Credit Unions Are Due Billions In Refunds

The 2013 annual audit of the TCCUSF shows credit unions are due billions of dollars in refunds. Now is the time for a thorough review of NCUA’s stewardship.

 
 

“KPMG’s latest report, following the board’s announcement last November that we do not expect an assessment in 2014, demonstrates the agency’s planning and management are prudent and that we are maintaining transparency as we work to complete the resolution of the corporate credit union crisis,” NCUA chairperson Debbie Matz said in a press release for the 2013 audit of the Temporary Corporate Credit Union Stabilization Fund.

NCUA issued the annual audit of the TCCUSF with no discussion of the underlying events and assumptions that would enable credit unions to evaluate the status of their interests in the corporate takeovers and liquidations. There are no details about the change in the values of securities, how the agency is allocating the $1.0 billion-plus in legal recoveries, or of the status of the five corporates’ individual asset management estates for which credit unions were given receiver's certificates.

So despite the "transparency," the following questions persist:

  • How real was the crisis?
  • How much of the crisis was due to NCUA’s own actions — specifically its overestimate of future losses that it required credit unions to expense immediately?

Why An Independent Review Is Necessary

One might say NCUA managed the mortgage crisis by destroying organizations, purging leaders from the system, and forcing remaining leaders into a corner where no one would speak up for fear of retribution. And to avoid an evaluation of the destruction of system capital and liquidity, one might say the agency disregards its duty to respond to industry inquiries, disrespecting the cooperative spirit that is the foundation for all collaborative solutions. But in the end, what matters is this: History will repeat itself if we can’t provide and learn from an accurate record of this period. The organizations and professionals that were washed away with estimated losses will never be heard from again; they have no voice. This could be you or your organization in the future if we don’t use our voices now. 

It is simple to give NCUA the benefit of the doubt and believe it was doing the best it could in a bad situation. But that is not the case. By now, NCUA could have learned from the past and become a better ally in the stewardship of the member-owners’ money it was designed to protect. However, it isn’t too late for NCUA to open up the corporates' books, to initiate a full and impartial dialogue using current information with industry experts, and to identify the right lessons. It isn’t too late to rebate premiums it improperly assessed under the TCCUSF legislation. It isn’t too late to correct the rules that neuter the corporate system and diminish member value. And it isn’t too late to reimagine a vital role for the CLF.

But at some point, the gulf of distrust will become so wide that neither the regulator nor the credit union community will believe in the other’s  future goodwill or intentions. The analysis below shows why these and other questions continue to be raised as well as the lessons that can be gleaned so far.   

Two Ways Of Looking At Legacy Asset Value

NCUA has posted on its website its semi-annual estimates of the market value of the legacy assets. The latest table, which offers data through December 2013, shows the year-ending market value increased $4.0 billion in 2012 and $2.4 billion in 2013. That's a total of $6.4 billion in two years.

The ratio of remaining NGN notes to be paid off versus the market value of the legacy assets has gone from 128% in 2011 to 111% in 2012 to 97% at year-end 2013. In dollar terms, the estimated market value of the legacy assets now exceeds the remaining payments due on the NGNs by more than $500 million. This is good news. This surplus includes no funds from the $4.8 billion in credit union premiums or recoveries from legal efforts.

The other way to assess the prospects for recovery is to look at the actual losses in each corporate versus the OTTI amount each expensed and then compare how accurate these projected losses are proving to be.

The U.S. Central Example Through December 2013

U.S. Central contributed 43% of the legacy assets used to collateralize the NGN note issues. At June 2010, U.S. Central reported positive capital of $310 million after recording total OTTI projected expense due to possible losses of $3.544 billion. Of this reserve, which is technically a security write down, actual losses of $396.8 million had been realized. That leaves a balance of $3.15 billion when NCUA liquidated it.  

As of March 31, 2014, actual losses on NCUA’s list of U.S. Central’s assets total $1.327 billion, which would leave a total reserve balance of $1.8 billion before any need to tap into the remaining capital of $310 million. At March 2014, $10.3 billion of U.S. Central-sourced securities remain, so further losses are probable but unlikely to exceed the more than $2.0 billion remaining OTTI and capital at June 2010. 

This surplus is confirmed by U.S. Central’s AME accounting summary, which NCUA has passed out privately but has not posted publicly. This accounting based on the year-end market value of U.S. Central’s legacy assets shows a positive balance of $686 million at December 2013. This surplus is a $1.3 billion improvement from the negative balance of $625 million at year-end 2012.

Almost all of the receiver’s certificates for U.S. Central are held by other corporate members. Future recoveries will enhance each of these corporate credit union’s capital accounts; moreover it will enhance the prospects credit unions that hold receiver’s certificates as former members of Members’ United, Southwest, and Constitution corporates. All three have significant OTTI reserves remaining at March 31, 2014, plus whatever will be distributed from U.S. Central.

