NCUA Calls on Exempting CUs from CECL, Provides Guidance on Strategies for Working with Borrowers Affected by COVID-19

In an April 30 letter, National Credit Union Administration (NCUA) Chairman Rodney E. Hood urged the Financial Accounting Standards Board to exempt credit unions from complying with the current expected credit losses (CECL) methodology.

Hood wrote that "compliance costs associated with implementing CECL overwhelmingly exceed the benefits."

In addition, he argued that implementing CECL will have a chilling effect on lending, especially loans to low-income borrowers, and will negatively impact the net worth position of credit unions.

He noted that most credit unions are small and would face data collection challenges required by CECL.

Read the letter.

In a letter to credit unions, NCUA described various strategies that credit unions can employ to work with borrowers who experience financial hardship because of the COVID-19 pandemic.

The letter offers suggestions ranging from providing borrowers new funds to temporarily or permanently modifying loans.

The letter also describes how credit unions should monitor and report loan modifications.

Read the letter.

Early CECL Adopter CU Saw 4 -Fold Increase in Loan Loss Reserves

S&P Global Market Intelligence provided insights into the impact of the current expected credit loss (CECL) accounting standard on one credit union's balance sheet.

Georgia United Credit Union (Duluth, GA) adopted the CECL standard in the first quarter of 2019.

The $1.2 billion credit union reported a 324.5 percent increase in allowances for loan and lease losses between the first quarter of 2019 and the fourth quarter of 2018 to $24.7 million. Its allowances for loan and lease losses to loans ratio went from 0.59 percent as of December 2019 to 2.51 percent as of March 2019.

The credit union's CFO noted that $15 million of the reserve build was tied to troubled commercial loans.

The credit union reported a 10.7 percent decline in net worth to $142.2 million over the same time period. Its net worth ratio fell from 11.71 percent at the end of 2018 to 10.10.24 percent at the end of March 2019.

According to an industry consultant, credit unions, on average, are under-reserved by a factor of two and will need to increase their loan loss reserves under CECL.

Read the article.

Washington Updates

House passed a bill backed by bank and credit union trade groups and a bipartisan group of House members called on the Office of Financial Research (OFR) study the potential impact of the current expected credit loss (CECL) accounting model.

The House on October 22 voted 249-173 to pass the Corporate Transparency Act (H.R. 2513). The bill is supported by both bank and credit union trade groups. The legislation, sponsored by Rep. Carolyn Maloney (D-N.Y.), would direct the Financial Crimes Enforcement Network to create a national database that banks could use to verify a business’s beneficial ownership information. The bill was amended before passage to include legislation championed by Rep. Emanuel Cleaver (D-Mo.) that would modernize the existing anti-money laundering/Bank Secrecy Act framework by, among other things, enhancing bank-law enforcement communications.

Also, a bipartisan group of 28 House members last week called on the Financial Stability Oversight Council to require that the OFR study potential financial stability effects of the CECL model for loan loss accounting, which goes into effect for large reporting companies in January. ‌

Specifically, the lawmakers called on OFR to study CECL’s procyclical characteristics and their effects on access to credit and market volatility; the effects of CECL on the solvency and leverage of financial institutions; and the effects of procyclicality on institutions complying with CECL, including contagion risk during times of economic stress. Read the letter.

Understatement of Allowance for Loan Losses

The Texas Credit Union Department noted that it is continuing to see an understatement of loan loss reserves by some credit unions.

The Department wrote in its April newsletter:

"The Department continues to see instances where a credit union’s Allowance for Loan and Lease Losses (ALLL) is materially understated based on management’s own internal analysis of the loan loss exposure. The failure to accurately record the appropriate loan loss expense is frequently the result of budgetary or other earnings considerations. Credit unions should be aware that any intentional failure to fund the ALLL in a timely manner may be classified as an effort to falsify the accounting records."

Loan Loss Reserve Funding Gap

At the end of the third quarter 2009, NCUA reported that federally-insured credit unions held $8.1 billion in allowances for loan and lease losses versus almost $9.7 billion in loans that were 60 days or more delinquent. Almost $3.26 billion or 33.7 percent of these delinquent loans were 6 months or more past due.

But these industry aggregates mask important information.

Digging into the financial statements of credit unions, I decided to look at the loan loss allowances of individual credit unions and compare them to loans that were more than 6 months past due .
I found that 63 credit unions reported a gap exceeding $1 million between their allowances for loan and lease losses and loans 6 months or more past due. The following table shows that some credit unions are reporting a sizeable gap (click to enlarge).

Texans CU is reporting a gap of $77 million. Other credit unions with large gaps include Space Coast, Self Help, and Evangelical Christian.

This means either the credit unions are expecting the loss rate on these delinquent loans to be very low or that the credit unions are underfunding their loan loss reserve accounts.

If these shortfalls are a result of credit unions underfunding their loan loss reserve account, then some credit unions are engaged in window dressing their performance.

To close this gap would require these credit unions to increase provisions for loan losses in order to build loan loss allowance balances. This would adversely affect earnings and lower the net worth position for these credit unions.