Sunday, May 30, 2010

Hudson Valley FCU, Mortgage Recording Tax, and Class Action Lawyers

The Times Herald-Record is reporting that Hudson Valley FCU is being sued by borrowers regarding the mortgage recording tax.

For more details about the mortgage recording tax, see earlier posts (April 13 and May 26).

The article states that "[o]n April 29, a group of borrowers who obtained mortgages from Hudson Valley Federal Credit Union filed a lawsuit against the credit union seeking a refund, plus damages, of the tax they paid to have their mortgages recorded in the counties where they lived."

The sharks, I mean lawyers, representing the borrowers are with Izard Nobel, a Hartford, Conn.-based class action firm.

The article states that there could potentially be thousands of plantiffs as 10 other states have mortgage recording taxes.

With apologies to Jimmy Buffett,

"You got fins to the left, fins to the right, and you're the only bait in town."

Thursday, May 27, 2010

Treasury Would Support Increase in Business Lending Cap for Qualified CUs

The Treasury Department Secretary Timothy Geithner sent a letter on Tuesday to House Financial Services Committee Chairman Barney Frank stating that the agency would support increasing the member business-lending cap for certain well-qualified credit unions from 12.25 percent to up to 27.5 percent of total assets.

Geithner said the cap could be raised for credit unions that have been near the 12.25 percent limit for four consecutive quarters; are well capitalized; have no less than five years of experience underwriting and servicing member business loans; have strong policies and experience managing such loans; and satisfy other standards that the national Credit Union Administration has established to maintain safety and soundness.

Below is the legislative language submitted by Treasury.(click on image to enlarge)

Wednesday, May 26, 2010

New York Court Rules that FCUs Subject to Mortgage Recording Tax

The New York Supreme Court ruled that even though the Federal CU Act defines federally chartered credit unions as instrumentalities of the federal government and thus exempt from state taxes, the mortgage recording tax is not a tax on credit unions or a tax on borrowers, but on the “privilege of recording” a mortgage, as argued by the state’s Department of Taxation and Finance. (see Aril 13 post) The Court found that the mortgage recording tax was properly assessed against federal credit unions, including Hudson Valley FCU, and granted the Department of Taxation and Finance motion to dismiss.

Hudson Valley FCU challenged the mortgage recording tax arguing that federal credit unions are exempt from virtually all state
and local taxation, including taxation on intangible property such as mortgages. The credit union was seeking a refund of almost $1.9 million.

But the New York Court of Appeals held that the mortgage recording tax is not a tax on property, and thus not an exempted tax for federal credit unions.

Friday, May 21, 2010

Kentucky Supreme Court: CUs Can Have FOM Based on Geography

The Kentucky Supreme Court overturned a lower court ruling that stated the Kentucky Department of Financial Institutions (DFI) lacked authority to grant fields of membership (FOM) based on geography.

Home Federal Savings and Loan Association sued the Kentucky regulator arguing that state law did not permit community-based FOMs for state-chartered credit unions.

When the legislature amended the Kentucky credit union statute in 1984, it changed the field of membership requirement so that "[c]redit union membership shall be limited to persons having a common bond of similar occupations, association or interest."

The circuit court granted summary judgment in favor of Home Federal, after concluding that DFI was no longer authorized to charter credit unions with geographic fields of membership. The court found that 1984 amendments to the statute omitted the model act's language that expressly allowed geographic and several other specific fields of membership. This omission caused the lower court to conclude that the legislature had "considered and rejected the option of allowing community based, or geographic, fields of membership" when it amended the statutes .

However, the Kentucky Supreme Court in its opinion concluded that the legislative change in the field of membership went “from specific, narrow allowable categories to more generic language. This indicates a legislative intent to broaden the allowable categories of membership … so long as they could reasonably be understood to fit within the current language of the statute.”

The Supreme Court decision focused around the concept of common bond of shared interest.

The Supreme Court opined that "a group of persons share the same hobby or enjoy novels by the same author, while technically a shared interest, is insufficient to demonstrate the common bond required to form a credit union. The shared interest in such cases does not link such persons in any substantial way or create any sort of financial or legal interdependence."

However, geographic connection is different. "Persons who live in the same neighborhood or rural farming district do have a concrete shared interest that demonstrates a common bond."

Thus, the court found a geographic or community field of membership is permissible under state law.

Thursday, May 20, 2010

NCUA: Assets in Problem Credit Unions Increase in April

NCUA reported that the number of problem credit unions (credit unions with a CAMEL ratings of 4 or 5) increased in April by 8 to 357 credit unions.