The accounting for each individual estate is also useful for learning how the legal settlements are being apportioned. For example, U.S. Central’s estate received $488.5 million in 2013. But the statements also raise important questions about why NCUA would be charging its guarantee fee — $27 million for U.S. Central — to the AME account. Where are these funds going? The accounting also shows $180 million in “other liquidation expenses” charged to the U.S. Central AME accounts. What are these expenses, which equal almost 75% of NCUA’s annual budget, being used for?

Latest Data Shows Preliminary Lessons From NCUA’s Corporate Plan

The latest TCCUSF audit and the U.S. Central AME accounting suggest important tactical and systemwide lessons for credit unions concerning NCUA’s resolution plan.

Understanding the status of the corporate workout is about more than millions of wasted or misused funds and unintelligible reporting. It is an example of NCUA using its most severe authority, conservatorship, without recognizing the need to present itself as a thoughtful and learning organization that is responsible to the credit union community.

Currently, NCUA is proposing comprehensive rules to give it even greater authority over the cooperative industry. The agency wants to shut down 74 long-operating, home-based credit unions because they don’t operate like a “modern institution.” It intends to require specific capital reserves for every asset held on credit union’s books using a single, national formula, and when the formula is still not enough in examiners’ eyes, NCUA would give examiners authority to require more than the rule or federal statute mandate.

Throughout the unfolding TCCUSF case study, NCUA has continued to operate on auto pilot. It doesn’t appear the agency has updated its thinking or adjusted its actions based on new information. By failing to release data on the status of the five separate AME accounts, the regulator undermines its reputation for oversight and its relationship with the industry it should be serving.

NCUA’s unilateral actions and antipathy to the corporate model have resulted in dissolving credit unions’ cooperative liquidity safety net. It has reduced the CLF’s role to insignificance and wiped out 40 years of system success in creating a convenient, cooperative source for liquidity and investment options.

Instead of playing up the potential of the credit union charter and its distinct capabilities, NCUA has relied on experts from Wall Street and mimicked banking regulations and FDIC workout approaches. This practice jeopardizes member-owners’ trust in the regulator. 

NCUA must focus on building consensus and showing it is capable of evolving and creating solutions that fit the current times, along with a promise of flexibility to fit the future. Its goal should be to ensure past practices evolve and lead to better solutions going forward. 

The power of the cooperative model is not found in better rules. Rather, cooperative design places the member-owners and their vision of mutual self-help at the center of everything the industry does. What an achievement it would be if the regulator would believe in and act on the same principles that inspire every credit union.

  • The inaccuracy of relying on sophisticated models and experts to predict the future
    NCUA’s own table shows the projected losses on legacy assets from July 2010 were at least $6 billion overstated as of December 2013. In just the past two years, the legacy assets have gained more than $6.4 billion in market value even as actual losses are subtracted. Future predictions armed with regulatory authority and no appeal is a toxic combination for successful workouts for cooperatives.
  • The reserves for OTTI losses expensed by the five corporates were more than adequate to cover investment losses.
    The $5.0 billion remaining in corporates’ OTTI that is still available more than four years after these credit unions were all liquidated shows the fallacy of counting only potential losses without considering the earnings accruing from an ongoing entity. NCUA’s plan locked unknown losses in place and provided no opportunity for income to reduce these potential shortfalls. NCUA took this liquidation action even though three of the five corporates reported positive net worth at the time of liquidation. For example, the initial value of the securities bought by U.S. Central was more than $40 billion. These securities had paid down at the time of liquidation to $19.4 billion. Losses to date are approximately $1.327 billion for a loss rate of 4.42% on reduction in total principal so far. Over the 10-year period of this portfolio, of which $10.3 billion is still performing, this computes to an average loss rate of 44 basis points per year. This rate of loss is less dire more manageable than NCUA’s loss projections when it conserved the corporates.
  • Managing actual events is far superior to attempting to project all possible losses 10 years or more into the future and expensing that estimate today.
    In the middle of a crisis, it is hard to foresee recovery prospects because of fear and uncertainty. For example, NCUA’s reserving expense for the NCUSIF was seven times, or 700%, greater than actual experience. This error resulted in unneeded premiums just as credit unions were pulling out of the economic downturn.
  • The NGN structure, which used Wall Street advisors under a banking, not cooperative, approach was more expensive and rigid than other options.
    This rigid structure has locked up until 2021 billions of credit union cash assessments that are not now needed — and never were.
  • NCUA raising cash for TCCUSF liquidity needs versus cash for actual losses cost the industry billions in excess premiums.
    Paying a nominal amount in interest expense for liquidity borrowings at a rate of 0.15% would have sufficed. The $700 million TCCUSF premium expense in July 2013 was not supported by losses or write-downs on the legacy assets. Moreover, it immediately reduced resources for members because it locked up funds that credit unions would have used multiple times for loans to members.
  • Reporting on the TCCUSF plan has been late, infrequent, and so general that it is meaningless for understanding what is happening.
    After almost four years, NCUA has neglected to inform holders of receiver’s certificates about the status of their recovery potential. Millions in AME expenses are unexplained, raising doubts about how NCUA oversees and accounts for these funds