Impermissible Loans - Overdrafts

July 7, 1997

William J. Smetana, VP Administrative Services
State Capitol Federal Credit Union
Administrative Office
2015 Rice Street
Roseville, Minnesota 55113

Re: Impermissible Loans - Overdrafts, Your Letter of Your April 30, 1997.

Dear Mr. Smetana:

Your letter to David M. Marquis was referred to the Office of General Counsel for response. Attached to your letter was an opinion written by State Capitol Federal Credit Union's attorney stating that the credit union may voluntarily pay or honor a share draft written on an overdrawn share draft account and that such payment did not constitute a loan. You have asked for a review of this opinion.

Neither the Federal Credit Union Act nor the NCUA Rules and Regulations specifically address a federal credit union's (FCU) authority to pay or honor a share draft written on an overdrawn account. However, our opinion is that payment of an overdraft is, in effect, a loan or line of credit to a member. Therefore, if an FCU pays an overdraft of a member, there must be an overdraft lending agreement in existence between the FCU and the member. Otherwise, the FCU would be making an impermissible loan.

State Capitol FCU's attorney cites Section 336.4-401(a) of the Minnesota Statutes, as authority that an FCU may voluntarily pay a share draft written on an overdrawn account. Section 336.4-401(a), modeled after Section 4-401 of the Uniform Commercial Code, provides:

A bank may charge against the account of a customer an item that is properly payable from the account even though the charge creates an overdraft. An item is properly payable if it is authorized by the customer and is in accordance with any agreement between the customer and the bank.

Although state laws regulating matters affecting the opening, maintaining and closing of a share draft account are not applicable to an FCU, 12 C.F.R. §701.35(c), our interpretation of the permissibility of overdrafts is not contrary to Minnesota law. We, like State Capitol FCU's attorney, are also of the opinion that an FCU may provide overdraft services to its members. However, it is our position that an FCU may not agree to offer the service absent an overdraft lending agreement.

We view an FCU's payment of a share draft drawn on an overdrawn account as a financial accommodation to a member that constitutes a loan or a line of credit. A loan can be defined as "the creation of debt by the lender's payment of or agreement to pay money to the debtor or to a third party for the account of the debtor." BLACK'S LAW DICTIONARY 937 (6th ed. 1990), citing Uniform Consumer Credit Code §3-106. When an FCU pays an overdraft of a member, it is using FCU money to pay the third party obligations of amember. A debt obligation is created for which the FCU expects to be repaid by the member. Accordingly, if an FCU pays an overdraft, it must comply with Section 701.21 of the NCUA Rules and Regulations,Loans to Members and Lines of Credit to Members.