‘Alternative capital’ proposal issued; 1st 'full-bore' attempt

Jan. 19, 2017 - Proposals on “alternative capital” and adjustments for inflation to civil money penalties were issued for comment by the NCUA Board at its Thursday meeting, in a short but significant session.

In issuing an “Advanced Notice of Proposed Rulemaking” (ANPR) for 90 days on alternative capital, NCUA Board Chairman Rick Metsger noted that he had “no preconceived notions” about the proposal, which covers both supplemental capital and secondary capital. “There are many different ways to structure capital,” he said, also noting that there are many side issues to consider, including structure, ownership, and tax implications (“especially for state credit unions”).

“There are significant implications of alternative capital for the credit union system, and this subject is just as important for credit unions who aren’t planning to issue alternative capital as it is for those who are,” he said. “To improve any future rulemaking, we need your thoughts on the pros and cons before we move forward to a full proposal.”

Board Member Mark McWatters (speaking quietly and briefly due to a hoarse voice) noted that the proposal is the agency’s “first full-bore attempt at addressing this issue.” He noted that NCUA is taking a very careful approach; as an example, he noted the agency has hired outside counsel to address securities issues related to alternative capital at credit unions.

NASCUS President and CEO Lucy Ito said the state system is encouraged by the agency's action today. "This holds the potential for synchronizing federal rules with existing authorities already on the books for credit unions in 15 states, which is a long-time goal of NASCUS," she said. "There is much to be considered in the 50-page proposal, particularly the challenges it outlines. The state system, however, believes that these challenges can be overcome -- and that credit unions will ultimately have access to the tools they need to maintain safe capital levels during good and bad economic times.”

Stating that the ANPR includes two different categories (secondary and supplemental capital), the agency in its summary of the proposal explained that the proposal contemplates changing the secondary capital regulation for low income-designated credit unions (the only credit unions the FCU law allows to have the capital form), but authorizing other credit unions to issue supplemental capital instruments that would only count toward the risk-based net worth requirement.

The 50-page ANPR document has eight sections of “supplementary information,” which includes current and prospective use of alternative capital, supplemental capital legal authority (and potential taxation implications), securities law applicability and “other investor considerations.”

With regard to state credit unions, the proposal states that it can “entertain” removing the borrowing limit for federally insured state chartered credit unions of 50% of paid-in and unimpaired capital and surplus. Noting that NCUA regulations provide the ability for state credit unions to obtain a waiver up to the amount of borrowing allowed under state law, the ANPR points out that the NCUA Board “is not aware of any federally insured state chartered credit unions that have requested a waiver to the borrowing limit in the past decade. While authority to issue alternative capital instruments for federally insured state chartered credit union is determined under state law, it is possible that some states will only allow their credit unions to issue alternative capital instruments under applicable borrowing authority.” The board said it is requesting comments on removing the borrowing limit.

The ANPR also includes a section on “potential taxation implications,” particularly for state-chartered credit unions. Noting that federal law provides a tax exemption for state credit unions that are “without capital stock” (and “organized and operated for mutual purposes without profit”), it also notes that – under current regulations – “there does not appear to be an established definition of ‘capital stock’ used by the IRS.” (There is no similar qualification in the tax exemption for federal credit unions.)

“It is possible federally insured state chartered credit unions in some states will have broad authority to issue supplemental capital instruments that have the characteristics of capital stock, and by doing so could subject themselves to taxation,” the agency states.

As a result, NCUA said it is seeking comments about whether it should limit the types of supplemental capital instruments issued by federally insured state chartered credit unions to those that would clearly not meet the definition of capital stock. Other options to consider, the agency stated, include requiring a federally insured state chartered credit unions to provide a formal opinion from the IRS that the supplemental capital instrument it is issuing will not be classified as capital stock. Another could be to require the credit union to provide projections in advance of issuing the supplemental capital, designed to demonstrate that the credit union can afford to be taxed and that “the benefits of the supplemental capital outweigh the cost of any taxes it might become subject to.”

In other action, the board issued for a 30-day comment period an interim final rule on civil money penalties adjusted for inflation. According to the agency, the penalties being proposed for 2017 are 1.6% higher than the maximum levels in 2016. The adjustment is required under statute; the last adjustment was June, 2016. NCUA pointed out that Congress changed federal law in November 2015 to require annual adjustments; previously, the adjustments were made every four years.

LINKS:

ANPR on alternative capital

Interim final rule, adjustments to civil money penalties