ALEXANDRIA, Va.–Bankers groups are expressing strong opposition to NCUA’s subordinated debt proposal, arguing it undermines the concept of cooperative ownership and puts the tax exemption at risk and that NCUA itself has acknowledged it could lead to greater losses to the insurance fund, among other points made.
Indeed, one group called the NCUA proposal a “blatant attempt to use a program intended for low-income designated credit unions, albeit flawed in execution, to advance the interests of large tax-exempt credit unions with no constraints whatsoever…”
The bankers aren’t alone in expressing concerns; some CU groups have also expressed worries of their own.
The comment letters are in response to an NCUA proposal that would permit low-income designated credit unions, complex credit unions and new credit unions to issue subordinated debt for purposes of regulatory capital treatment, including for purposes of complying with the NCUA’s new risk-based capital requirement.
Many of the letters from various banking industry trade groups share a number of the points made in a letter by the American Bankers Association, which argues the NCUA proposal is not authorized by the Federal Credit Union Act.
As of this reporting, some 169 comment letters had been received. Some of the comments from various bankers’ groups include:
‘Inconsistent With Purpose of CU Charter’
The Massachusetts Bankers Association said in its letter that most of its members are “organized in mutual form – not unlike credit unions,” and that as a result it was writing with “serious concerns over allowing credit unions to issue alternative capital. MBA is writing to express this strong opposition and requests that no further actions are taken to finalize this proposal”
According to the MBA, alternative capital is “inconsistent with the purpose of the credit union charter and raises significant questions regarding the continued tax exemption of the credit union industry. In addition, we continue to believe that the NCUA lacks the statutory authority to expand the alternative capital rules beyond the limited universe of low- income designated credit unions.
“NCUA’s proposal to allow credit unions to issue alternative capital through large subordinated debt instruments not only undermines the foundation of credit unions’ tax-exempt status, but also usurps Congressional authority by approving the use of investor-raised funds to satisfy regulatory capital requirements. Federal legislation in the form of the Federal Credit Union Act (FCUA) clearly restricts capital requirement evaluations to retained earnings for all credit unions,” the letter continues. “Under this proposed rule, the NCUA is bypassing federal legislation that will allow credit unions to prop up retained earnings through alternate capital. If there are federal credit unions that need access to additional capital or wish to gain additional powers, we believe NCUA should be encouraging and facilitating conversions of credit unions to mutual bank charters.”
A Threat to Tax Exemption
The MBA said alternative capital threatens the tax exemption, risks safety and soundness and detrimentally affects local communities.
“…Alternative capital places an even greater risk to the tax-exempt status of federally insured state-chartered credit unions whose tax exemption is tied to being ‘without capital stock’ through the IRC,” the MBA letter continues. “The Board acknowledges that in some states it is possible that alternative capital instruments issued by federally insured state-chartered credit unions could have characteristics of capital stock, which would subject these credit unions to taxation….”
Moreover, said the MBA, “NCUA has acknowledged in writing that use of secondary capital by low-income credit unions has contributed to rapid growth and higher failure rates amongst these institutions. This change could therefore directly affect the safety and soundness of the credit union insurance fund. Nevertheless, NCUA proposes to expand credit union powers and permit the industry’s largest credit unions to benefit. Coupled with ongoing work related to the field of membership expansion, low-income designation expansions and proposals to speed credit union purchases of banks, we have serious concerns about the long-term impact to safety and soundness of markets as well as communities and regions that credit unions purport to support. Acquisition of tax-paying banks reduces federal, state and local income tax revenue streams and therefore reduces the essential services to communities that fund development, stability and growth.”
‘Higher Failure Rates’
The Virginia Bankers Association said it “strongly opposes” the proposed rule.
“Allowing credit unions to issue alternative capital usurps Congressional authority by approving the use of investor-raised funds to satisfy regulatory capital requirements, an area Congress clearly restricted to retained earnings in the Federal Credit Union Act,” the VBA wrote. “Additionally, NCUA has acknowledged that the use of secondary capital by low-income credit unions has contributed to rapid growth and higher failure rates in those credit unions. If the proposed rule is adopted, the unfettered access to capital markets will enable credit unions to grow well beyond their mission of serving people of small means and will create significant risk to the Share Insurance Fund.”
