ai connect proposed member business loan rule and overview and updates to the appraisal rule vincent...
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AI ConnectProposed Member Business Loan
Ruleand
Overview and updates to the Appraisal Rule
Vincent Vieten, MBL, Program OfficerOffice of Examination and Insurance
July 27, 2015
National Credit Union Administration
AI Connect
Member business loans have grown significantly over the last ten years
92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 $-
$10
$20
$30
$40
$50
$60
0%
2%
4%
6%
8%
10%
12%
14%
16%
$2.2
$12.3
$48.7
1.2%
3.0%
6.8%
MBL Balance* and as % of Total Loans
MBL Balance MBL as % of Total Loans
Year
Mem
ber
Busi
ness
Loa
n Ba
lanc
e (in
bill
ions
)
MBL
as
% o
f Tot
al L
oans
• Member Business Loan balance includes both member and nonmember business loans. Does not include unfunded commitments. Total MBLs including unfunded commitments is $51.7B.
AI Connect
Total Assets Less than 100MM
Total Assets 100MM - 500MM
Total Assets Greater than 500MM
All 0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
13%
53%
72%
19%21%
77%
93%
36%
2004 2014
A growing percentage of credit unions have MBLs
% of Credit Unions with MBLs
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Number of credit unions by MBL as % of total assets
– All FICUs
No MBL
0-1% 1-2% 2-3% 3-4% 4-5% 5-6% 6-7% 7-8% 8-9% 9-10% 10-11%
11-12.25
%
12.25-15%
15-25%
25-35%
35-50%
50-100%
0
500
1,000
1,500
2,000
2,500
3,000
3,500
4,000
4,5004035
656342
179 172 129 117 89 96 82 78 73 76 43 62 9 16 19
# of Credit Unions(Dec. 2014)
MBL as % of Total Assets
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Credit unions tend to make relatively small business loans
Metrics Credit Unions with MBLs Additional Info
# of CUs With MBLs 2,238 36% of Total CUs
Total Assets (in billions) $975 87% of Total CU
Assets
Median Asset Size (in millions) $117 $24
All CUs
MBLs as % of Total Loans 8.1% -
# of CUs Originating MBLs in 2014 1,522 -
Total # of MBLs ( in thousands) 238 -
Credit Union MBL Activity (Dec. 2014)
Total Asset SizeTotal MBL
Balance (in billions)
Average Loan Size (in thousands)
<100MM $1.9 $93
100MM – 250MM $4.4 $141
250MM – 500MM $6.2 $179
500MM – 1B $9.6 $205
>1B $29.7 $281
Total $51.7 $217
Average MBL Size (Dec. 2014)
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Over 80% of MBLs are secured by real estate
MBL Composition by Collateral Type(Dec. 2014)
11 12 13 140%
20%
40%
60%
80%
100%
84% 83% 83% 83%
15% 16% 16% 16%
1% 1% 1% 1%
Year
% o
f Tot
al M
BLs
Non owner-occupied Nonfarm and Non-
residential; 30%
Nonfarm Res-idential*, 21%
Owner-occupied Nonfarm and Non-
residential; 23%
Commerical and Industrial; 14%
C&D Loan; 4% Ag Loan; 4% Unsecured and other; 1%
MBL Composition by Loan Type(Dec. 2014)
% of Total MBLs
Secured by Real Estate
Secured by Non-Real Estate
Unsecured
* Nonfarm, residential includes investor 1-4 family residential real estates.
AI Connect
Most credit unions with MBLs offer several business loan products
With 1 MBL Product; 722
With 2 MBL Products; 397
With 3 or more MBL Products; 1,119
# of Credit Unions with MBLs (Dec. 2014)
(32% of Total)
(18% of Total)
(50% of Total)
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04 05 06 07 08 09 10 11 12 13 140.0%
0.5%
1.0%
1.5%
2.0%
2.5%
3.0%
3.5%
4.0%
4.5%
0.4%
4.1%
0.9%
0.3%
2.3%
0.9%
0.2%
1.6%
0.8%0.00665715241071165
1.3%
2.1%
0.9%
0.011618995325431
MBL 1st Lien RE loans Other RE loansAuto Loans Credit Cards Student Loans
Year
Delinquency Rate (60+) by Loan Type*(Dec. 2014)
* Please note that 1st lien real estate loans, other real estate loans, and auto loans may also include MBLs.
Credit union MBL delinquency rates were much higher than other loan types during the recession
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05 06 07 08 09 10 11 12 13 140.0%
0.5%
1.0%
1.5%
2.0%
2.5%
3.0%
3.5%
4.0%
4.5%
5.0%
0.1%
1.0%
0.3%0.0%
0.4%
0.1%0.1%
1.3%
0.3%0.00506209279137622
2.2%
4.3%
1.9%
0.00232249941824973
MBL 1st Lien RE loans Other RE loansAuto Loans Credit Cards Student Loans
Year
Net Charge-off Rate by Loan Type*(Dec. 2014)
* Please note that 1st lien real estate loans, other real estate loans, and auto loans also include MBLs.
