What’s Your Credit Union’s Liquidity Strategy

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Compliance preparations for the National Credit Union Administration’s new emergency liquidity rule must have been completed by March 31 2014.

The liquidity rule sets up three-tiered emergency liquidity requirements for credit unions with less than $50 million in assets, between $50 million and $250 million in assets, and more than $250 million in assets.

Federally insured credit unions (FICUs) with less than $50 million in assets must maintain a basic written emergency liquidity policy but will not be required to take further action. All FICUs with assets of $50 million or more are required to develop contingency funding plans describing how their credit union will address liquidity shortfalls in emergency situations. FICUs with assets of $250 million or more would be required to have access to a backup federal liquidity source for emergency situations.

Why wouldn’t credit union’s with less than $250 million in assets not want to have access to a backup federal liquidity source such as the discount window or CLF for emergency situations?

The final rule does not include the Federal Home Loan Banks (FHLB) as an acceptable source of emergency liquidity, although eligible credit unions required to meet the federal source provisions would be free to borrow from a FHLB for nonemergency purposes. Without the FHLB, credit unions have two options to ensure a federal liquidity source for emergency situations: Becoming a member of the NCUA’s Central Liquidity Facility (CLF) by subscribing to CLF stock or access to the Federal Reserve’s discount window.

I strongly supports the use of the home loan banks for liquidity.

Why be concerned now about liquidity when most credit unions are still awash with funds resulting from a flight-to-safety fund inflows and loan portfolio outflows due to lack of loan demand?

• Rising rates typically are used to manage economic recoveries. so it is likely rising rates will be accompanied by a return of flight-to-safety funds to the market and a spike in loan demand, putting many credit unions back in the tight liquidity environment of a few years back.

• Many credit unions have rate floors under their variable rate loans.  As rates move up, rates on these loans won’t move for a while. But your cost of funds will.  The result is a compressed net interest margins or NIM

The objective of a viable liquidity policy and strategy is to provide a framework to minimize the adverse effects of a significant and sustained liquidity crisis.  This can result from changing economic or interest rate conditions, deposit outflows, unusually strong loan demand, intense competition, an international crisis, or any other factors that can deplete the liquidity of the credit union.

In the event of a serious and sustained liquidity crisis, various strategies, of which some would be considered preventative and must be implemented prior to the onset of a crisis.  Other strategies are reactive and may be implemented immediately.   The strategies will differ in terms of the implementation time, costs, risks, financial implications and regulatory consequences.

The first place to look for sources of liquidity is within your own balance sheet. More

Allowance for Loan Loss

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The ALL estimate is guided by NCUA Rules and Regulations and Generally Accepted Accounting Principles (GAAP). The following resources were considered in the creation of this article:

  1. FASB ASC Topic 450: Accounting for Contingencies [formerly FAS 5];
  2. FASB ASC Topic 310: Accounting for Receivables [formerly FAS 114];
  3. NCUA Interpretive Ruling and Policy Statement 02-3: ALLL Methodologies and Documentation for Federally Insured Credit Unions;
  4. NCUA Letter to Credit Unions 03-CU-01: Loan Charge-off Guidance; and
  5. NCUA Accounting Bulletin No. 06-01

Because of the newly implemented ASC, it maybe difficult, especially for those, like myself, who are familiar with the original FASB standards, to identify the most current accounting reference materials.

There are two primary topics under the ASC that address the ALL. Key concepts extracted from Topics 450 and 310 of the ASC are summarized below.

  1. Topic 450, Subtopic 20, “Loss Contingencies,” addresses accounting for loss contingencies. Much of this topic is derived from Statement of Financial Accounting Standards (SFAS) Statement 5, “Accounting for Contingencies.  Topic 450 specifically references Topic 310, noting that the ALL is a subset of loss contingencies.
  2. Topic 310, “Receivables,” addresses various issues related to accounting issues subsequent to the origination or acquisition of receivables, such as impairment. Former accounting standards SFAS 5, SFAS 15, and SFAS 114 provide much of the content for this section.