Assets in problem credit unions increased by $1.9 billion in April to $49.2 billion.

Additionally, the percentage of insured shares (deposits) in problem credit unions rose by 26 basis points in April to 5.94 percent. NCUA reported that problem credit unions held $43.2 billion in shares (deposits).

The following image shows the number of problem credit unions by asset size and the amount of shares held by these credit unions. There are 14 credit unions with $1 billion or more in assets on the problem credit union list. These credit unions hold $21 billion in shares or just slightly below half of all shares in problem credit unions.

Tuesday, May 18, 2010

Fitch Affirms Ratings for Corporate CUs

Fitch Ratings on May 13 affirmed the long- and short-term Issuer Default Ratings (IDRs) at 'A+' and 'F1+', respectively, of the eight corporate credit unions that it rates based on the National Credit Union Administration's (NCUA) continued support for these corporate credit unions. Additionally, their Outlook remains Stable.

However without the external support, it is Fitch's opinion that these institutions would likely have been in default. Corporate credit unions continue to benefit from the various support mechanisms put in place to maintain liquidity in the corporate credit union system and most of the corporate credit unions currently require regulatory forbearance from the NCUA given their weak capital positions.

The eight corporate credit unions that Fitch rates are: Central Corporate Credit Union, Constitution Corporate Federal Credit Union, Eastern Corporate Federal Credit Union, First Corporate Credit Union, Mid-Atlantic Corporate Federal Credit Union, Members United Corporate Federal Credit Union, Southeast Corporate Federal Credit Union, and Southwest Corporate Federal Credit Union.

Monday, May 17, 2010

Silver State Schools Q1 Financials

Privately-insured Silver State Schools CU in Las Vegas, Nevada reported a loss of almost $8.5 million in the first quarter.

The one-time billion-dollar credit union announced two weeks ago it is closing five branches as part of a cost-cutting move.

Silver State Schools during the first quarter received a capital injection of $22 million from private share insurer, ASI. The capital injection boosted its net worth ratio to 5.28 percent at the end of March from 3.64 percent at the end of 2009. Without the capital injection from ASI, its net worth ratio would have dropped to 2.64 percent.

Silver state reported that $62.7 million of its loans were 60 days or more past due (8.85 percent of its loan portfolio). Almost $57.3 million of the delinquent loans were real estate loans.

Below is a four time period trend analysis for Silver State Schools. (Click on image to enlarge)

Thursday, May 13, 2010

RegFlex Net Worth Requirements

The National Credit Union Administration (NCUA) in 2002 exempted federal credit unions (FCUs) that have demonstrated sustained superior performance as measured by CAMEL ratings and net worth classifications from certain regulatory restrictions through its Regulatory Flexibility (RegFlex) Program. The agency is now looking to rescind certain RegFlex authorities, because these activities pose a safety and soundness concern. NCUA should also revisit its net worth standard for participation in the program.

In November 2002, the criteria to achieve RegFlex designation were a CAMEL ratings of 1 or 2 for two preceding examinations and net worth ratio of 9 percent or more (200 basis points above the minimum regulatory standard for being “well-capitalized”).

In 2006, the NCUA Board relaxed the net worth portion of the RegFlex qualifications from a minimum 9 percent net worth ratio for one quarter to exceeding a minimum 7 percent ratio for six consecutive quarters. A seven percent net worth ratio is the minimum requirement for being well-capitalized.

This watering down of the net worth standard allowed more credit unions to qualify for RegFlex authority by by-passing certain safety and soundness restrictions. NCUA estimated that at the end of 2004 the change in the net worth standard would increase the number of FCUs qualifying for RegFlex authority from 3,457 to 3,919.

Given the agency's concerns about the risk posed by certain RegFlex powers, it would be appropriate for NCUA to look at raising the net worth standard above the minimum requirement for being well-capitalized and to require an FCU to meet a net worth duration requirement for RegFlex eligibility. This would demonstrate superior capital (net worth) management on the part of the FCU.

It is obvious from the issuance of the the proposed rule by NCUA that some FCUs, through their expanded authorities, have assumed excessive risk relative to their net worth positions.

By imposing a net worth cushion for RegFlex eligibility above the bare minimum for being well-capitalized should significantly reduce the risk to credit unions and the NCUSIF.

Tuesday, May 11, 2010

Are Credit Unions Viable Providers of Short-term Credit?

That is the question posed by Victor Stango at University of California, Davis Graduate School of Management. It is a particularly relevant policy question given that some credit unions and their trade associations have been championing legislation at the state level to shut down traditional payday lenders.