Credit union MBL net charge-off rates were manageable during the recession
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30+ Delinquency Rate ComparisonCredit Unions vs. Banks
Credit union MBL delinquency compared to banks
* Data Source: Bank data from SNL
05 06 07 08 09 10 11 12 13 140.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
5.7%
1.8%
5.1%
1.2%
Credit Unions Banks with Total Assets <$50B
Year
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Net Charge-off Rate ComparisonCredit Unions vs. Banks
Credit union MBL net charge-offs compared to banks
* Data Source: Bank data from SNL
05 06 07 08 09 10 11 12 13 140.0%
0.2%
0.4%
0.6%
0.8%
1.0%
1.2%
1.4%
1.6%
1.0%
0.3%
1.5%
0.1%
Credit Unions Banks with Total Assets <$50B
Year
AI Connect
Total MBL related share insurance fund losses over the last five years are roughly $141MM , representing 25% of total losses
Total Losses to Share Insurance Fund
($ in millions)
Losses due to MBLs as contributing factor*
($ in millions)% of Total
2010 $233.9 $6.0* 2.6%
2011 $46.7 $0 0%
2012 $187.2 $135.4* 72.3%
2013 $65.5 $4.0* 6.1%
2014 $40.4 $0 0%
Total $573.7 $141.4 24.7%
AI Connect
81% of credit unions with MBLs have a CAMEL rating of 1 or 2, compared to 69% for credit unions that do not offer MBLs
CAMEL Distribution for Credit Unions with MBLs (Dec. 2014)
17%
64%
17%3%
0%
1 2 3 4 5CAMEL
CAMEL Distribution for Credit Unions without MBLs (Dec. 2014)
11%
58%
27%
5%
0%
1 2 3 4 5CAMEL
AI Connect
The role of prudent business lending in credit unions
• CUs are well suited to serve small businesses, a vital and growing segment of their membership
• Improving access to financial services for small businesses helps create jobs
• Properly structured & priced, MBLs can have a positive impact on earnings and net worth
• MBLs can enhance portfolio diversification
• MBLs potentially offset IRR of long-term, fixed-rate residential real estate loans
• The key beneficiary of prudent business lending is the member who will receive financing that meet their needs and within their ability to repay
AI Connect
Important fundamental questions about business lending
Question Answer
Can business lending be done safely? Yes
Is business lending more complex than consumer lending? Yes
Is business lending more risky than other types of lending? It depends
Should only institutions with the requisite expertise, policies, and procedures engage in business lending? Yes
Are violations of the current prescriptive regulatory requirements the primary cause(s) for the credit unions that have gotten in trouble with business lending?
No
What are goals of modernizing Part 723?
• Replace overly prescriptive requirements with principles-based standards
• Reinforce risk management requirements needed to safely conduct commercial lending activities
• Improve the expertise and policy provisions of the regulation
• Change supervisory focus to sound commercial risk management practices from compliance with prescriptive regulatory requirements
• Eliminate NCUA involvement in day-to-day operations of CUs by eliminating need for waivers
• Eliminate need for NCUA approval of state rules
• Distinguish between commercial loans (align with RBC) and the statutory definition of MBL
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Comparison of MBL and Commercial Loan Definitions
Type of Loan MBL Commercial Loan
Loan fully secured by a 1- to 4- family residential property (borrower’s primary residence) No No
Member business loan secured by a 1- to 4- family residential property (not the borrower’s primary residence) Yes* No
Member business loan secured by a vehicle manufactured for household use Yes* No
Business loan with aggregate net member business loan balance less than $50,000 No No
Commercial loan fully secured by shares in the credit union making the extension of credit or deposits in other financial institutions No No
Commercial loan in which a federal or state agency (or its political subdivision) fully insures repayment, fully guarantees repayment, or provides an advance commitment to purchase the loan in full
No Yes*
Non-member commercial loan or non-member participation interest in a commercial loan made by another lender No Yes*
* If the outstanding aggregate loan balance is greater than $50,000.
What are the key changes and enhancements? (Page 1 of 4)
AI Connect
Provision Current Rule Proposed Rule
Construction and Development Loans
• 25% equity interest• 15% of net worth
• Removed the limits• Clearly defines collateral valuation
method• Requires CUs to value collateral
appropriately and ensure risk sharing • Requires CUs to set internal policy
limit• Stipulates loan administration
requirements
Loan Policy Requirements
• Limited coverage on risk management processes
• Requires underwriting commensurate with size, scope and complexity
• Requires a reliable credit risk rating system
• Stipulates sound risk management processes
AI Connect
Provision Current Rule Proposed Rule
LTV • 80% • Removed the 80% limit• Requires sufficient collateral
commensurate with the level of risk
Personal Guarantee • Requires personal guarantee
• Removed the explicit requirement• Requires credit unions to determine
and document mitigating factors when personal guarantee is not required.
