Participation loan transactions at credit unions must meet rules throughout loan lifetimes, be treated independently, agency writes

Provisions of a loan participation transaction at a credit union must meet regulatory requirements throughout the life of the loan, and each loan must be treated independently, according to a legal opinion letter issued by credit unions’ federal regulator.

In its letter, dated March 22, National Credit Union Administration (NCUA) General Counsel Michael J. McKenna told attorneys for CU Counsel, PLLC, of Washington, D.C., that certain provisions of the agency’s loan participation regulation outline the lifetime requirements for transactions. He pointed to Sec. 701.22(d) of the regulation, which “emphasizes the need for adequate documentation and due diligence from before the time of purchase throughout the life of the loan.”

Regarding “independent treatment” of loans (that is, each participated loan be identified and treated independently of all other participated loans), McKenna noted that NCUA rules require that the loan participation agreement identify each participated loan, enumerate servicing responsibilities for the loan, and include disclosure requirements regarding the ongoing financial condition of that loan, the borrower, and the servicer. Under a participation agreement with multiple loans, he wrote, documentation can be simply an addendum or schedule for identifying each loan and the participant’s interest in the loan.

“These requirements support the underlying principle that the purchase or sale of a loan participation represents an interest in a single loan,” McKenna wrote. “This principle must be maintained throughout the life of a participated loan, including servicing. Therefore, a servicer generally cannot deduct a servicing fee related to a nonperforming loan participation from the principal and interest received from a performing loan participation, even when many loan participations are sold to the same purchasing credit union.”

However, the NCUA’s loan participation regulation does not prohibit more efficient servicing practices, the letter states. “For example, netting payments across multiple performing loans generally is considered permissible if there is proper accounting of each loan’s individual status and the netting is in accordance with the loan participation agreement,” McKenna wrote

NCUA legal opinion letter: Loan participations at credit unions