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					The OCC’s Regulation on Debt Cancellation Contracts and
 Debt Suspension Agreements: Overview, Summary and
                       Analysis



                            September 20, 2002




McIntyre Law Firm                      Barnett & Sivon, P.C.
1155 15th Street, N.W., Suite 1101     1155 15th Street, N.W., Suite 1101
Washington, D.C. 20005                 Washington, D.C. 20005
(202) 659-3900                         (202) 463-6040
(202) 659-5763 (Fax)                   (202) 785-5209 (Fax)

James T. McIntyre                      James C. Sivon
jmcintyre@mcintyrelf.com               jsivon@barnett-sivon.com
                                            Overview

What's covered, and who regulates the products?

        The regulation covers DCCs and DSAs issued by national banks. These products are
deemed to be banking products, not insurance products. Federal law, not state law, governs
these products. State insurance regulators have no role in the regulation of these products. DCCs
and DSAs are broadly defined, and include "hybrid" products.

What contract terms are regulated?

        The OCC has elected not to impose price controls on the products, relying instead on an
existing OCC regulation that allows national banks to set non-interest charges and fees
competitively in accordance with safe and sound banking principles. Single fee contracts
connected to residential mortgage loans are banned. If a single fee contract is offered in
connection with other types of loans, a customer must be given a periodic fee option. No-refund
contracts must be offered with an option to buy a refund feature. This refund requirement does
not apply to open-end credit.

What practices are prohibited?

        Misleading practices or advertising is prohibited. Conditioning a loan on the purchase of
a DCC/DSA is prohibited. Unilateral modification of contract terms is prohibited, unless change
is favorable to a customer or a customer is given notice and the right to cancel.

What disclosures are required?

         Banks must tell customers that purchase is optional, must explain applicable fee options,
(e.g., lump sum payments, refunds), and must disclose eligibility requirements, conditions and
exclusions applicable to contracts.

How must the disclosures be given?

        Regulation includes both short and long form disclosures. Short form disclosures may be
used in telephone sales, take-ones and in advertisements. Long form disclosures must be used in
person-to-person solicitations. Disclosures must be given before a sale is final, and a bank must
obtain a customer’s acknowledgment of the receipt of the disclosures.

Must a customer affirmatively elect to purchase the product?

     As a general rule, a customer must affirmatively elect, in writing, to purchase a
DCC/DSA. Oral affirmations are acceptable in telephone sales.

When is Regulation Effective?

       June 16, 2003.



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                                    Summary and Analysis


Background

         The Office of the Comptroller of the Currency (“OCC”) has released a final regulation
governing the issuance of debt cancellation contracts and debt suspension agreements (hereafter
called “contracts”) by national banks. This long-awaited regulation replaces the OCC’s previous
debt cancellation rule (12 CFR 7.1013) with a comprehensive set of consumer protection and
safety and soundness requirements (12 CFR 37). More importantly, by expressly preempting
state regulation, the regulation settles the regulatory uncertainty that has surrounded these
contracts. This will permit national banks to design uniform contracts that can be sold in any
state without the need for a state license or state review. The regulation was published in the
Federal Register on September 19, 2002, page 58962. It also may be found at the OCC’s web
site: http://www.occ.treas.gov/ftp/release/2002-73.pdf.

Effective Date

        The regulation will be effective on June 16, 2003. This nine-month delay should give
national banks time to revise loan documents, make systems changes and train personnel
consistent with the requirements imposed by the regulation.

Authorization/Banking Products

         The regulation authorizes a national bank (and a federal branch or federal agency of a
foreign bank) to enter into these contracts. This authorization is based upon the general powers
clause of the National Bank Act (12 USC 24(7)), which permits a national bank to engage in
activities that are part of or incidental to the business of banking. This means that these contracts
are banking products, not insurance products. The preamble to the regulation reinforces this
classification by noting that for nearly 40 years the OCC has viewed these products as a “lawful
exercise of the powers of a national bank in connection with the business of banking.”
Consistent with this classification, the regulation provides that these contracts are not subject to
the OCC’s regulations related to the sale of insurance products (12 CFR 14).

        This authorization is subject to two conditions. First, the authorization is conditioned on
the charging of a separate fee for these contracts. The OCC has recognized, however, that a bank
could try to avoid the regulation simply by not imposing a separate fee. Therefore, the OCC has
stated that the regulation applies even if a bank includes the fee in the loan payment.

