Service CU Acquiring Franklin Branch, Deposits, and Loans from Members First CU

Service Credit Union (Portsmouth, NH) is reporting that it has reached an agreement with Members First Credit Union (Manchester, NH) to acquire the Members First branch office in Franklin, along with certain deposits and loans.

The transaction is subject to regulatory approval and is expected to be completed by the end of May, according to the credit unions.

Read the story.

Proposed Rule Gives NCUA Discretion to Set Individual CU's Minimum Capital Requirements

While NCUA's proposed risk-based capital rule sets 10.5 percent as the minimum risk-based capital ratio for being classified as well capitalized, Section 702.105 of the proposed rule grants NCUA discretion to require individual credit unions to hold more capital than is required, if NCUA determines that a credit union's capital is or may become inadequate given the circumstances of the credit union.

NCUA noted that the appropriate level of capital cannot be solely determined by a mathematic formula or objective standards; but must include subjective judgement based upon the agency's expertise.

NCUA outlined 10 scenarios where higher capital levels may be warranted.

(1) A credit union is receiving special supervisory attention;
(2) A credit union has or is expected to have losses resulting in capital inadequacy;
(3) A credit union has a high degree of exposure to interest rate risk, prepayment risk, credit risk, concentration risk, certain risks arising from nontraditional activities or similar risks, or a high proportion of off-balance sheet risk;
(4) A credit union has poor liquidity or cash flow;
(5) A credit union is growing, either internally or through acquisitions, at such a rate that supervisory problems are presented that are not adequately addressed by other NCUA regulations or other guidance;
(6) A credit union may be adversely affected by the activities or condition of its CUSOs or other persons or entities with which it has significant business relationships, including concentrations of credit;
(7) A credit union with a portfolio reflecting weak credit quality or a significant likelihood of financial loss, or which has loans or securities in nonperforming status or on which borrowers fail to comply with repayment terms;
(8) A credit union has inadequate underwriting policies, standards, or procedures for its loans and investments;
(9) A credit union has failed to properly plan for, or execute, necessary retained earnings growth, or
(10) A credit union has a record of operational losses that exceeds the average of other similarly situated credit unions; has management deficiencies, including failure to adequately monitor and control financial and operating risks, particularly the risks presented by concentrations of credit and nontraditional activities; or has a poor record of supervisory compliance.

Renter with Debt

Below is a no down payment mortgage advertisement by Navy Federal Credit Union that appeared in the Sunday, January 26th Washington Post (click on image to enlarge).

The ad reminded me of a joke I heard during the housing bubble.

What do you call a person who puts nothing down on a home mortgage loan?

A renter with debt.

Parsons Pittsburg CU Conserved

The Administrator of the Kansas Department of Credit Unions placed Parsons Pittsburg Credit Union (Parsons, Kansas) into conservatorship and named the National Credit Union Administration as agent to handle the credit union’s day-to-day operations.

The Kansas Department of Credit Unions placed Parsons Pittsburg into conservatorship because of the recent discovery of unsafe and unsound practices.

Parsons Pittsburg Credit Union has 1,470 members and assets of $13.5 million, according to the credit union’s Sept. 30, 2013, Call Report.

Read the NCUA press release.

Risk-Based Net Worth Requirement for All CUs with More Than $50 Million in Assets

In a 198 page proposal, the National Credit Union Administration (NCUA) is seeking to apply a new risk-based net worth standard to all credit unions with more than $50 million in assets.

The Federal Credit Union Act requires complex credit unions to be subject to a risk-based net worth requirement.

NCUA justified the proposed revisions by stating that the proposal would more closely align its risk-based capital measures with those used by other banking regulators and the use of a consistent framework for assigning risk-weights would improve the comparison of assets and risk-adjusted capital levels across financial institutions.

Credit unions will need a minimum risk-based capital ratio of 10.5 percent along with a net worth leverage ratio of 7 percent or greater to be considered well capitalized.

To be adequately capitalized, a credit union would need to have a leverage ratio of 6 percent or greater and must also have a risk-based capital ratio of 8 percent or greater.

According to NCUA's analysis, an overwhelming majority of credit unions with more than $50 million in assets would already be in compliance with the proposal, if it was in effect today. Over 90 percent of these credit unions would meet or exceed the minimum risk-based capital requirement under the proposed rule.

Based upon June 2013 financial information, the proposed changes to the risk-based capital measure, if applied immediately, would cause 189 credit unions to experience a decline in their prompt corrective action classification from well capitalized to adequately capitalized and 10 well capitalized credit unions would become undercapitalized.

