Avoiding Director Liability

Credit Union Association of the Dakotas2012 Annual Summit

Guy A. Messickwww.CUSOLaw.com

NCUA is Piling on More Responsibility for Directors

Section 113 of theFederal Credit Union Act

The board of directors shall meet at least once a month and shall have the general direction and control of the affairs of the federal credit union. Minutes of the meeting must be kept.

NCUA Regulations 701.4(b) – A Director Has a Duty to…

Carry out his or her duties as a director in good faith, in a manner such director reasonably believes to be in the best interests of the membership of the Federal credit union as a whole, and with the care, including reasonable inquiry, as an ordinarily prudent person in a like position would use under similar circumstances;

Administer the affairs of the Federal credit union fairly and impartially and without discrimination in favor of or against any particular member;

NCUA Regulations 701.4 (b) – A Director Has a Duty to…

Have at least a working familiarity with basic finance and accounting practices, including the ability to read and understand the Federal credit union's balance sheet and income statement and to ask, as appropriate, substantive questions of management and the internal and external auditors; and

Direct management's operations of the Federal credit union in conformity with the requirements set forth in the Federal Credit Union Act, this chapter, other applicable law, and sound business practices.

Variations of the Director Species

TheRoyal Director

The Laid Back Director

The Party Director

TheHiddenAgendaDirector

The MicroManagingDirector

Let’s start off by scaring you to get your attention.

Being a director can be a precarious job.

FIRREA

Institution Affiliated Party

FIRREA - Standard of Care

Fiduciary Standard Act in good faith Reasonably believe actions in the

best interest of the CUSO Reasonable inquiry, skill and diligence

that person of ordinary prudence would use under similar circumstances

FIRREA - Standard of Care

No scienter (knowledge) required Minimum liability standard

Unintentionally allowing an unsafe or unsound practice to occur

FIRREA - Penalties

Removal of IAP and industry wide bar

Civil money damages $5,000 per day $25,000 per day $1,000,000 per day

The Director’s View ofRegulations

Briar Patch

Truth-in-Lending Truth-in-Savings RESPA Fair Debt Collection Practices Act Equal Credit Opportunity Act

Briar Patch

ADA IRS Prompt Corrective Action Privacy Act Due Diligence

NCUA Hot List

Self-dealing Excessive growth & careless lending Failure to correct deficiencies Failure to follow regulations Failure of oversight & internal

controls Lack of vendor due diligence

NCUA Hot List

Failure to provide an adequate allowance for loan loss

Failure to hold meetings & keep minutes

Failure to have an adequate audit Payment of illegal dividends

When in doubt....

Use the 3:00 AM Test

Use the Mike Wallace Test

Ask a Lawyer and Blame the Lawyer if Things Go Wrong

What to do if the NCUA gets nasty.

Don’t sweat. Pretend not to

understand English.

Blame your mother for an unhappy childhood.

What to do if the NCUA gets nasty.

Get your credit union lawyer actively involved immediately

Speak with one voice Dissent on the record if applicable Don’t hide your head in the sand Watch out for letters of

understanding – GO SLOW!!!

What to do if the NCUA gets nasty.

Recommended personnel action Resignations When to get your own lawyer Indemnification by the credit union Does it make a difference that

you’re a volunteer?

HELP!!!HELP!!!

There is Hope

Business Judgment Rule

Strong presumption that protects directors from possible liability for decisions that result in harm to the credit union – can be rebutted.

Exists so that a Board will not suffer legal action simply from a bad decision if the elements of the Rule are met.

Based on process not hindsight substantive analysis.

Business Judgment Rule Duty of Care – Exercise powers in good faith

with the care of an ordinary prudent person in a like position and in a manner one reasonably believes to be in and not opposed to the best interest of the company (after reasonable investigation).

Duty of Loyalty – Exercise powers in the primary interest of the company rather than out of self-interest and do not usurp company opportunities for self-interest at the expense of the company.

Duty of Obedience – Act timely and follow the law and by-laws.

The WesCorp Case

Who do the directors serve?

Who do directors owe a duty to?

Washington State NCUA To the credit union as

an entity To the members What if some

members benefit from a decision and others do not?

