The Impact of the New CUSO Rule and Proposed Risk Rating of CUSO - - PowerPoint PPT Presentation

The Impact of the New CUSO Rule and Proposed Risk Rating

• f CUSO Investments

Guy A. Messick Messick & Lauer PC General Counsel to NACUSO

Credit unions are fenced in by regulations.

WHY CUSOS MATTER

23,866 6,554 3%

Scale Matters

Number of Credit Unions, ROAA and Net Worth by Peer Level

Assets ROAA Net Worth

 >$500

1.02 9.88

 $100 - $500

0.68 10.23

 $50 - $100

0.45 10.70

 $10 - $50

0.30 11.85

 $2 - $10

0.06 14.09

 <$2

• 0.49

17.44

CUSO Formula

Net Income More Capital Better Services

Innovation

Scale

Access

Generating Net Income

 More interest income  More non-interest income  Reduce operating cost  Increase expertise  Leverage outside capital

$28 Billion to Trim

Build a Business Model That Will Succeed in Today’s World

Collaboration Works

Examples of CUSO Success

 Operational CUSOs – Saving Money

• Compliance CUSO
• Technology Support CUSO
• Full Back Office Support
• Business Lending CUSO

Examples of CUSO Success

 Financial Services – Fee Income

• Title Insurance CUSO
• Broker/Dealer CUSO
• Insurance

 Lending Services – Interest Income

• Business, mortgage, student, credit card,

indirect auto, time share, & energy improvement loans.

Examples of CUSO Success

 Access to Services

• IT and Back Office Services
• Data analysis

HISTORY OF THE CUSO RULE AMENDMENT

The History of the Amendment

 A proposed CUSO amendment was

introduced by NCUA on July 21, 2011.

 NACUSO, CUNA and NAFCU lobbied

hard against the proposed amendment.

 NCUA received 290 comment letters,

almost all against some or all of the proposed amendment.

The History of the Amendment

 NCUA did not act on the proposed

amendment due to lack of consensus

• n the NCUA Board.

 NCUA reduced the scope of the

proposed amendment and passed it as a final amendment on November 21, 2013.

NCUA Board Commentary on the Changes Made from the Proposal

“The Board emphasizes, however, that the final rule is significantly more limited in application than the proposed rule, targeted mainly to CUSOs engaged in more complex

• r high-risk activates, such as credit and

lending, information technology (IT), and custody, safekeeping, and investment management services for credit unions.”

DETAILS OF THE CUSO AMENDMENT

NCUA Power Over CUSOs

 NCUA acknowledges that it does not

have the direct statutory and regulatory authority to regulate CUSOs under the Federal Credit Union Act.

 NCUA states that it has the power to

condition the ability of CUs to invest in CUSOs, e.g. follow GAAP and provide access to books and records. Direct reporting to NCUA is another condition.

CUSO Definition

 Now covers CUSOs owned by all

federally insured credit unions.

Corporate Separateness and Legal Opinion Requirements – Section 712.4

 No change in content but now applies

to FISCUs too.

Less Than Adequately Capitalized CUs

 FCUs must obtain NCUA approval to invest

if the aggregate cash outlay over the past seven (7) years would exceed the 1% CUSO investment limit.

 Applies to FISCUs  FISCUs must obtain SSA approval and

provide notice to NCUA.

 No discussion of lending power.

CU – CUSO Agreement Per Section 712.3(d)(1) – (3).

 No change in content: follow GAAP,

quarterly and annual financial statements and access to books and records

 Applies to FISCUs  State can have its own version

• State must have equal or more stringent

authority

• NCUA must have access as well.

Direct Reporting Requirement Section 712.3(4)

 New condition in the CU – CUSO

Agreement

 The commentary has details of the

effects of failed CUSOs (not in 2011 proposal).

 NCUA says it needs direct reporting as

the reporting by CUs is often inaccurate and much less efficient.

 Final rule is more targeted to complex or

high risk CUSOs.

 Applies to FISCUs.

Basic Info for All CUSOs

 Name  Tax ID Number  Address, Telephone and Website  Primary Contact  Services Provided  Names and Charter Numbers of CU

investors, lenders and clients

 Parent and subsidiary CUSOs

High Risk / Complex CUSOs

 Credit and Lending

• Origination of business, mortgage,

student and credit card loans

• Loan support services, including servicing

 Information Technology

• Electronic transactions, record retention,

security, disaster recovery, and payroll processing

 Custody, Safekeeping and Investment

Management Services for Credit Unions

Enhanced Reporting

 List of services provided to each CU

client.

