At the Nov. 21, 2013, NCUA meeting, the board unanimously approved an overhead transfer rate to fund 69.2% of the agency’s operating expenses using revenue from credit unions’ insurance fund. This is an increase of more than 10 percentage points from the prior fiscal year’s rate of 59.1%. It is more than twice the rate in the early 1980s when the economy had double-digit inflation and unemployment.
The projected FY 2014 costs transferred to the NCUSIF are $186 million out of a total agency budget of $268 million.
Highest Transfer Rate Ever
This cost transfer is the highest in the agency’s history of managing the NCUSIF. Yet, it occurs at a time when the agency itself has stated credit unions are doing extraordinarily well.
“Federally insured credit unions are on the right course,” NCUA chairman Debbie Matz said in a December 2013 press release. “We continue to see strong, positive trends in the industry.”
In a Dec. 5, 2013, Credit Union Journal article, two industry economists summarized the most recent industry financials as follows:
"We're definitely out of the woods,” said David Carrier, NAFCU chief economist and director of research, in regard to delinquencies and charge-offs, which respectively declined from 1.2% last year to 1.0% this year and dropped from 73 basis points to 57 basis points year-over-year. “We're back to pre-recession conditions on most variables, on the ones that really count.”
“If I'm looking for positives in these numbers, it would be the return of consumer loan growth,” said CUNA chief economist Bill Hampel, who also noted that credit unions continue to see strong gains in mortgage originations despite recent signs that long-term interest rates are on the rise. “Just about everything is moving in the right direction. … We might like them to improve faster, but let's not let the perfect be the enemy of the good.”
Despite these positive assessments and numbers, NCUA claims its insurance-related activity is a higher proportion of the agency’s work than at any time, including the recent financial crisis. NCUA’s rationale strains credulity.
“For the 2012-2013 examination time survey (ETS) results, examiners report an average of 88% of their examination and supervision time spent on insurance-related activities [compared to 67% in the previous ETS cycle],” the agency stated in the board action memorandum. Such a statement is bureaucratic obfuscation.
All external economic indicators plus the credit union system’s macro trends show significant and sustained positive results for more than three years. NCUA’s supposed justification shows the fallacious nature of its activity indicator. The only reasonable interpretation is that NCUA is using the transfer rate as a ruse to support an ever-expanding agency budget.
A More Objective, Trackable Method
The agency’s own longstanding classification system, the CAMEL ratings, is a better, more objective way to assign supervisory and examination activities to the NCUSIF without straining credulity and budgets. CAMEL ratings are NCUA’s historical record for reporting the overall financial condition of the industry. CAMEL codes of 4 and 5 clearly show the percentage of credit unions that pose a threat to the insurance fund and, thus, would justify special supervision and examiner attention. NCUA publishes this distribution quarterly. It also uses these classifications to establish the loss reserve level for the NCUSIF.
It is reasonable and consistent for NCUA to base its allocation of oversight expenses on the percentage of credit union assets classified as CAMEL 4 and 5, as these credit unions pose an insurance risk. By NCUA’s own description, credit unions in the remaining classifications do not pose such a risk; therefore, they are subject to routine supervision and examination activity paid for in the operating fee.
This approach properly aligns NCUA’s resources with its own report of insurance exposure. It directly correlates risk with the supervision efforts. It would restore the federal operating fee to its proper place as an assessment for ongoing examination and supervision oversight, just as it is used in the state system today.
Why The Transfer Rate Matters
NCUA’s assignment of operating expenses to the NCUSIF account impacts every credit union and each member. The NCUSIF is a cooperative fund, and its financial model is different from the FDIC. Every time a member deposits $1 in the credit union, one cent is transferred to the NCUSIF to fund the collective capital and loss reserves for the industry. The NCUSIF uses interest on the 1% deposits and fund’s retained earnings to pay for losses and operating expenses. The credit union fund automatically grows as the insured share base expands; this expansion maintains the fund’s balance in tandem with the industry’s size and potential risk. It also enables interest income earned on the fund’s balances to sustain the normal operating level ratio — 1.3% of insured savings. In years with minimal losses, this income provides a dividend to the credit union owners.
The extravagant transfer rate has four devastating consequences for the credit unions system:
It destroys the financial integrity of the credit union’s insurance fund. NCUA projects an expense transfer of $186 million in FY 2014. In the current 2013 fiscal year, the NCUSIF reported interest revenue of $165 million for the first 10 months. This is a decline of $10 million versus the prior year, as yields on Treasury investments continue at historically low levels. These trends combined with NCUA action means it will take virtually all of the NCUSIF FY 2014 revenue just to pay the bulk — 69.2% — of the agency’s operating expenses. The fund’s ability to pay for potential insurance losses must then come from retained earnings, which will lower the normal operating level below 1.3%. In turn, this subjects all credit unions to the prospect of an NCUSIF premium, not for losses, but to pay NCUA’s expenses.
Transferring NCUA expenses to the NCUSIF undercuts both the staff and NCUA board members’ accountability to the industry via the operating fee. Taking the money indirectly via the transfer rather than directly assessing federally chartered credit unions an operating fee mitigates the immediate impact of NCUA’s expenditures. This indirect method of financing minimizes the potential that credit unions will be fully aware of the cost implications of the agency’s growing budget and compromises the public accountability imposed by a direct operating fee assessment.
NCUA is transferring its supervision costs to state-chartered credit unions. Most state agencies already asses their state-chartered credit unions an operating fee to fund the costs of supervision and examination (for more, read State Chartering Offers An Example Of A Better Cooperative Regulator Model). NCUA’s use of NCUSIF revenue from both state and federal member deposits means state charters are paying twice for supervision — once for their own state’s fee and again for NCUA’s expenses charged to the NCUSIF.
NCUA’s use of elaborate methodologies and pseudo measurement processes undermines the board’s credibility as stewards of member funds. The fact that the highest transfer rate and largest dollar amount taken from the NCUSIF comes at a time when all observers say the industry is doing well invalidates the assertion that insurance-related activities are on the rise. When the regulator’s fiduciary credibility for managing member funds is suspect, it puts the public reputation of the cooperative industry’s soundness at risk.
Using the CAMEL ratings system as the basis for assessment would make NCUA’s financial operations more transparent and accountable to those who are paying the bill. Isn’t this the way all cooperative systems should function?