Risk Based Capital – The Proposed Changes

LOUISE HANSON, ASSURANCE PARTNER

TRAVIS SMITH, ASSURANCE PARTNER

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Moss Adams LLP Credit Union Experience

• More than 30 years with over 150 professionals dedicated to serving financial institutions

• Provide audit, tax, and consulting services to over 100 credit unions

• Currently ranked nationally in the top 2 for audit firms in terms of total credit union assets audited, and top 4 in terms of the number of credit unions audited1 .

• Our clients range in size from less than $10 million to over $13 billion in assets with multi-branch operations.

1Callahan and Associates, 2015 Guide to Credit Union CPA Auditors

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Objectives

• Risk-Based Capital History

• Overview of Proposed Rule

• Impact of Changes

• Strategic Planning Ideas

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History

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1989-92 FDIC Develops and Implements PCA Rule

• Leverage (Net Worth) Ratio = Capital (Net Worth)/Assets

• Leverage ratio is a lagging indicator

• Risk-based capital measure included to account for risks where the leverage ratio may be insufficient

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1997 – Treasury Issues Report on CUs

• Recommendations • System of corrective action to ensure CU correct any net worth

deficiencies timely

• Reserve target to 7% of total assets

• Deduct from reserve some portion of corporate capital

• NCUA to develop risk-based net worth requirement for large, more complex CUs to supplement the simple net worth requirement to take account of risk

• 1998 – Congress enacts CUMAA, requiring NCUA to adopt PCA regulations

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2000 – NCUA implements PCA (Part 702)

• Net Worth Ratio = Net Worth/Assets

• Included risk-based net worth component • Applicable to CUs with assets greater than $10 million

• Changes to CUs with assets greater than $50 million in 2013

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2014 – NCUA Board Issues Proposed Update to PCA, including a revised Risk-Based Capital Measure

• Comparable to other banking agencies’ rules

• Reflect riskiness of assets more accurately than leverage ratio

• Addressed GAO and NCUA Inspector General recommendations

• Applicable to all complex credit unions over $100 million in assets

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2015 – NCUA Board Issues Revised Proposal

• Made some progress with help of constituents (organizations, CU’s,) comment letters

• Expanded categories of risk weightings

• Removed major deficiencies from first proposal

• Removed most variances from bank risk weightings that put CU’s at a disadvantage

• Reduced well capitalized level from 10.5% to 10.0%

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Who is Affected?

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Goals of a Risk-Based Capital Framework

• Make sure larger, more complex credit unions remain well-capitalized as they grow and expand

• Incorporate a modern approach to calculating risk-based capital ratio, which is comparable to other financial institutions

• Enable credit unions to continue to be able to lend during time of economic distress

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Will the new rules really help?

• Where did the risk weightings come from? Were CU failures during the crisis because of a lack of capital?

• Is the risk weighted asset strategy proven to help manage a balance sheet?

• Compared to previous proposals, better updates to the loan and investment weightings

• Addressed certain concentration issues noted in earlier proposals, however, some still remain

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Will the new rules really help?

• Still some issues with the proposed rules • Expanded call report, which will take until 2018 before the regulators

will likely be able to update

• Perceived competitive disadvantages in some areas compared to banks remain in this proposal

• May need to have a written capital plan to address strategy and provide regulators with documentation of capital plans

• No supplemental capital allowed

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Expected Timeline

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Comparability to Other Financial Institutions

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Expected Calculation

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Numerator Deductions

• Removed Cap on ALLL

• No change to Supplemental Capital

• Grandfathering Supervisory Merger Goodwill and Other Intangibles

• Retained treatment of NCUSIF Deposits

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Expected Calculation

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Risk-Weighted Assets

• Cash on hand, cash due from other institutions, cash equivalents

• Investments, including capital stock

• Loans (consumer, residential real estate, commercial loans)

• CUSOs (loans to and investment in)

• Off-Balance Sheet Items

• Mortgage Servicing Assets

• Derivatives

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Risk-Weighted Assets

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Evaluation of Toolkit

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Help! Supervisory Committee’s role

• Supervisory Committee’s role - • Get some training on the topic (done!)

• Inquire of management their understanding of the proposed rules

• Has management considered the effect of the new rules on their own

CU? Any issues?

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What is your Credit Union doing?

• Has this been discussed at your supervisory committee meetings?

• How will this affect your credit union?

• Is management planning any significant changes to the balance sheet to plan for the proposed changes?

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Resources on Credit Union Capital

• http://www.creditunions.com/news/risk-based-capital/

• http://www.ncua.gov/Legal/Documents/RBC/RBC-2015-Proposed-Rule-FAQs.pdf

• http://www.nafcu.org/capitalreform/

• http://www.ncua.gov/Resources/Pages/risk-based-capital-resources.aspx

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ANY QUESTIONS?

THANK YOU!

Louise Hanson, CPA Partner

louise.hanson@mossadams.com

(425)-303-3037

Travis Smith, CPA Partner

travis.smith@mossadams.com

(480)-366-8341