate benefits; limiting the number of payments a customer may defer; limiting the term of coverage to a specific number of months; limiting the maximum amount of indebtedness the bank will cancel; or terminating coverage when the customer reaches a particular age.
The content of the short and long form may vary, depending on whether a bank elects to provide a summary of the conditions and exclusions in the long form disclosures or refer the customer to the pertinent paragraphs in the contract. The short form requires a bank to instruct a customer to read carefully both the long form disclosure and the contract for a full explanation of the terms of the contract. The long form gives a bank the option of either separately summarizing the limitations or advising the customer that a complete explanation of the eligibility requirements, conditions and exclusions is available in the contract and identifying the paragraphs where a customer may find that information.
VIII. DISCLOSURE REQUIREMENTS – TIMING AND METHOD OF DISCLOSURES
The final rule requires a bank to disclose certain information in the short form orally at the time the bank first solicits the purchase of a contract. A bank is required to disclose the applicable information in the long form in writing before the customer completes the purchase of the contract. However, if the bank solicits a customer’s purchase of a DCC or DSA in person – for example, at the time the customer applies for credit in person – then the bank must also provide the long form disclosures in writing at that time.
The final rule creates special exceptions for transactions by telephone, solicitations through written materials such as mail inserts or “take one” applications, and electronic transactions. The first exception addresses the concern that lengthy disclosures are not practical for solicitations via telemarketing. Under the telemarketing exception, banks may give the short form disclosures orally, provided they mail the written disclosures within three days after the telephone solicitation. These telemarketing provisions are similar to those in the insurance sales consumer protection rules with which banks are already familiar. The rule requires that the customer have an opportunity to review the more detailed information before being obligated to pay for the contract.
The second exception is for written solicitations such as mail inserts and “take one” applications. Similar to the telemarketing exception, it permits a bank to give only the short form disclosures in mail inserts or “take one” applications where space is limited, provided the bank mails the written disclosures within three days after the customer contacts the bank to respond to the solicitation. The effect of this exception is the same as the effect of the provision in the insurance sales consumer protection rules that covers mail and “take one” solicitations. No oral disclosures are required and the short form disclosures may be made in this written material.
The final exception permits disclosures to be made electronically in a manner consistent with the requirements of E-Sign.
A. Form of Disclosures
The final rule requires that the disclosures must be simple, direct, readily understandable and designed to call attention to the nature and significance of the information provided. The disclosures required must be in a meaningful form with examples of methods that could call attention to the nature and significance of the information provided including: (1) a plain-language heading to call attention to the disclosures; (2) a type space and type size that are easy to read; (3) wide margins and ample line spacing; (4) bold face or italicized for key words; and (5) distinctive type style and graphic devices, such as shading or side bars, when the disclosures are combined with other information.
B. Advertisements and Other Promotional Material for Debt Cancellation Contracts and Debt Suspension Agreements
The final rule requires that short form disclosures must be made in advertisements and promotional material for DCCs unless the advertising and promotional material is of a general nature describing or listing the services or products offered by the bank.
C. Affirmative Election to Purchase and Acknowledgement of Receipt of Disclosures Required
The final rule requires that the bank obtain the customer’s affirmative election to purchase a DCC or DSA before obligating the customer to pay for the product. The final rule also adds a requirement, like that contained in the insurance sales regulations, that the bank obtain a customer’s written acknowledgment of receipt of the disclosures required by the regulation.
In the case of telephone solicitations, the rule permits the customer’s affirmative election to be made orally, provided the bank: (1) maintains sufficient documentation to show that the customer received the short form disclosures and then affirmatively elected to purchase the contract; (2) mails the affirmative written election and written acknowledgment, together with the long form disclosures to the customer within three business days after the telephone solicitation, and maintains sufficient documentation to show that it made reasonable efforts to obtain the documents from the customer; and (3) permits the customer to cancel the purchase of the contract without penalty within 30 days after the bank mailed the long form disclosures to the customer.
