The National Credit Union Administration (NCUA) Board issued a proposal on troubled debt restructurings (TDRs) and loan modifications, adopted a final rule on interest rate risk (IRR) and released an advance notice of proposed rulemaking on derivatives during its meeting on January 26.
According to the Credit Union National Association (CUNA), the TDR and loan modification proposal seems to provide useful clarifications and favorable changes regarding reporting of these arrangements on the 5300 Call Report, such as eliminating requirements that TDRs be tracked manually, but would require loan workout policies. However, CUNA views the IRR rule as regulatory excess.
NCUA staff did not present reports on the National Credit Union Share Insurance Fund (NCUSIF) and the Temporary Corporate Credit Union Stabilization Fund, since the Board agreed that such reporting will occur only quarterly. Highlights of the meeting are listed below.
Proposed IRPS – Troubled Debt Restructurings
The Board issued for a 30-day comment period a proposed rulemaking to amend Part 741 of NCUA Rules and Regulations, along with an accompanying Appendix C, Proposed Interpretative Ruling and Policy Statement (IRPS) on “Loan Workouts and Nonaccrual Policy, and Regulatory Reporting of Troubled Debt Restructured Loans” (TDRs). CUNA will be reviewing the proposal with our Examination and Supervision Subcommittee, Accounting Subcommittee, and members of the CUNA CFO Council.
NCUA proposes to amend its regulations to require federally-insured credit unions (FICUs) to maintain written policies that address the management of loan workout arrangements and nonaccrual policies for loans, consistent with industry practice or Federal Financial Institutions Examination Council (FFIEC) requirements, as listed in the FFIEC’s Uniform Retail Credit Classification and Account Management Policy (Uniform Policy), adopted in June of 2000. NCUA did not adopt the Uniform Policy at that time. The proposed rulemaking includes the IRPS mentioned above incorporated as an appendix that will assist FICUs in complying with the rule.
The IRPS addresses regulatory reporting of TDRs on FICU call reports. According to NCUA, this proposed rulemaking and IRPS is timely considering the growth of these types of loans during the recent economic stresses experienced in the financial industry. NCUA also notes that the proposed IRPS is designed to offer credit unions regulatory relief and help keep more families in their homes.
NCUA Call Report data show that FICU loan modifications have increased 60%, or $5 billion from March 2010 to September 2011, proving FICUs are working with their members during this stressful economic downturn. According to current NCUA guidance under Accounting Bulletin 06-01 (December 2006), credit unions should report TDR loans (as defined in GAAP) as delinquent consistent with the original loan contract terms until the borrower/member has demonstrated an ability to make timely and consecutive monthly payments over a six month period consistent with the restructured terms. Likewise, such loans may not be returned to full accrual status until the six-month consecutive payment requirement is met.
As CUNA requested, the proposed guidance would allow credit unions to modify loans without having to classify performing TDR loans as delinquent or track each TDR loan’s performance manually for 6 months, as is currently required. According to NCUA staff, this could save credit unions at least 15 minutes of manual calculations per affected loan. The Board is proposing to allow delinquencies on TDR loans to be calculated consistent with loan contract terms, including amendments made to loan terms by a formal restructure. In addition to a written loan workout policy, each FICU approving loan workouts would be required to have in place sufficient monitoring and controls.
The Board also recognizes there is confusion regarding what NCUA has defined on the Call Report as a “Modified Loan” for purposes of data collection, workout loans as defined in various interagency guidance, and TDRs as defined by GAAP. The proposed rule would further revise the regulatory reporting requirements by eliminating data collection on “Modified Loans” and targeting data collection efforts to loans meeting the definition of a TDR under GAAP. It is important to note that the Financial Accounting Standards Board (FASB) issued on April 5, 2011, Accounting Standards Update No. 20-11 – Receivables (Topic 310) “A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring.” This Standards Update clarified the definition of a TDR, which has the practical effect in the current economic environment of broadening loan workouts that constitute a TDR.
Importantly, the proposed rule would codify the policy that FICUs cease accruing interest on loans at 90 days or more past due (with some exceptions). According to NCUA, this nonaccrual policy is not currently referenced in a statute or regulation, but has been a consistent credit union practice, and is supported by existing tracking systems. Additionally, the proposed rule would require all FICUs to maintain member business loans in a nonaccrual status until the credit union receives six consecutive payments under the modified loan terms. Currently, there are no formal requirements for MBL workout nonaccrual policies, except for TDRs. The proposed rule would change this aspect for MBLs that are not classified as TDRs.