The following discussion highlights some of the key findings of the study.

The study found that according to NCUA data "fewer than six percent of credit unions currently offer payday loans, and credit unions probably comprise less than two percent of the national payday loan market."

Stango writes that "most credit unions do not offer payday loans because they see little chance to break even on a low-priced payday advance product - either because the rates/fees they would charge are too low, or because payday loans are too risky."

"Despite much lower nominal loan APRs, credit union payday loans often have total fee/interest charges that are quite close to (or even higher than) standard payday loan fees. Further, credit union payday loans have tighter credit requirements, which generate much lower default rates. Together, the combination of only slightly lower total charges and significantly lower default rates raises the possibility that risk-adjusted prices on credit union payday loans are no lower than those on standard payday loans."

"Further evidence on non-price terms reveals that tighter credit requirements are not the only negative feature of the credit union payday loan. Credit unions typically have locations and business hours that consumers find less convenient than those of commercial payday lenders. Application times are longer at credit unions. And, default on a credit union payday loan may harm one's credit score, while default on a standard payday loan does not harm one's credit score."

Citing results from a survey of payday borrowers, the study found that very few payday borrowers preferred the credit union approach to payday loans. Borrowers dissatisfaction with the credit union payday alternative arose from shorter hours of operation, a desire to keep separate payday borrowings from other banking activities, and a default on a credit union payday loan could harm one's credit score. However, these survey findings are based on a small sample of 40 payday borrowers.

Based on these findings, Stango concludes that it is unlikely that credit unions could viably serve this market.

Friday, May 7, 2010

IG Report: CDOs, C&D Loans, and Eastern Financial Florida CU Failure

NCUA’s Inspector General (IG) released its Material Loss Review on the failure of Eastern Financial Florida Credit Union (EFFCU). NCUA estimates that the failure of EFFCU imposed a loss of $40 million on the National Credit Union Share Insurance Fund.

The IG concluded that the “failure can be attributed to inadequate management and Board of Directors (Board) oversight that exposed the credit union to excessive amounts of risk due to investments in complex private-placement Collateralized Debt Obligations (CDOs), weak business loan underwriting and credit administration, poor earnings resulting from an aggressive growth strategy, and an inadequate strategic plan.”

Excessive Exposure to Risky CDOs

The report found that EFFCU had significant losses related to large investments in CDOs backed by subprime home equity/auto loans and corporate debt. Management and the Board of EFFCU relied too heavily on rating agencies’ grading of CDO investments; failed to fully evaluate and understand the complexity of the CDO investments; and created a concentration risk by investing a total of eighteen CDOs for $149 million, of which nearly $100 million were backed by home equity loan asset backed securities.

In September 2005, EFFCU wrote the state supervisory authority (SSA) about the permissibility of investing in CDOs. The Florida CU supervisor concluded that it was a permissible activity. The report makes the point that Eastern was the only federally-insured state chartered credit union to invest in CDOs.

In the first half of 2007, Eastern Financial significantly ramped up its investments in CDOs. Between March and June of 2007, it purchased $94.8 million in CDOs, bringing its total investments in CDOs to $149.2 million. However, once purchased, these CDOs rapidly deteriorated in value.

“By early 2009, twelve CDOs were completely written off for a $106 million loss the remaining CDOs had a $43.2 million book value with unrealized losses totaling $37.9 million. In the end, EFFCU essentially charged off all eighteen CDO investments, resulting in losses of $149.2 million between June 2007 and June 2009,” according to the IG report.

The IG wrote that the “September 2005 CDO letter should have prompted the Florida SSA to require that EFFCU implement strong CDO policies to include prudent limits on initial CDO purchases to ensure EFFCU could properly manage the complex investments.” The planned investment in CDOs should have been viewed as high risk activity requiring greater supervisory oversight, especially since EFFCU was the only natural person credit union to hold these investments. The IG concluded that examiners missed an opportunity in 2006 and early 2007 to review the credit union’s ability to effectively manage the risk its CDO investments.

Concentration in Construction Loans

The IG report also notes that EFFCU had numerous violations associated with its member business loan program and experienced increasing delinquencies and loan losses, especially from two large construction and development (C&D) loans.

Examiners uncovered that EFFCU had not classified land intended for income producing property as C&D loans – understating its exposure by $61 million. Once properly classified, EFFCU had over 40 percent of its net worth in C&D loans (over $90 million), which exceeded the regulatory limit of 15 percent of net worth.