In the case of solicitations conducted through written materials such as mail inserts or “take one” applications, the rule permits the bank to provide only the short form disclosures in the written materials, provided the bank mails the acknowledgement of receipts of disclosures and the long form disclosures to the customer within three business days, beginning on the first business day after the customer contacts the bank or otherwise responds to the solicitation. The bank may not obligate the customer to pay for the contract until after the bank receives the customer’s written acknowledgement of receipt of disclosures, unless the bank: (1) maintains sufficient documentation to show that the bank provided the acknowledgment of receipt of disclosures to the customer as required by the regulation; (2) maintains sufficient documentation to show that the bank made reasonable efforts to obtain from the customer a written acknowledgement of receipt of the long form disclosures; and (3) permits the customer to cancel the purchase of the contract without penalty within 30 days after the bank has mailed the long form disclosures to the customer. The election and acknowledgment information must be conspicuous, simple, direct, readily understandable, and designed to call attention to their significance.
D. Safety and Soundness Requirement
The final rule requires that banks must establish and maintain effective risk management and control processes over its DCCs and DSAs. Such processes include appropriate recognition and financial reporting of income, expenses, assets, liabilities, and appropriate treatment of all expected and unexpected losses associated with the products. The final rule also requires a bank to assess the adequacy of its internal control and risk mitigation activities, which would include, if appropriate, the bank’s purchase of third-party insurance, in view of the nature and scope of its DCC and DSA programs.
IX. DELAYED EFFECTIVE DATE FOR CERTAIN PERIODIC PAYMENTS
A. Background
The Office of the Comptroller of the Currency (OCC) has announced a delay in the compliance date for certain provisions of its rules regarding debt cancellation contracts (DCCs) and debt suspension agreements (DSAs). The delay is designed to allow the OCC additional time to consider the application of the DCC/DSA rule in the context of closed-end consumer loan transactions where DCCs and DSAs are offered through unaffiliated, non-exclusive agents. The delay of the compliance date applies only to the extent and to the types of transactions described below. In all other circumstances, national banks are required to comply with the DCC/DSA rule as of June 16, 2003, which is the date on which the rule took effect.
The OCC has determined that the periodic payment option requirement may present unique issues in connection with DCCs and DSAs offered by national banks through unaffiliated, non-exclusive agents, with respect to certain types of consumer purchase transactions, most notably car loans made available through automobile dealers. As a result, the mandatory compliance date for the periodic payment option in the case of transactions where unaffiliated, non-exclusive agents of a national bank offer that bank’s DCC or DSA in connection with closed-end consumer credit, has been delayed pending further notice. Because the availability of the periodic payment option also triggers certain disclosures, the OCC has also delayed compliance with certain other provisions in the DCC/DSA final rule that are linked to the requirement to offer a periodic payment option, including the requirement to provide the long form disclosures.
B. Delayed Compliance Date Provisions
As a result of the delayed compliance date, compliance with the following provisions will not be required, until further notice, when a national bank, in connection with closed-end consumer credit extended by that bank, offers a DCC or a DSA through an unaffiliated, non-exclusive agent:
NOTE: The compliance date exemption only applies in a specific circumstance, when it is the agent, and not the bank directly, selling the product for the bank.
The OCC expects that national banks that do not provide long forms disclosures will conspicuously inform customers that they will receive a copy of the contract before they are required to pay for the product.
X. REGULATION Z CONSIDERATIONS
Under Regulation Z, amounts paid for credit insurance or debt cancellation coverage may be excluded from the finance charge if the creditor discloses the fee or premium for the initial term of coverage, among other conditions. The Official Staff Commentary to Regulation Z clarifies that creditors have the option of providing disclosures on the basis of one year of coverage where the fee or premium for the coverage is assessed periodically and the consumer is under no obligation to continue the coverage. This option applies when the consumer can cancel the coverage, whether or not the consumer has made an initial payment.
For open-end plans, a creditor also has the option of providing unit-cost disclosure on the basis of a period that is less than one year if the consumer has agreed to pay a premium or fee that is assessed periodically, e.g., monthly, but the consumer is under no obligation to continue the coverage.