The VBA went on to write, “The proposal is also concerning in the context of NCUA’s actions to erode the other pillars of the credit union tax exemption compact, including the field of membership expansion, the low- income designation expansion, and the proposal to speed credit unions purchases of banks. If credit unions can get funding through subordinated debt offerings, they will have more cash to acquire tax- paying banks in communities across America, which will result in harm to local governments that depend on federal, state, or local income taxes. Since credit unions are tax-exempt, every bank that is acquired by a credit union leads to a reduction in tax revenue that could be used to fund and invest in opportunities and essential services that lead to community development, stability and growth.”
‘Substantial Misuses’
The Texas Bankers Association said the new rule stands in “stark contrast to the prior (and current) rules” and that the “performance of secondary capital in the credit union industry has been notably flawed as indicated…For example, in the 2017 NCUA report that the average failure rate for LICUs with secondary capital was 2.9% from 2000 to 2013, four times higher than LICUs without it. In other words, the core feature of the Proposed Rule would take the problematic non-deposit liability powers of the smallest sector of the credit union industry and grant that same authority to the very largest credit unions including those with assets in the multibillion dollar category.”
The TBA commended NCUA for acknowledged there have been “substantial misuses of secondary capital powers as constructed within the credit union industry including ‘excessive net operating costs, high losses from loan defaults, and a shortfall in revenue.’”
Examples Cited
The TBA said NCUA has said some of those misuses have included:
- Poor due diligence and strategic planning in connection with establishing and expanding member service programs such as ATMs, share drafts and lending (e.g., member business loans (‘‘MBLs’’) real estate and subprime)
- Failure to adequately perform a prospective cost/benefit analysis of these programs to assess such factors as market demand and economies of scale
- Premature and excessively ambitious concentrations of Uninsured Secondary Capital to support unproven or poorly performing program
- Failure to realistically assess and timely curtail programs that, in the face of mounting losses, are not meeting expectations. “When they occur, these lenient practices contribute to excessive net operating costs, high losses from loan defaults, and a shortfall in revenues (due to non-performing loans and poorly performing programs)—all of which, in turn, produce lower than expected returns.”
‘No Factual Support’
“The problem, however, is that the administrative record to date contains no factual support that the prior problems have been eliminated and includes only the conclusory statement that since ‘the NCUA began requiring LICUs to obtain prior approval before issuing secondary capital, the Board is not aware of material losses to the NCUSIF resulting from the mismanagement of secondary capital,’” the TBA wrote.
The Texas Bankers said another “serious defect” in this process is that the NCUA has not adequately responded to the overwhelmingly negative comments (at least 688 out of 756) submitted during an earlier stage of this rulemaking. It is clear under the APA that “there must be an exchange of views, information, and criticism between interested persons and the agency” and that a conclusory brush-off to a comment will not be enough to satisfy the duty to respond.
“On a substantive basis, there are so many inadequacies in the Proposed Rule, especially as compared to how subordinated debt is regulated and treated for capital purposes by the federal supervisory agencies overseeing FDIC-insured banks, that the simplest remedy, were this initiative ever to be finalized, would be for the NCUA to adopt in substance the common features of the OCC, FDIC and Federal Reserve Board,” the Texas Bankers Association letter continues.
‘A Blatant Attempt’
NCUA, the TBA letter states, “should not put its imprimatur on the blatant attempt to use a program intended for low-income designated credit unions, albeit flawed in execution, to advance the interests of large tax-exempt credit unions with no constraints whatsoever in terms of advancing the interests of underserved individuals or the communities they were intended to serve. At a minimum, the NCUA should reorient the Proposed Rule to include meaningful limits on the use of the proceeds of any subordinated debt issuance in a form comparable to the CRA requirements applicable to FDIC-insured banks.”
Credit Union Comment Letters
CUNA’s comment letter can be found here.
NASCUS, CUNA Mutual comment letters can be found here.