We have been hearing quite a few stories about the NCUA’s proposed risk-based capital (RBC) rule. Some of the comments might lead us to believe that the proposed rule will be the demise of the entire credit union system, NCUA is singling out credit unions for capital treatment that will make them uncompetitive and credit unions will experience increased capital requirements restricting their activities. It is true that the proposal adds a new capital requirement. Maybe more accurately, however, it should be described as twisting the current risk-based net worth requirement into a presentation format consistent with the RBC formats used by other regulators. The proposed rule also effectively increases the RBC requirement that applies to credit unions, in comparison to the equivalent requirements of today’s risk-based net worth requirement. The NCUA is quick to point out that it does not expect the proposal to have material effects on much more than a handful of credit unions. If you are awake at the wheel, you’ve already used the RBC calculator available on the NCUA website to learn if you might have RBC shortfalls. If your credit union is like most credit unions, you found that you have more than enough capital to be considered well capitalized. So what kinds of comments should you provide to the NCUA by the May 28 deadline?
First of all, any comments to simply scrap the RBC proposal likely will fall on deaf ears. The NCUA really is just updating its risk-based net worth requirement to have the same type of calculation and presentation format that has been used since the early 1990s by the regulators over just about all of the other financial institutions around the world. The requirement to subtract the NCUSIF deposit from capital is generally unpopular with credit unions, but also is unlikely to be changed, given that the other financial institutions are expensing rather than capitalizing their equivalent deposit insurance premiums. Finally, many people have been saying that the NCUA proposal would make credit unions subject to a higher RBC requirement than U.S. banks. This is true today. The NCUA RBC requirement to be considered well capitalized would be 10.5 percent, compared to the bank requirement being an 8 percent tier 1 RBC ratio (including credit-union-like primary equity) and a 10 percent total RBC ratio (including other types of capital generally not applicable to credit unions). However, keep in mind the bank requirement already is slated to increase by 0.5 percentage points annually from 2016 to 2019 to reach well capitalized requirements of 10.5 percent and 12.5 percent, respectively, for the ratios above.
This still leaves a number of significant differences between the proposed NCUA RBC rule and those applicable to other financial institutions, and these topics certainly would be worthy of mention in your comment letter to the NCUA:
Investments – The proposal applies risk weights to investments that increase with the weighted average lives (WALs) of the investments. The risk weights on investments used by other U.S. regulators vary by the issuers or guarantors of the investments. Most investments that credit unions commonly employ are subject to 0 or 20 percent risk weights under the bank rules. However, any investments with WALs in excess of one year would be subject to higher risk weights under the NCUA proposal.
Federal Reserve Bank balances – The other regulators assign a 0 percent risk weight to Federal Reserve balances while the NCUA proposal uses a 20 percent risk weight. This would be disadvantageous, particularly because today many credit unions keep large balances at the Federal Reserve due to the payment of interest on excess reserve balances.
Real estate and member business loans (MBLs) – The NCUA proposal applies successively higher risk weights on real estate and MBL balances above several thresholds in each of these loan categories. The risk weights applicable to other financial institutions generally do not increase with asset concentrations. These increasing risk-weight tiers could be a competitive disadvantage and somewhat limit potential lending for credit unions that tend to concentrate in real estate and member business lending. Keep in mind, however, that the MBL risk weight for balances up to 15 percent of total assets (i.e., over the standard regulatory limit on MBL of 12.25 percent of total assets) is equal to that used by other regulators. Also, the first mortgage risk weights generally would not be overly restrictive, given that a credit union could place 100 percent of its assets in first mortgages and meet the RBC and net worth ratio requirements to be considered well capitalized by having a net worth ratio of 8.925 percent.
In summary, the NCUA maintains that its RBC proposal would not have a significant effect on the vast majority of credit unions today. However, strong credit unions constantly will adjust their strategies to adapt to changing member, competitive and other conditions over time. Thus, it makes sense for all credit unions to consider their potential futures and provide to the NCUA the type of commentary necessary to transform the NCUA RBC proposal into regulation that will support the credit union system for generations to come.