EXAMPLE: A credit life insurance policy providing coverage for a 30 year mortgage loan has an initial term of 30 years, even though premiums are paid monthly and the consumer is not required to continue the coverage. Disclosures may be based on the initial term, but the creditor also has the option of making disclosures on the basis of coverage for an assumed initial term of one year.
APPENDIX A TO PART 37 – SHORT FORM DISCLOSURES
X This product is optional
Your purchase of [PRODUCT NAME] is optional. Whether or not you purchase [PRODUCT NAME] will not affect your application for credit or the terms of any existing credit agreement you have with the bank.
X Lump sum payment of fee
[Applicable if a bank offers the option to pay the fee in a single payment]
[Prohibited where the debt subject to the contract is a residential mortgage loan]
You may choose to pay the fee in a single lump sum or in [monthly/quarterly] payments. Adding the lump sum of the fee to the amount you borrow will increase the cost of [PRODUCT NAME].
X Lump sum payment of fee with no refund
[Applicable if a bank offers the option to pay the fee in a single payment for a no-refund DCC]
You may choose [PRODUCT NAME] with a refund provision or without a refund provision. Prices of refund and no-refund products are likely to differ.
X Refund of fee paid in lump sum
[Applicable where the customer pays the fee in a single payment and the fee is added to the amount borrowed]
[Either:] (1) You may cancel [PRODUCT NAME] at any time and receive a refund; or (2) You may cancel [PRODUCT NAME] within __ days and receive a full refund; or (3) If you cancel [PRODUCT NAME] you will not receive a refund.
X Additional disclosures
We will give you additional information before you are required to pay for [PRODUCT NAME], [If applicable]: This information will include a copy of the contract containing the terms of [PRODUCT NAME].
X Eligibility requirements, conditions, and exclusions
There are eligibility requirements, conditions, and exclusions that could prevent you from receiving benefits under [PRODUCT NAME].
[Either:] You should carefully read our additional information for a full explanation of the terms of [PRODUCT NAME] or You should carefully read the contract for a full explanation of the terms of [PRODUCT NAME].
APPENDIX B TO PART 37 - LONG FORM DISCLOSURES
X Explanation of debt suspension agreement
[Applicable if the contract has a debt suspension feature]
If [PRODUCT NAME] is activated, your duty to pay the loan principal and interest to the bank is only suspended. You must fully repay the loan after the period of suspension has expired. [If applicable]: This includes interest accumulated during the period of suspension.
X Amount of fee
[For closed-end credit]: The total fee for [PRODUCT NAME] is $_____.
[For open-end credit, either:] (1) The monthly fee for [PRODUCT NAME] is based on your account balance each month multiplied by the unit-cost, which is _____; or, (2) The formula used to compute the fee is ____________].
[Applicable if a bank offers the option to pay the fee in a single payment for no-refund
DCC]
You have the option to purchase [PRODUCT NAME] that includes a refund of the unearned portion of the fee if you terminate the contract or prepay the loan in full prior to the scheduled termination date. Prices of refund and no-refund products may differ.
X Use of card or credit line restricted
[Applicable if the contract restricts use of card or credit line when customer activates protection]
If [PRODUCT NAME] is activated, you will be unable to incur additional charges on the credit card or use the credit line.
X Termination of (PRODUCT NAME]
[Either]: (1) You have no right to cancel [PRODUCT NAME]; or (2) You have the right to cancel [PRODUCT NAME] in the following circumstances: _________.
[And either]: (1) The bank has no right to cancel [PRODUCT NAME]; or, (2) The bank has the right to cancel [PRODUCT NAME] in the following circumstances:
[Either]: (1) The following is a summary of the eligibility requirements, conditions, and exclusions. [The bank provides a summary of any eligibility requirements, conditions, and exclusions]; or (2) You may find a complete explanation of the eligibility requirements, conditions, and exclusions in paragraphs _____ of the [PRODUCT NAME] agreement.