        Second, this authorization applies only to contracts issued in connection with loans made
by the bank itself. Read literally, this limitation means that the authorization does not apply to
contracts included in loans that are assigned to the bank (e.g., auto dealer paper) or purchased by
the bank (e.g., a credit card portfolio). Presumably, this condition is intended to ensure that these
contracts remain linked to a bank’s lending activities. Otherwise, the classification of these
products as banking products might be called into question.




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Preemption of State Law

        Under the OCC’s previous debt cancellation rule, there was some question about the
ability of the states to regulate these contracts when offered by a national bank. The OCC, itself,
had contributed to this uncertainty in a 1990 case involving the previous rule, in which the
agency suggested that certain state regulations could apply to these contracts when offered by a
national bank. The new regulation eliminates this uncertainty. It leaves no doubt that it is federal
law, not state law, which governs these contracts when they are offered by a national bank. It
does this by explicitly preempting the application of state law. The preamble to the regulation
explains the preemptive power of the regulation as follows:

       This final rule, together with any other applicable requirements of Federal law and
       regulations, are intended to constitute the entire framework for uniform national
       standards for DCCs and DSAs offered by national banks. Accordingly, the final rule
       states that DCCs and DSAs are regulated pursuant to Federal standards, including part
       37, and not State law.

        The importance of this preemption provision cannot be overstated. It permits national
banks to design products that can be offered in any jurisdiction without a state license or any
other form of state review.

Definitions

       Debt Cancellation Contracts

       The regulation broadly defines debt cancellation contracts and debt suspension
agreements. A debt cancellation contract is defined as a loan term or contractual arrangement
modifying loan terms under which a bank agrees to cancel all or part of a customer’s obligation
to repay an extension of credit upon the occurrence of a specified event. The regulation does not
otherwise define what is a “specified event.” Thus, a national bank is free to design its contracts
to address not only traditional events such as death, disability or involuntary unemployment of a
borrower, but also any event that may reasonably be expected to occur in the life of a borrower.

       Debt Suspension Agreements

        A debt suspension agreement is defined as a loan term or contractual arrangement
modifying loan terms under which a 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. This
definition is intended to cover debt suspension agreements under which interest continues to
accrue during the suspension period, as well as those under which the accrual of interest is
suspended. It also provides that a debt suspension agreement does not include arrangements in
which the borrower unilaterally decides to defer a payment or the bank unilaterally decides to
allow a deferral of a payment, so-called “skip-a-payment” agreements.




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       Hybrids

       The preamble notes that these definitions are intended to capture “hybrid” contracts,
which contain both debt suspension and debt cancellation features.

       Documentation

       The regulation acknowledges that these contracts may be part of a loan agreement or
contained in separate documents. The proposed rule would have required these contracts to be
separate from loan documents.

Fees

       No Price Controls

        Price controls are one of the central features of state regulation of credit insurance. Since
these contracts provide consumers financial protection similar to credit insurance, state insurance
regulators and consumer groups urged the OCC to include price controls in this regulation.
Significantly, the OCC declined to do so. Instead, the preamble to the regulation states that the
fees charged for these contracts are subject to the OCC’s existing regulation governing “non-
interest charges and fees” (12 CFR 7.4002). That regulation provides that non-interest charges
and fees should be set competitively in accordance with safe and sound banking principles,
taking into consideration the following factors:

      the cost incurred by the bank in providing the service;
      the deterrence of misuse by customers of banking services;
      the enhancement of the competitive position of the bank in accordance with the
       bank’s business plan and marketing strategy; and
      the maintenance of the safety and soundness of the institution.

      The regulation also provides that non-interest fees are subject to traditional federal
preemption standards applicable to national banks as federal instrumentalities, not to the
preemption under 12 USC 85, which allows national banks to export “interest” rates from their
home state.

       The OCC declined to impose price controls because it found “no evidence that the market
for DCCs and DSAs suffers from the same flaws as the commenters assert prevail in the credit
insurance market.” Moreover, the agency said that the rule’s express prohibition on tying leaves
the purchase of these contracts entirely within the control of consumers.