Subjective and Imprecise

The appropriate degree of allowance involves a high degree of “management judgment” within a “range of estimated losses.”  Moreover, determining the allowance for loan and lease loss, hereafter referred to ALL is “subjective and imprecise.”  ALL estimates are based on a comprehensive, well documented and consistently applied analysis of the credit union’s loan portfolio.

ALL takes into consideration available information as of the financial statement date including environmental factors. The ALL provides an estimate of probable but unconfirmed losses in the loan portfolio as of the financial statement date; it is not a reserve for future anticipated losses.    The use of environmental factors may likely cause estimated credit losses associated with the credit union’s existing loan portfolio to differ from the historical loss experience.  Your analysis should consider significant factors affecting the collectibility of the portfolio and attempts to support the credit losses estimated by the ALL process. A credit union should adopt methodologies and documentation practices that are appropriate for their size and complexity.  Credit unions with fewer and less complex loan products, the amount of supporting documentation for the ALL may be less exhaustive than for credit unions with more complex loan products or portfolios. Your methodology and documentation needed to support the ALL estimates should be prepared in accordance with generally accepted accounting principles (GAAP).  The Statement of Financial Accounting Standard (FAS) 5 will be most relevant to the majority of credit unions. Finally, understanding the theory, building strong policies and analytics, and increasing director governance are key to a successful ALL outcomes. More

ABC picks up NAFCU interchange concern

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The following post is a re-print from the National Association of Federal Credit Unions.   NAFCU is a respected and influential trade association that exclusively represents the interests of federal credit unions before the federal government and the public. NAFCU provides its members with representation, information, education, and assistance to meet the challenges that cooperative financial institutions face in today’s economic environment. The association stands as a national forum for the federal credit union community where new ideas, issues, concerns and trends can be identified, discussed, resolved.

Dec. 21, 2010 – Concerns lodged by NAFCU over the negative impact on consumers, credit unions and other small institutions of the Federal Reserve Board’s debit interchange proposal continued to make news over the weekend.

ABC News ran a story online that pointed to retailers’ positive reviews of the rule, which would essentially result in a fee cap of 12 cents per debit card transaction. However, it also points to comments from NAFCU and other financial industry trades that this is an effective 85 percent cut in interchange fee income for debit card issuers, which “will negatively impact not just large card processors like Visa and MasterCard, but consumers as well.”

The debit interchange proposal is being issued under a requirement of the Dodd-Frank Wall Street Reform and Consumer Protection Act. The law requires the Fed to come up with a debit interchange fee that is “reasonable and proportional to the issuer’s cost.”

The law exempts institutions with less than $10 billion in assets from the Fed’s interchange fee limit – whatever that turns out to be – but NAFCU believes the market will eventually enforce that limit on all providers.

House Financial Services Chairman Barney Frank, D-Mass., one of the lawmakers for whom the reform package is named, said the Fed’s proposal comes up short. Frank expressed concern that whatever savings are achieved will not be passed on to the consumer.

“Unfortunately the evidence we’ve seen elsewhere is that consumers don’t get any benefit,” he was quoted saying in news reports.

Frank has also expressed concerns the limit will hurt small banks even though they are technically exempt from that provision of the law.

Frank has written the Fed urging that small institutions and consumers not be adversely affected by the Fed’s debit interchange rule. Fifteen senators took similar action in the days prior to that, and Sen. Claire McCaskill, D-Mo., who voted against including the interchange language in Dodd-Frank, followed up with her own letter on Friday.

McCaskill noted specific concerns that the instructions provided in the law explicitly bar the Fed from considering overhead costs in setting debit interchange fees, in effect preventing debit card issuers from recouping the full costs of offering cards to consumers.

“[T]here are other ways of addressing disputes over interchange fees,” she stated. “Potential solutions could emphasize transparency and consumer choice, rather than setting interchange rates directly.”

More Regulation Forthcoming

Comments Off on More Regulation Forthcoming

The recent Frank-Dodd bill signed into law contains 35 different rule-making provisions applicable to credit unions. In NY State Governor Patterson signed legislation last December amendments relating to foreclosure actions on home mortgage loans. The Credit Card Act, Reg Z, the Safe Act etc etc. The result is higher costs of doing business all around without adding value to our existing member relationship.

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