 Investment and loan amounts from

each CU.

 Most recent annual audited financials .  Lending CUSOs – For each loan type

• Total dollar and total number of loans
• utstanding
• Total dollar and total number of loans

granted year-to-date.

Subsidiary CUSOs

 Reporting requirement a CUSO subsidiary

qualifies as a CUSO (providing products and services primarily to credit unions and members).

 Does not apply to companies the CUSO

does business with.

 No reporting requirement if a CUSO has an

• wnership interest in a company that is not

a CUSO.

 Applies to FISCUs

Timing of Implementation

 All changes to CU – CUSO

Agreements by June 30, 2014.

 New annual reports submitted to

NCUA by December 31, 2015…yes that is correct…2015.

THE POLITICAL CONTEXT OF THE AMENDMENT

NCUA Wants Vendor Authority

 “Me too”, the bank regulators have it.  CUSOs pose a systematic risk.  Congress has not given vendor authority to

NCUA other than for a short period during the potential Y2K crisis.

 No evidence that additional authority was

needed by NCUA to thwart CUSO losses.

 No evidence that banks were safer due to

vendor authority.

Need to Obtain CUSO Knowledge

 The lack of data available at NCUA on

CUSOs is embarrassing to the agency when asked by Congress about CUSO losses.

 Building a database on CUSOs enables

NCUA to show they are being diligent to monitor potential areas of risk and show they can responsibly impact CUSOs with the purpose of getting Congress to expand that authority.

 The tools are already in place to obtain that

information.

Concern for High Risk CUSOs

 Need to know the CU customers of

CUSOs and financial info for ‘high risk” CUSOs

 Potential risk of trade secrets disclosure

through FOIA despite Trade Secret Exemption and CU Examination Exemption

 The information is more secure and the

regulatory line is less of an issue if NCUA goes through a CU investor of the CUSO to obtain the same information

Need Direct Reporting for Accuracy

 NCUA gives credit unions a pass on

accurately reporting on CUSOs despite due diligence duties.

 Additional cost of direct reporting and

CUSO reviews are not imposed upon non-CUSO competitors of CUSOs.

Summary of Industry Concerns

 Has NCUA exceeded its statutory authority?  Is there any limit on what information NCUA

can demand from CUSOs – de facto regulation of CUSOs?

 Innovation and risk sharing are not fostered

in a regulated environment.

 How will the cost of NCUA “oversight”

impact the competitiveness of CUSOs?

Better Solution

 Require credit unions to do due

diligence on all service providers.

 Report to NCUA identifying

information on all service providers.

 NCUA can follow up directly with the

CUSO and non-CUSO service providers if additional information is needed.

PROPOSED RISK RATING OF CUSO INVESTMENTS

Proposed CUSO Risk Rating

 250% for CUSO investments as they

are equity interests held in small businesses without a market to sell. Uses bank investment risk ratings.

 No appreciation of that CUSO

investment returns are usually in the form of lower operating costs and fee income.

No Consideration for:

 What types of services are being

provided,

 Whether the investment represents

necessary operational expenses that would be otherwise incurred,

 Whether the amount invested is material,  Whether the CUSO has a history of

profitability, or

 Whether the investment amount has

been fully recovered by the credit union through savings or income.

CUSO Investments are Not Material

 There are only 22 basis points of

credit union assets invested in CUSOs industry-wide; less than the annual corporate assessments.

 Each federal credit union may invest

less than 1% of assets in CUSOs and loan less than another 1% of assets.

Comparative Risk Ratings

 CUSOs – investments 250%; loans

100%

 Delinquent First Mortgages – 100%  Delinquent Credit Card Debt – 150%  MBL’s

• Up to 15% of assets – 100%
• 15% to 25% of assets – 150%
• Over 25% of assets – 200%

Other Risk Rating Comments

 Loans in a CUSO versus in a CU  Risk rating on appreciated CUSO

value

 Discretion to change risk ratings  History of 7% well capitalized

designation

Other Risk Rating Comments

 Business loans – one size fits all  Mortgage servicing rights  Supplemental capital  Implementation timing

Other Side of the Risk

 Too much capital set aside means less

competitive credit unions.

 Chilling effect on CUSO investments.  What is the risk of not investing in a

CUSO to share risk, reduce costs and increase income?

There is safety in numbers. Keep collaborating through CUSOs.

Questions

 NACUSO

www.nacuso.org

 Messick & Lauer

PC 610-891-9000 www.cusolaw.com

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