NASCUS Recommends Different and Less Preemptive Approach for Loan Participation Risk

Feb. 21, 2012 - While state regulators share some concerns regarding loan participations with the National Credit Union Administration (NCUA), NASCUS wrote in a Feb. 21 comment letter that it cannot support the proposal in its current form.

In its letter, NASCUS communicates that concerns regarding loan participations can be mitigated by focusing on strong underwriting, adequate program contract review and effective third party due diligence.

"We strongly recommend NCUA work with state regulators to address supervisory concerns regarding loan participations in a manner that does less harm to the dual chartering system, more effectively mitigates material risk, and improves oversight while not unnecessarily burdening credit unions," NASCUS wrote. Specifically, NASCUS makes several recommendations to NCUA on loan participations:

  • Proposed rulemaking should focus on underwriting and effective adoption and implementation of policies;
  • State law and regulation should continue to govern loan participations for state credit unions;
  • The proposed rulemaking should focus on non-agriculture commercial lending;
  • Waiver provisions should be meaningful;
  • Loans sold with recourse should be excluded; and
  • Provisions applicable to state-charters should be incorporation within ยง741.

NASCUS agrees that some material risk with loan participations exists; however NCUA's proposed rule fails to make a convincing case that it's the best means to mitigate that risk, especially considering its impact on dual chartering and state law. Historically, state-chartered federally insured credit unions (FISCUs) have looked to state law and regulation to govern their loan participation activities.  With this proposal, NCUA is poised to sweep away another distinction between state and federal charters.  "Taken together with NCUA's proposed expansion of credit union service organization (CUSO) rules to cover state-chartered credit unions, this proposed rulemaking would leave very little flexibility for states to authorize distinct powers for their credit unions," NASCUS stated to NCUA.

Ultimately, NCUA's proposal concludes that "certain requirements should be consistent among all FICUs to minimize systemic risk. Increasing numbers and balances in loan participation portfolios, among both federal credit unions and FISCUs, indicate such a regulatory approach is warranted." NASCUS believes that preempting state law and homogenizing the system is not the best regulatory response to possible systemic risk related to loan participations.

Further, NASCUS recommends the 10 percent risk retention requirement not be extended to state credit unions. While state regulators agree that requiring retention of some part of the loan by the originator is a best practice, the proposed rule is silent as to why 10 percent is the appropriate metric of risk mitigation. While a 10 percent retention may have been long required for federal credit unions, it is new for state charters and deserving of explanation and discussion. State law or regulation should continue to govern this area for state charters.

NASCUS also expressed its concern that the proposed 25 percent limit on originators could have a disproportionate impact on modest sized credit unions. Many credit unions that rely on purchasing loans have developed relationships with specific originators upon whom the purchasing credit union has performed due diligence. The regulatory benefit of limiting exposure to a single originator does not outweigh the detrimental impact of disrupting established, effective relationships and forcing purchasing credit unions into the marketplace to contract with unknown entities.

On other specific provisions, NASCUS suggests the NCUA's definition of associated borrower is broad. Coupled with a waiver process that NCUA cites as being considered unworkable and not viable by credit unions, the proposed definition will prove unnecessarily cumbersome while returning uncertain regulatory benefit. In addition, NASCUS wrote that NCUA's definition of credit union organizations is limited, and does not adequately include state credit union credit union service organizations (CUSOs). NASCUS also finds the definition of originating lender as confusing, especially considering that FISCUS are not limited to participating loans made to credit union members. 

To view our comment letter, follow this link.