NCUA estimates that, collectively, the 10 credit unions that would become undercapitalized under the rule if applied immediately would need to retain an additional $63 million in risk-based capital to become adequately capitalized, assuming no other adjustments.

NCUA is providing an online calculator to help federally insured credit unions evaluate the impact of the proposed risk-based capital rule on their institutions.

I will post additional comments regarding the proposed rule in the coming weeks.

Bagumbayan Credit Union Closed

The National Credit Union Administration announced the liquidation of Bagumbayan Credit Union of Chicago.

Great Lakes Credit Union of North Chicago, Ill., immediately assumed Bagumbayan’s members and deposits.

NCUA, with approval from the Illinois Department of Financial and Professional Regulation, made the decision to liquidate Bagumbayan Credit Union and discontinue its operations to protect the credit union from continued financial deterioration.

As of December 2013, the credit union was seriously undercapitalized with a net worth ratio of 2.56 percent. It had a return on average assets of minus 16.35 percent.

At the time of liquidation and subsequent purchase and assumption by Great Lakes Credit Union, Bagumbayan Credit Union served 44 members and had assets of $55,140.

Read the press release.

Net Worth Ratio May Not Identify Capital Deficiencies

The net worth ratio may mask capital deficiencies at credit unions, delaying mandatory corrective actions under the prompt corrective action (PCA) framework.

Credit unions hold both capital (net worth) and loan loss reserves for the purpose to absorb losses.

However, looking strictly at the net worth ratio as an indicator for triggering corrective action without examining the adequacy of loan loss reserves may not accurately measure the financial resiliency of credit unions.

In other words, capital deficiencies may be hidden by inadequately funding loan loss allowance accounts relative to the level of nonperforming assets.

The loan loss allowance account is funded by provisions for loan losses. Reducing provisions for loan losses will cause net income to increase, which will increase the amount of net worth for a credit union.

The following example examines the impact on credit unions that are currently well-capitalized, if the loan loss reserves was funded at 100 percent, 75 percent and 50 percent of nonperforming assets plus other real estate owned (OREO).

If loan loss reserves were funded to equal 100 percent of nonperforming assets plus OREO, 96 credit unions that are currently well-capitalized would slip to undercapitalized and another 152 credit unions would go from well-capitalized to adequately-capitalized. (All information is pulled from the September 30, 2013 call report).

If loan loss reserves were funded at 75 percent of nonperforming assets and OREO, 48 well-capitalized credit unions would become undercapitalized and 103 well-capitalized credit unions would become adequately-capitalized.

If loan loss reserves were funded at 50 percent of nonperforming assets plus OREO, we would see 13 credit unions transition from being well-capitalized to undercapitalized and 51 credit unions would switch from being well-capitalized to adequately-capitalized.

Indirect Auto Lending Will Be Subject to Greater Scrutiny in 2014

Fitch on January 16 warned that "[h]eightened scrutiny of potentially discriminatory auto lending practices by the U.S. Consumer Financial Protection Bureau (CFPB) will likely raise lender regulatory costs in 2014."

Fitch noted that the CFPB began to investigate the auto finance industry last year over allegations that lenders my have discriminated against borrowers based on race and violated the Equal Credit Opportunity Act.

The CFPB is focusing on the practice of indirect lending through dealers, which allows dealers to mark up the interest rate submitted by the lender.

Fitch believes that increased regulatory costs and compliance requirements will weigh on the financial performance of auto lenders in 2014.

As of September 2013, NCUA reported that 1,839 credit unions reported operating indirect consumer loan programs.

Read the Fitch press release.

Over Half of All CUs Saw Membership Declines

The available evidence shows that credit union membership growth is concentrated primarily among large credit unions.

CUNA Mutual in it December 2013 Credit Union Trends Report stated:

"Between Q3 2012 and Q3 2013, CUs with assets in excess of $1 billion (210 CUs) accounted for 66% of all membership gains. During the same period, 3,684 CUs (55% of all CUs) reported membership declines. These CUs held 24% of industry assets. Included in this group are 42 CUs with assets above $1 billion."

CUNA Mutual points out that credit unions added 3 million members over the twelve-month period ending in September 2013. This means that 168 credit unions with $1 billion or more in assets added almost 2 million of these members during the 12-month period ending Septmeber 30, 2013.

In addition, NCUA confirmed this trend noting that only credit unions with more than $500 million in assets on average reported year-over-year membership growth (5.8 percent), as of the end of the third quarter of 2013. Credit unions with less than $500 million in assets generally saw a decline in membership growth and the pace of decline accelerated the smaller the credit union.