Can the interest of some members be in conflict with the credit union?

NCUA Position Two guiding questions for directors:

What financial services do my members need and want?

Will my decision today help the credit union provide these member services in a quality manner and at low cost to the members?

If the duty is owned to the CU and not the members, the directors can justify self-serving decisions or decisions that serve primarily CU insiders.

What are the restrictions on indemnification for federal credit

unions?

Prohibition of Indemnification

Not when a court determines that the director acted with gross negligence, recklessness or intentional misconduct in matters affecting the fundamental rights and interest of members (charter conversions and share insurance conversions)

Not where an IAP is assessed a civil money penalty, removed from office or is required to act or cease from acting under a Section 206 action

Advancing Fees Board acts in good faith to determine in writing

that the IAP acted in good faith in a manner which he/she reasonably believes to be in the best interest of the members

Board acts in good faith to determine in writing that the indemnification will not materially adversely affect the CU’s safety and soundness

Indemnified director provides a written statement of compliance with good faith standard

Agrees to repay the CU if there is a finding or agreement that results in a finding of gross negligence, recklessness or willful misconduct or there is the imposition of civil penalties.

Indemnification Questions Can CU get insurance to cover defense costs

if director cannot pay them back? What happens if director cannot pay back

the defense costs and insurance is not sufficient?

What happens to the directors who think they are acting in good faith to approve the indemnification and NCUA disagrees?

Is there too much pressure to give in to NCUA if there is concern on individual exposure to defense costs?

Reliance by a DirectorNCUA -701.4(d)

From staff the director reasonably believes to be reliable and competent

Professional advice if the director believes the advice to be within the person’s professional competence and who merits confidence

A committee of the board if the director reasonably believes merits confidence

Insurance Options Directors, Volunteers and Employees Errors and Omissions Bond Claims Made vs. Date of Occurrence Pay On Behalf Of vs. Duty to Defend

Paid at the conclusion of the case vs. advancement of defense costs

Review Limits of Liability Key Definitions Key Exclusions

Permissible Benefits

Gifts of minimal value Insurance and incidental services

available to employees generally Reimbursement of expenses for

director and spouse in the performance of the director’s duties

Loans but not on more favorable terms than offered to members generally

Characteristics of High Functioning Boards

High Functioning Boards…

Take legally required actions Act on the regulators’ exceptions Establish written investment and

lending policies Establish and monitor employment

policies

High Functioning Boards…

Understand the oversight role versus the management role

Give the CEO the direction and support to be successful and hold the CEO accountable

Self-evaluate the performance of each director and the results are reflected in the nomination process

High Functioning Boards…

Expect the CEO to provide sufficient and timely information and alternatives for the Board’s consideration

Consider the information provided, make timely decisions and follow up to monitor the implementation of the decisions

High Functioning Boards…

Consist of directors who reflect the demographics of the membership

Have a balance of experienced directors and new directors

Treat each other and staff with respect

High Functioning Boards…

Establish a forward thinking strategic plan and business plan and take action consistent with the plans

Keep the focus on the members

High Functioning Boards Have Directors Who…

Attend board meetings Know the basic legal framework Competently examine financial

reports Disclose all actual and potential

conflicts Attend conferences judiciously Stay alert

Just remember the five A’s.

Attitude Attendance Attention Answers Action

The Top Ten Reasons for Being a Credit Union Director

The Top Ten Reasons for Being a Credit Union Director

10. The pay is great.9. I don’t hear enough complaints at

home.8. It helps remind me of the difference

between dividends and interest.7. I love cold coffee and stale danish.6. I enjoy comparing the aesthetics of

hotel meeting rooms all over the country.

The Top Ten Reasons for Being a Credit Union Director

5. I enjoy the cheery disposition of our examiners.

4. I appreciate the advice of bureaucrats who never ran a credit union or

met a payroll.3. I enjoy being called a credit unionist.2. I love regulations that protect me from

my poor unsophisticated self. 1. I love to annoy bank presidents.

Real Reason for Being a Credit Union Director

To receive the satisfaction of making a meaningful and positive contribution to the lives of your fellow members

Continue to Fight the Good Fight

Thank you for your service.