       Single Fee Contracts Offered in Connection with Residential Mortgages Banned

        While the regulation does not regulate fees, per se, it does include certain restrictions on
fee arrangements. Specifically, the regulation prohibits national banks from offering single fee
contracts in connection with residential mortgage loans. This prohibition is intended to ensure
that the “abuses similar to those occurring in the credit insurance market [with single premium


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credit insurance] not develop with respect to DCCs or DSAs provided in connection with home
mortgage loans.” For purposes of this prohibition, a residential mortgage loan is defined as a
loan secured by a 1- 4 family, residential real property.

       Optional Periodic Fee Contracts Required with Non-Mortgage Loans

        The ban on single fee contracts does not apply to any other types of loans. Thus, a
national bank may offer single fee contracts in connection with installment loans or open-end
credit. However, the OCC has concluded that single fee contracts offered in connection with
other loans “have the potential to be problematic.” Thus, a bank that offers a customer a single
fee contract in connection with a non-residential mortgage loan also must offer the customer a
“bona fide” periodic fee contract. The preamble to the regulation states that such an option will
be “bona fide” as long as it is not deliberately priced to deter a customer from selecting the
option.

        Needless to say, giving customers a choice between two fee arrangements could create
significant systems and training challenges for some banks. For example, different TILA
disclosures would be required with these alternative contracts. Under Regulation Z an up-front
single fee must be disclosed as part of the amount financed, but a periodic fee is not part of the
amount financed.

       Refund Option Must Be Provided

        The regulation also addresses the refund of fees in the event a contract is terminated or a
loan is prepaid. More specifically, the regulation requires that a bank that offers a no-refund
contract also must offer the consumer a “bona fide” option to purchase a comparable contract
with a refund feature. In this case, the OCC has suggested that an option is “bona fide” if it is
not deliberately “structured” so as to deter a customer from selecting the non-refund option. The
OCC has sent mixed signals on the ability of a bank to price these alternatives differently. On
one hand, it states that improper structuring can include pricing. On the other hand, the model
long form disclosure (see below) requires a bank to tell a customer that the prices of refund and
no-refund products may differ.

        This “bona fide” refund option does not apply to open-end credit where customers pay
for the contract on a monthly basis, such as credit card loans. In those cases, the OCC
acknowledges that there are no unearned fees to refund to the customer.

        When a refund is due, the regulation requires that a bank calculate the amount of the
refund on a basis at least as favorable to the customer as the actuarial method. The regulation
defines the term “actuarial method” to mean the method of allocating payments made on a debt
between the amount financed and the finance charge pursuant to which a payment is applied first
to the accumulated finance charge and any remainder is subtracted from, or any deficiency is
added to, the unpaid balance of the amount financed. This definition is taken from Regulation Z.




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Prohibited Practices

        In addition to the prohibition on single fee contracts issued in connection with residential
real estate loans, the regulation prohibits banks from tying the sale of these contracts with
extensions of credit, from engaging in misleading practices and advertising, and from unilaterally
modifying the terms of the contracts.

       Anti-Tying

        The regulation specifically prohibits a bank from extending credit or altering the terms of
an extension of credit on the condition that a customer enters into a debt cancellation contract or
debt suspension agreement. This anti-tying prohibition effectively requires that these contracts
be optional features of a loan. Absent this specific prohibition, the OCC acknowledges that the
sale of these contracts in connection with a loan would not be subject to the anti-tying
prohibition contained in the Bank Holding Company Act.

       Misleading Practices and Advertising

        The regulation prohibits a bank from engaging in any practice or using any advertisement
that would mislead or cause a reasonable person to reach an erroneous belief about these
contracts. Section 5 of the Federal Trade Commission Act already prohibits national banks from
engaging in unfair and deceptive acts or practices. The OCC notes, however, that the existing
FTC prohibition is “consistent with, but not duplicative of” the prohibition contained in the
regulation. Also, this prohibition is patterned after a similar prohibition in the OCC’s insurance
sales regulation (12 CFR 14).

       Unilateral Modification of Contract Terms

         As a general rule, the regulation prohibits a bank from unilaterally modifying the terms of
a contract. This general prohibition is based upon the OCC’s view that such a right “has the
potential to be abusive because it could be exercised in such a way as to deny a customer debt
relief for which the customer has paid.” Nonetheless, the OCC recognizes that there could be
instances in which unilateral modifications are not abusive. Thus, the regulation includes two
exceptions to the general prohibition. First, a bank can unilaterally modify a contract if the
modification is favorable to the customer and is made without any charge to the customer.
Second, a bank can unilaterally modify a contract if the customer is notified of the change in
advance and is given a reasonable opportunity to cancel the contract without charge. The OCC
has suggested that a 30-day notice period for cancellation would be reasonable. Also, while the
regulation does not require a contract to specify the circumstances under which a bank could
unilaterally modify the terms of the contract, the OCC encourages banks to include such
provisions in its contracts “to avoid misunderstandings.”