Credit unions with less than $10 million in assets saw their membership fall by 10 percent compared to a decline of 5.2 percent for credit unions with between $10 million and $100 million in assets and a decline of 0.1 percent for credit unions with between $100 million and $500 million in assets.

IOLTA Bill: Minimal Budget Impact

H.R. 3468, Credit Union Share Insurance Parity Act, would have an insignificant impact on the budget deficit over the next 10 years, according to the Congressional Budget Office (CBO).

Currently, Interest on Lawyer Trust Accounts (IOLTAs) are not insured by the National Credit Union Share Insurance Fund (NCUSIF). However, IOLTAs receive federal deposit insurance through the Federal Deposit Insurance Corporation (FDIC). H.R. 3468 would extend federal deposit insurance to include IOLTAs and similar escrow accounts housed within credit unions.

CBO notes that "enacting this legislation would increase the cost to the government of resolving some future credit union failure." However, those costs would be minimal and offset by other collections. In addition, CBO points out that any increase in costs to the NCUA would be offset by a decrease in costs to the FDIC as IOLTAs move from FDIC-insured banks to NCUSIF-insured credit unions.

Read CBO's analysis.

Looks Like Redlining to Me

Service Credit Union (Portsmouth, NH) currently serves people who live or work in 9 of New Hampshire's 10 counties.

The only county excluded from this $2.3 billion credit union's field of membership is Coos County, which is the poorest county in the state.

According to the Census Bureau, Coos County has a median household income of $41,087. This is 36.5 percent below the state's median household income of $64,664.

All of the other counties have a median household income of at least $50,000.

It seems like this credit union is more interested in serving the wealthier communities and counties in New Hampshire, while redlining the poorest county in the state.

Banks were accused of redlining in the 1970s and that is why banks are subject to the community reinvestment act (CRA). It seems the time has come to apply CRA to credit unions.

NCUA's Supervisory Focus for 2014

In a letter to credit unions, NCUA identified four areas of supervisory focus for 2014: interest rate risk, cybersecurity threats, money services businesses, and private student lending.

In addition, NCUA will examine credit unions to assess their compliance with the following new rules and regulations: loan participation rule, ability-to-pay and qualified mortgage standards, and credit union service organization rule.

Read the letter.

G-Fees Should Not Be Used for Budget Offset

A coalition of bank, credit union, and other trade groups wrote to Congress on January 8 opposing the use of g-fees to offset the proposed extension of emergency unemployment benefits.

“G-fees are a critical risk management tool used by Fannie Mae and Freddie Mac to protect against losses from faulty loans, and should be used only to manage the companies’ credit risk,” the groups said. “Increasing g-fees for other purposes effectively taxes potential homebuyers and consumers wishing to refinance their mortgages.”

Read the letter.

Reforming the NCUSIF Is a Legislative Priority for NCUA

In its draft 2014 - 2017 Strategic Plan, the National Credit Union Administration (NCUA) identified one of its legislative priorities as "[i]mproving NCUA’s ability to manage the NCUSIF by providing more flexibility in setting the normal operating level and building retained earnings for the NCUSIF in a manner consistent with the size and complexity of the credit union industry and financial stability goals."

The Federal Credit Union Act defines the normal operating level as an equity ratio specified by the Board, which shall be not less than 1.2 percent and not more than 1.5 percent. The NCUA Board is currently setting the normal operating level at 1.30 percent of insured deposits (shares).

NCUA is also required distribute excess funds from the NCUSIF, if the NCUSIF equity ratio is greater than the normal operating level and the available assets ratio is above 1 percent. This assumes that all borrowings from the Federal government had been repaid with interest.

But what does it mean to provide more flexibility in setting the normal operating level and to build retained earnings for the NCUSIF in a manner consistent with the size and complexity of the credit union industry?

The Strategic Plan unfortunately does not provide any details.

While I don't know what NCUA intends to propose, recent legislative and regulatory developments dealing with the FDIC Deposit Insurance Fund (DIF) may provide some guidance.

The Dodd-Frank Act set a minimum Designated Reserve Ratio for the DIF at 1.35 percent of insured deposits (the former minimum was 1.15 percent). The Dodd-Frank Act also removed the upper limit on the Designated Reserve Ratio, which had been capped at 1.50 percent. This effectively removed any limit on the size of the DIF. In addition, the Dodd-Frank Act eliminated the requirement that FDIC provide dividends from the DIF when the reserve ratio was between 1.35 percent and 1.50 percent and gave the FDIC Board the sole discretion in determining to pay dividends if the DIF reserve ratio was at least 1.50 percent.