Additionally, the report points out that EFFCU requested waivers from the requirement that borrowers have at least a 25 percent equity stake in projects being financed. Examiners recommended that NCUA regional office deny the waiver request, because it could lead to lead to unsafe and unsound banking practices. However, NCUA and the Florida CU regulator granted several of these waivers.

The IG report noted that EFFCU was experienced increased delinquencies with respect to its member business loan program. The report cites that in 2007 one larger delinquent member business loan ($30 million) was not properly classified – understating the credit union’s delinquent loan ratio. The actual delinquency ratio for the credit union was 2.58 percent, while the credit union’s September 2007 Financial Performance Report stated that delinquency ratio was 0.66 percent. Examiners determined the construction project was cancelled; however, EFFCU continued to accrue interest despite the loan being 5 months delinquent and there being no more funds in the interest reserve.

Other Findings

The IG cites additional factors that demonstrated the lack of effective management and Board oversight of the credit union. These factors include: costly branch expansions, too heavy of a reliance on overdraft privilege fees, lack of management succession plans, and excessive use of outside contractors (three of the largest contracts had exorbitant termination fees).

A final point I would like to make deals with the lack of transparency with regard two enforcement actions. The IG report references two regulatory enforcement actions that were taken against Eastern Financial, however, they do not appear on either the NCUA’s or Florida regulator’s website. First, the IG report states that NCUA and the Florida regulator issued a joint Letter of Understanding and Agreement on January 25, 2008. Second, the state credit union regulator issued a temporary cease and desist order against EFFCU on December 18, 2008. Neither enforcement action is publicly available.

Thursday, May 6, 2010

Bay Gulf CU's C & D

Bay Gulf Credit Union (Tampa, FL) is under a cease and desist order from the Florida Office of Financial Regulation for unsafe and unsound banking practices.

The order found that the credit union was not operating with sufficient earnings to restore the credit union to being well-capitalized. At the end of the first quarter of 2010, Bay Gulf reported a loss of $823,706 and had a net worth (capital) ratio of 5.24 percent. The credit union has agreed to implement a net worth restoration plan that would return the credit union to being well-capitalized within 10 quarters.

Achieving this target could be a challenge, as the First Quarter Financial Performance Report shows that Bay Gulf CU did not set aside any reserves for a 2010 NCUSIF premium assessment.

The enforcement action also requires that the credit union adequately fund its allowance for loan and lease losses (ALLL) and loans are charged off according to Generally Accepted Accounting Principles. Any deficiency in the ALLL shall be remedied by a charge to current operating earnings in the calendar quarter in which the deficiency is discovered and prior to submitting the Call Report.

Additionally, the credit union is to review its loan modification process. At the end of the first quarter, Bay Gulf reported almost $13.4 million in modified loans or 12.03 percent of its loan portfolio. Almost $7.5 million of its modified loans are real estate loans. The order requires the credit union to develop policies and procedures to distinguish between loan modifications and troubled debt restructurings. The order states that credit union should accurately account for past due loans on its Call Report.

With respect to member business loans, the order states that Bay Gulf “will not fund any new, rollover or letters of credit member business loans, with the exception of loans guaranteed by the Small Business Administration.” The credit unions cannot resume making member business loans until Bay Gulf demonstrates substantial compliance with all parts of the order and the credit union is profitable and loan losses are at an acceptable level. Also, the order requires that the credit union to document the analysis of the balance sheet and the profit and loss statement of the businesses with lines of credit outstanding.

The enforcement action further requires the Board and management of the credit union to monitor the liquidity needs of the credit union. The daily liquidity report “should analyze projected sources and uses of funds, evaluate liquidity alternatives, and determine expected liquidity under adverse economic conditions.”

Monday, May 3, 2010

R.I.P. St. Paul Croatian FCU

NCUA closed the credit union a little over one week after placing the credit union into conservatorship.

This failure seems to parallel the closure of Lawrence County School Employees FCU. The news media had reported that both credit unions limited the amount of fund that members could withdraw just prior to their failures.

Problem Credit Union Update

NCUA reported that the number of problem credit unions in March increased by 12 to 349 credit unions. A problem credit union is defined as having a CAMEL rating of 4 or 5.

Problem credit unions held approximately 5.35 percent of the industry's assets or $47.3 billion in assets.

Additionally, the percentage of insured shares (deposits) in problem credit unions declined by 4 basis points in March to 5.68 percent. NCUA reported that problem credit unions held $41.3 million in shares (deposits). The following table shows the distribution of shares held in problem credit unions by asset size.


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