Disclosures

        The regulation requires a bank to make certain disclosures to a customer before the sale
of a contract can be finalized. As a general matter, these disclosures must be made in writing,



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but, as discussed below, there are certain exceptions to this requirement. Additionally, the
regulation provides that the required disclosures take two forms, a short form or a long form, the
use of which depends upon the context in which the bank solicits a customer. The regulation
includes sample forms, but a bank is not required to use these forms, as long as the basic
disclosure requirements are met. An explanation of the required disclosures is attached to this
memorandum.

        Whether or not a bank uses the model disclosure forms or designs its own, the disclosures
must be “conspicuous, simple, direct, readily understandable, and designed to call attention to
the nature and significance of the information provided.” This requirement is identical to the
disclosure standard contained in the OCC’s insurance sales rule.

        Additionally, the disclosures must be in a meaningful form. The regulation provides
several examples of methods a bank could use to call attention to the nature and significance of
the information in the disclosures. These include plain language headings, easy to read typeface
and type size, wide margins, etc.

       Advertisements

        The regulation requires that the short form disclosures be contained in advertisements for
these products, unless the advertisements are general in nature.

Affirmative Election and Acknowledgment of Receipt of Disclosures

        The regulation requires a bank to obtain a customer’s affirmative election to purchase a
contract before the customer is obligated to pay for the contract. It also requires a bank to obtain
a customer’s written acknowledgment of receipt of the disclosures listed above. Different
procedures apply to these requirements, depending upon the solicitation method used by a bank.
Significantly, however, all of these requirements, including the disclosure requirements, could be
satisfied in one document. The disclosure, acknowledgment and affirmative election
requirements also may be made electronically, provided they are consistent with the
requirements of the Electronic Signatures in Global and National Commerce Act (15 USC 7001).
Among other things, that Act requires an institution to obtain the consent of a consumer and to
meet certain record retention requirements.

        The specific affirmative election, acknowledgment and disclosure procedures applicable
to different solicitation methods are summarized below.

       Branch Sales

       When selling a contract in person at a branch or other facility, a bank must –

      Provide the customer with the long form disclosure at the time the person applies for an
       extension of credit;
      Obtain a customer’s written acknowledgment of the disclosures; and
      Obtain a customer’s written election to purchase the product.


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       Telephone Sales

       In the case of a telephone solicitation, a bank –

      May provide the short form disclosures orally;
      Provided it mails the long form disclosures within 3 business days of the solicitation.

       If a sale occurs over the telephone, the bank must –

      Document that the customer received the short form disclosures;
      Document that the customer provided oral consent to purchase the contract;
      Mail the written affirmative election, the written acknowledgment, and the long form
       disclosure, to the customer within 3 business days of the solicitation;
      Document that the bank made “reasonable efforts” to obtain the written election and
       acknowledgment from the customer; and
      Give the customer the right to cancel the contract without penalty within 30 days after the
       mailing.

       Take Ones and Mail Inserts

       If a bank uses take ones and mail inserts to solicit customers, the bank –

      May provide the short form disclosure in the materials;
      Provided it mails the long form disclosures and the written acknowledgment within 3
       business days after the customer contacts the bank in response to the solicitation.

       In this context, however, the bank may not obligate the customer to pay for the contract
       until after the bank has received the customer’s written acknowledgment or –

      The bank has documented that it has provided the written acknowledgment;
      Documented that it has made “reasonable efforts” to obtain the written acknowledgment;
       and
      Given the customer the right to cancel the contract without penalty within 30 days of
       mailing the long form disclosures.

        In many respects the election and acknowledgment requirements in a telemarketing
setting are patterned after similar requirements in the OCC’s insurance sales regulation.
Therefore, we believe it is appropriate to look to the Interagency Q&A issued in response to that
regulation for some guidance on some of the requirements imposed by this regulation.
Specifically, this regulation, like the insurance sales regulation, permits oral disclosures,
elections and acknowledgments, provided they are appropriately “documented.” The
Interagency Q&A released in connection with the insurance sales regulation suggests that
appropriate documentation within the context of an oral solicitation includes a tape recording of
the conversation (where permitted by applicable laws), a contemporaneous checklist addressing



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all relevant requirements, or a contemporaneous note in the consumer’s file. This documentation
should be maintained in the consumer’s file and be accessible to examiners.