With no cap on the DIF Designated Reserve Ratio, the FDIC Board in December 2010 adopted a final rule setting the minimum Designated Reserve Ratio at 2 percent. In addition, the FDIC Board in February 2011 decided to indefinitely suspend the payment of dividends.

While you may not agree with this outcome, I would contend that there are strong incentives for NCUA officials to pursue a similar path. NCUA officials are risk-averse. The last thing NCUA officials want is to go to Congress requesting assistance like they did in 2009 regarding the corporate credit union debacle. By increasing the size of the NCUSIF fund, this would lower the probability of future congressional assistance.

Publishing Stress Test Results, CU Trades Say Nyet

Credit union trade associations gave a thumbs down to the idea of publicly disclosing the stress test results for credit unions with $10 billion or more in assets.

The Credit Union National Association (CUNA) in its comment letter stated that the public disclosure of stress test results is neither appropriate nor useful for credit unions. CUNA wrote:

"We realize that the bank regulators make such information public. However, we do not think such disclosure is appropriate for credit unions. Credit unions already have a number of incentives to avoid risks. This includes limits on how credit unions build capital, limits on activities and investments, and certain membership conditions. A number of mortgage lending credit unions are also concerned that the new mortgage rules, particularly with the emphasis on “qualified mortgages,” may mean they will limit loan offerings for those who do not meet QM requirements.

No one knows for certain what the impact of the disclosure of stress test results would be on covered credit unions. (One good reason in itself not to disclose the results.) It is easy to see, however, that such disclosure could result in self-limiting of services if credit unions fear risk taking will result in a poor showing under the stress testing.

Public disclosure of stress tests may be appropriate for banks, many of which are publicly traded. However, we cannot agree that it is appropriate or useful for credit unions, and we urge NCUA not to pursue this approach."

The National Association of Federal Credit Unions (NAFCU) also advised against making public the stress test results. NAFCU wrote:

"[i]f the NCUA insists on pursuing stress testing and capital planning, it should allow credit unions at least two full reporting cycles to evaluate the necessary resources and identify any potential implementation issues. Only after assessing the results from these cycles should the NCUA promulgate final stress testing and capital reporting requirements. The NCUA should also refrain from making a decision regarding public disclosure until after making such assessments. Banking prudential regulators make these results public because this information could be pertinent to the banks’ investors, and therefore, increased transparency is necessary for the public investment markets to function properly. Credit unions on the other hand have members-owners, not investors. Given that there may be potentially sensitive confidential exam information in the stress testing results, the NCUA should not disclose these results without finding of a compelling reason to do so or examining the issue further."

In addition, the National Association of State Credit Union Supervisors (NASCUS) believed that results of NCUA’s stress testing should not be disclosed; but rather treated as confidential examination product. NASCUS noted that "the inexperience of the credit union system administering a formal stress testing regulation" and "the uniqueness of credit union structure" were compelling reasons to not publicize the results.

NASCUS echoes NAFCU's position that credit unions do not have investors, so there is no public policy rationale for the dissemination of the stress test results. NASCUS further points out that credit unions can only build capital through retained earnings, which takes time. NASCUS worries that a covered credit union would be stigmatized by a "failed" stress test for some time, which might lead to a run by its members and endanger the National Credit Union Share Insurance Fund.

Interestingly, NASCUS letter makes the case for credit unions to be subject to a higher capital (net worth) requirement than banks. NASCUS states that unlike its bank counterpart, "a cover credit union has limited options available to it to build capital and restructure its balance sheet."

CU Discount Window Loans, Q4 2011

In the fourth quarter of 2011, 20 credit unions borrowed from the Federal Reserve's Discount Window. The total amount borrowed during the quarter was $82.6 million.

The Dodd-Frank Act requires the Federal Reserve to release detailed transaction information about discount window lending to depository institutions. The information is released with a two-year time lag.

The average amount borrowed was just shy of $2.2 million, while the median-size discount window loan was $384,000.

The most active borrowers from the discount window were Mutual Savings CU of Atlanta (GA) and Building Trades FCU of Maple Grove (MN). Mutual Savings CU accessed the discount window 10 times during the quarter and Building Trades FCU borrowed 8 times from the discount window during the fourth quarter of 2011.

The largest amount borrowed was $25 million by Delta Community CU of Atlanta (GA).

One credit union, North Star Community CU in Maddock (ND), accessed the Federal Reserve's seasonal credit program.

Below is a list of the credit unions that borrowed from the discount window and the amount they borrowed (click on image to enlarge).