NCUA has issued the proposed rule and IRPS with a 30-day comment period, due to the fact that credit unions, leagues, CUNA and the agency would like to have issues relating to TDRs and loan modifications addressed as quickly as possible.
Final Rule – Interest Rate Risk
The Board approved a final rule that amends Part 741 of NCUA’s regulations to require 55% of federally insured credit unions (FICUs) to have a written interest rate risk (IRR) policy and an IRR management program. The requirements of the final rule do not apply to: (1) FICUs with less than $10 million in assets; and (2) FICUs with between $10 million and $50 million in assets, with a percentage of first mortgages and investments greater than five years that is less than 100% of net worth. The appendix to the final rule includes guidance that “describes widely-accepted best practices in the management of [IRR] for the benefit of all FICUs.”
NCUA will be following up in the coming weeks with a letter to credit unions explaining the rule, a webinar, and a supervisory letter and training for examiners.
NCUA Board Chairman Matz said the rule is necessary to address credit unions’ exposure to IRR such as that associated with fixed-rate home mortgage lending and increased uncertainty in financial markets. She acknowledged the Interagency Advisory on Interest Rate Risk Management that NCUA and the bank regulators released earlier this month but stated that more than an advisory is needed because credit unions face far higher exposures to IRR than banks that have been reducing their exposures since 1995.
The Board has not provided adequate justification for adopting the rule, and we continue to have serious concerns about how it will be implemented. However, the final rule does reflect a few positive changes from the proposal, including addressing major concerns we raised in our comment letter to the agency.
First, due to concern that examiners will use the guidance in the appendix as an exam checklist, the final rule’s supplementary information states that the agency plans to issue examiner guidance and training, including a questionnaire. The questionnaire will be specifically tailored to the final rule and “[t]he commentary in the questionnaire emphasizes that the guidance items are not mandatory.”
Second, in regard to the rule’s requirement that FICUs must comply with the provisions of the final rule as a condition of receiving federal share insurance, the Board discussed whether a FICU’s non-compliance with the IRR requirements of section 741.3(b)(5) alone would be grounds for removal of existing share insurance. NCUA staff stated that making compliance a condition of share insurance is legal and consistent with credit and investment policy. Further, staff noted that the requirement is not intended to strip FICUs of their share insurance, which has yet to occur and would only occur in extreme cases.
At the meeting, Chairman Matz stated that the agency did not want to issue a “one size fits all rule” and NCUA staff acknowledged that IRR management is subjective. They indicated credit union officials need to have flexibility to develop and implement their IRR policies. The guidance found in the Appendix to the rule “is not tended to be a checklist,” Matz said and added the agency will communicate directly to examiners that that is not the case. She also said “it is not our intent” that credit unions’ NCUSIF coverage be removed because of the rule.
We will be following up with the agency and working with our Examination and Supervision Subcommittee and the leagues to ensure the guidance is not used as an examiner checklist and that NCUSIF overage will not be at risk if credit unions reasonably differ from examiners on how to manage IRR.
The rule will become effective on September 30, 2012.
Advance Notice of Proposed Rulemaking – Derivatives
The Board also approved a advance notice of proposed rulemaking (ANPR), with a 60-day comment period to obtain more information on the conditions for federal credit unions (FCUs) to independently engage in derivatives transactions to offset interest rate risk (IRR). This ANPR elaborates on the earlier one from June 2011. CUNA believes this is an important initiative and strongly encourages credit unions and leagues to weigh in with the agency on it.
This ANPR seeks comment on the eligibility of applicant FCUs for independent derivatives authority, including whether a FCU should demonstrate that is has an IRR or risk management need that would be met through the use of derivatives. The Board also seeks comments on any minimum performance levels such as expertise and experience with derivatives. Further, this ANPR seeks comment on the types of derivative instruments that should be permitted and exposure limits.
Currently, NCUA allows a limited number of FCUs, on a case-by-case basis, to engage in some derivative transactions through an investment pilot program, NCUA notes that six FCUs currently participate in the pilot program through third-party programs and two FCUs have independent authority. After comments are received on this ANPR, the Board will decide whether to issue a proposed rule for further comment. CUNA will be reviewing the ANPR with leagues, the CUNA CFO Council, and others.