September 12, 1997
Irwin A. Thomas, Supervisor
Bond, Crime, Commercial Glass, Credit
and other Casualty Lines
MC 104-1B
333 Guadalupe Street
P.O. Box 149104
Austin, Texas 78714-9102
Richard Hetzel from FLS Services, Inc. forwarded your letter addressed
to John Tullis of Balboa Insurance Company to the National Credit
Union Administration's (NCUA's) Office of General Counsel for
response. In your letter, you requested a written statement that
credit unions may use debt cancellation contracts or agreements
and that NCUA does not consider these contracts or agreements
to be insurance.
As long as a federal credit union (FCU) is not engaged in a form
of self-insurance as discussed below, it is our opinion that debt
cancellantion contracts or GAP Waivers are not insurance products
and an FCU may use them. Our response is limited to FCUs. As
to state chartered credit unions, you should propose these questions
to the appropriate state authority for an answer
BACKGROUND
From past information provided by FLS Services, Inc., we understand
that Guaranteed Auto Protection or GAP is insurance purchased
by an FCU to protect itself from a loss resulting when a vehicle
securing a loan financed by the FCU is declared a total loss or
is stolen and the borrower's primary insurance settlement is not
sufficient to cover the outstanding loan balance. With GAP insurance
coverage, the FCU would receive compensation for the difference
between the borrower's primary insurance settlement and the outstanding
loan amount.
A GAP program established by an FCU operates in two phases. First, an FCU financing the purchase or lease of a borrower's vehicle would ask the borrower if he or she wanted GAP protection. If the borrower elects GAP protection, the FCU would enter into a debt cancellation contract or GAP Waiver with the borrower. The debt cancellation contract or GAP Waiver states that the borrower is released from his or
her obligation to pay the deficiency remaining between the primary
insurance settlement and outstanding loan balance if the vehicle
securing the loan is totaled or stolen. Each borrower who elects
GAP protection is charged a fee by the FCU. Second, an FCU would
purchase a GAP insurance policy from an insurance vendor for each
vehicle that is the subject of a debt cancellation contract or
GAP Waiver signed by a borrower. The GAP insurance policy would
be between the insurance vendor and the FCU, not the borrower.
ANALYSIS
In your letter, you made reference to an opinion letter from Richard
Schulman to Richard Hetzel dated November 16, 1995, in which we
stated that an FCU may sell debt cancellation contracts to its
members as an activity that is incidental to the FCU's express
power of lending. You have asked for clarification of a statement
that was made subsequently in the opinion that such debt cancellation
contracts "are an impermissible activity when they require
an FCU to forgive otherwise collectible loans."
An FCU cannot sell a debt cancellation contract under a GAP program
in which the FCU, in reality, is engaged in a form of self-insurance.
Self-insurance is defined as a "plan in which the insured
(e.g. business) places aside in a fund sufficient sums
to cover liability losses that may be sustained." BLACK'S
LAW DICTIONARY 806 (6th ed. 1990). An FCU would be engaged in
self-insurance if, for vehicles subject to a debt cancellation
contract, the FCU established a special reserve to fund any resulting
loan deficiencies instead of purchasing GAP insurance coverage
from an insurance vendor. Also, an FCU would be considered engaged
in self-insurance if the FCU established a special reserve to
fund any loan deficiencies up to a certain dollar amount and then
purchased insurance from a vendor to cover any excessive loss
or liability.
When an FCU acts as a self-insurer, the FCU is, in effect, providing
insurance coverage for member loans by assuming the payment risk
of each loan. Self-insurance is not an activity incidental to
any express FCU power. However, an FCU may enter into debt cancellation
contracts or GAP waivers under its incidental powers provided
that it purchases an insurance policy that covers the entire risk
of loss.
You also asked whether NCUA considers debt cancellation contracts
or GAP waivers to be insurance and whether an FCU that enters
into such contracts or waivers to be engaged in the business of
insurance. In the above-mentioned opinion to Richard Hetzel,
we stated that the determination of whether a debt cancellation
contract or GAP Waiver was an insurance product was to be made
by the appropriate state insurance regulator. After further consideration,
however, it is our opinion that debt cancellation contracts or
GAP Waivers are not insurance products. We rely on a federal
appellate court decision that holds that, since national banks are permitted
to offer debt cancellation contracts under their incidental powers,
debt cancellation contracts should not be considered the "business
of insurance." First National Bank of Eastern Arkansas
v. Taylor, 907 F.2d 775, 780 (8th Cir. 1990), cert. denied,
498 U.S. 972 (1990). Accordingly, an FCU would not be engaged
in the business of insurance by entering into such debt cancellation
contracts or GAP waivers with its members.
Sincerely,
Sheila A. Albin
Associate General Counsel
GC/NSW:bhs
SSIC 3800
97-0632
cc: Richard W. Hetzel, President
FLS Services, Inc.