• Requires credit unions to set internal policy limits
What are the key changes and enhancements? (Page 2 of 4)
AI Connect
Provision Current Rule Proposed Rule
MBLs to a Single Member
• The greater of $100K or 15% of net worth
• Maintains the 15% limit with added flexibility to go up to 25% if certain conditions are met
• Modifies the definition of “associated borrower”
Unsecured MBLs • Lesser of $100,000 or 2.5% of CU Net Worth to one member (Well Capitalized CUs only)
• 10% of CU Net Worth
• Removed the limits• Requires credit unions to set internal
policy limits
Experience Requirements
• 2 years of direct experience
• Removed the 2 year requirement• Specifies the types of experience
with emphasis on commercial credit risk management
What are the key changes and enhancements? (Page 3 of 4)
AI Connect
Provision Current Rule Proposed Rule
State Rule • Requires NCUA approval for state rule
• 7 states have parallel state rules
• Principles-based rule obviates need for separate state rules
• Solicits SSA comments on the three options
Non-member business loan participations
• Included in the cap unless waiver is granted
• Removed non-member business loans from the calculation against the cap
• No longer requires waivers
Board Responsibilities • Limited coverage (adopt and review policy)
• Clearly articulates that the CU Board is ultimately accountable for the safety and soundness of the commercial lending activities
What are the key changes and enhancements? (Page 4 of 4)
AI Connect
List of waivers no longer required
• Aggregate C&D Loan Limit
• Minimum Borrower’s Equity for C&D Loans
• LTV Requirement
• Personal Guarantee Requirement
• Maximum Unsecured MBL to One Member or Group of Associated Members
• Maximum Aggregate Unsecured MBL Loan Limit
• Maximum Aggregate Net MBL to One Member or Group of Associated Members
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LTV requirement
• Only CU loans and superior lien included in the LTV(All debt and related payments to be considered in ability to repay)
• Sufficient to share risk (borrower investment)
• LTV should reflect the impact of • Potential obsolesces• Marketability
• Single use• Condition• Alternatives uses
• Overall risk of the transaction
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Construction and Development
• Valuation of the collateral• Lesser of Cost or Market• Market to be determined as Prospective Value (USPAP
Statement 4)• Land contribution lesser of cost or market first 12 months market value after 12 months
• Costs to be included are clarified• All cost necessary to complete the project documented in an
approved budget• Interest reserve to be calculated based on projected
completion/stabilization date (incl. in approved budget)• Exclude preferential payments to equity holders, selling
cost to be paid from sales.
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Construction and Development
• Requires approved budget
• Requisition process and schedule
• Disbursement of funds after an inspection documented in a written report stating work is completed along with certification the remaining budget amounts are sufficient to complete the project
• Certification that there are no intervening liens
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Appraisals Required
• Generally required with most real-estate related transactions >$250,000
• Appraisals may also be required due to:– Higher-priced mortgage loan regulations (12 CFR
1026.35(c)) – NCUA safety and soundness concerns (12 CFR
722.3(e))
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Appraisal Exemptions
• Transaction value is $250,000 or less• Lien is taken as an abundance of caution• Entrance into a lease of real estate (unless an
economic equivalent of a sale/purchase) • Existing extensions of credit, including
advancement of new moneys, but only if the credit union can demonstrate there has been no obvious and material change which may affect the security interest (see section XIV of the 12/2/2010 Interagency Appraisal and Evaluation Guidelines)
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Appraisal Exemptions
• Existing loan(s) being sold, exchanged, traded, etc.• Transaction wholly or partially insured, guaranteed
by, or qualifying for sale to, a US government agency or US government sponsored agency(follow the guaranteeing agency requirements)
• NCUA has granted a waiver for a category of loans meeting the definition of a member business loan(proposed rule eliminates the waiver process)
• Note that NCUA regulations do not offer an exemption for business loans of $1 million or less
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Valuation Requirement
• For real-estate related transactions exempted, a written valuation must be performed by an individual qualified and experienced performing estimates of value for the property being considered and having no direct or indirect interest in the property.
• Refer to sections XII and XIII of the 12/2/2010 “Interagency Appraisal and Evaluation Guidelines” which sets forth the supervisory expectations for alternative valuation development and content.
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Minimum Appraisal Standards• Conform with USPAP • Written with sufficient information and analysis
supporting the transaction decision• Analyze and report deductions and discounts for
proposed construction or renovation, partial leasing, non-market lease terms, and track developments with unsold units
• Based on the definition of market value• Performed by licensed or certified appraiser as
required by 12 CFR 722.3
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Appraisal Review
Ensures compliance with regulations, internal policy, and adherence to supervisory guidance. The review process should: • Be performed by an independent, trained, and
experienced reviewer • Reflect a risk-focused approach in depth and scope• Establish a process for resolving any deficiencies in
appraisals or evaluations• Set forth documentation standards for the review
and the resolution of noted deficiencies
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Appraiser Independence
Person(s) making the selection of appraisers should be independent from the loan production area. The fee appraiser must:– Be engaged directly by the credit union or agent– Have no direct or indirect interest in the property
or the transaction
An appraisal prepared by an appraiser directly engaged by another financial institution may be acceptable under certain conditions (see 2010 Interagency Appraisal and Evaluation Guidance).
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Discussion
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