        Additionally, this regulation, like the insurance sales regulation, requires a bank to make
“reasonable efforts” to obtain a written election and acknowledgment following a telephone sale.
The Interagency Q&A provides several examples of “reasonable efforts,” including providing
the consumer a return-addressed envelope or similar means to facilitate the consumer’s return of
the required written materials, making a follow-up phone call or contact, or sending a second
mailing.

Safety and Soundness Requirements

         The regulation requires a national bank to manage the risks associated with these
contracts in accordance with safe and sound banking principles. Interestingly, it does not
explicitly require a bank to establish a reserve for these contracts or to purchase a contingent
liability policy. On the other hand, it does direct national banks to establish and maintain
effective risk management and control processes, and it states that effective risk management and
control processes should include appropriate recognition and financial reporting of income,
expenses, assets and liabilities, and appropriate treatment of all expected and unexpected losses.
Certainly, a reserve or a contingent liability policy would be responsive to such requirements.




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                                    Required Disclosures


Short Form Disclosures

      Anti-tying Disclosure. This disclosure requires a bank to tell the customer that the
       purchase of the product is optional.

      Lump Sum Fee. This disclosure is required if a bank offers a lump sum or single fee
       payment option with non-mortgage loans. In such cases, the bank must disclose that a
       customer has the option to pay the fee in a single payment or in periodic payments. Also,
       the bank must tell the customer that adding the fee to the amount borrowed will increase
       the cost of the contract.

      Lump Sum Fee With No Refund. This disclosure is required if a bank offers a lump sum
       or single fee contract that does not include a refund feature. In such cases, the bank must
       disclose that the customer has the option to purchase a contract that includes a refund of
       the unearned portion of the fee in the event the customer terminates the contract or
       prepays the loan. It also requires the bank to disclose that the prices of refund and no-
       refund contracts may differ.

      Refund of Fee Paid in Lump Sum. This disclosure is if a bank offers a single fee contract
       and the customer has decided to finance the fee. It generally requires the bank to disclose
       the bank’s refund policy in the event the contract is cancelled by telling the customer that
       either (1) the contract can be cancelled at any time for a refund, (2) the contract can be
       cancelled within a certain time period for a full refund, or (3) there is no refund upon
       cancellation.

      Additional Disclosures. This disclosure requires the bank to tell customers that it will
       provide additional information about the contract before the customer pays for the
       contract.

      Eligibility Requirements, Conditions and Exclusions. In the short form, the disclosure
       must direct the customer to the long form disclosure and the contract itself for an
       explanation of the terms of the contract. The preamble to the regulation lists several
       examples of such conditions or exclusions, including the termination of coverage when
       the customer reaches a particular age. This particular example suggests that the OCC
       does not view such a condition as contrary to the Equal Credit Opportunity Act, which
       otherwise prohibits lenders from denying credit on the basis of age. On the other hand,
       we would not advise any bank to include such a condition solely on the basis of this
       example.




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Long Form Disclosures

       The long form must include all of the disclosures required in the short form (except the
disclosure about additional information) plus the following other disclosures:

      Effect of Debt Suspension Agreements. This disclosure requires a bank to tell a customer
       that when a debt suspension agreement is activated, the customer’s obligation to repay
       the loan is only suspended and that the customer must repay the principal, and possibly
       the interest, after the suspension period.

      Total Fee. In the case of a closed-end credit, the bank must disclose the total fee for the
       contract. In the case of an open-end credit, the bank must disclose either (1) 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.

      Use of Credit Card or Credit Line. This disclosure is required only in the long form. It
       requires the bank to tell the customer if activation of the contract would prohibit the
       customer from incurring additional charges on a credit card or using a credit line.

      Termination of Contract. This disclosure is required only in the long form. It requires
       the bank to explain the circumstances under which a customer or the bank may terminate
       the contract.

      Eligibility, Conditions, Exclusions. In the long form, the bank can either provide a
       summary of the conditions and exclusions or refer the customer to pertinent provisions in
       the contract.




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