How NCUA Softened Its Risk-Based Capital Plan

WASHINGTON — After a sometimes contentious two-and-a-half-hour meeting, the National Credit Union Administration released a revised risk-based capital proposal on Thursday that was significantly less rigorous than its first attempt last year.

Agency officials characterized the changes as "fine-tuning," but the difference was dramatic. Under the original plan, 199 credit unions would have fallen below the well-capitalized threshold. But the new plan impacts just 19 institutions.

And in a move bound to set off loud alarm bells in banking circles, the board said it intended to explore the possibility of allowing credit unions to raise secondary capital once the risk-based capital rule becomes final sometime later this year.

Currently, credit unions' only source of capital is retained earnings. Board member J. Mark McWatters called it "beyond ironic" that the NCUA would consider implementing a risk-based capital plan without also providing for some form of alternative capital, and he called on his colleagues to "initiate a process that would promulgate a rule that would allow secondary capital."

McWatters cast the sole dissenting vote against the new proposal. He joined the NCUA board in August, so he was not present for the original risk-based capital debate last year. On Thursday, he said the agency lacked the statutory authority to do anything more than define a single risk-based threshold for capital adequacy. Since both proposals envision a second, well-capitalized tier — 10.5% under the first proposal, 10% under the revision — McWatters said NCUA was acting outside the law.

"A reasonable, plain-language interpretation" of the Credit Union Act shows Congress did not intend for a risk-based capital scheme to have multiple tiers, McWatters said.

He added that as recently as 2007 an internal white paper concluded the law barred any distinction between adequately and well capitalized.

McWatters' comments drew a sharp response from Rick Metsger, the agency's vice-chairman. Metsger said that "a number of people have attempted to take one clause of the Act out of context, as if there was no other language in it." He added that including "adequate" and "well-capitalized" tiers in the risk-based proposal was a "reasonable and permissible reading of the statute."

NCUA Chair Deborah Matz said she approved the expenditure of $150,000 to obtain an outside legal opinion on the issue and that the firm NCUA hired, Paul Hastings LLP, concluded the Credit Union Act did permit a two-tier risk-based capital framework.

"I feel very strongly we have the legal authority to do this and we have a strong opinion supporting us," Matz said.

McWatters, who is also a lawyer, said his own reading of the law led him to the opposite conclusion, adding that a law firm hired by the Credit Union National Association had also concluded NCUA was acting outside its statutory authority.

Initially, the risk-based capital proposal was intended to apply to credit unions with more than $50 million of assets. In its revision, NCUA proposed raising the asset threshold to $100 million. In general terms, both versions of the plan require affected credit unions to hold more capital for participating in riskier lines of business, including real estate loans, certain long-term investments and member business lending.

Originally, the credit unions impacted by the proposal would have had to raise about $700 million of capital to regain their "well-capitalized" status, according to NCUA. Under the revised proposal, the 19 affected credit unions need raise about $50 million, the agency said.

But even with the less rigorous definitions envisioned in the revised proposal, NCUA officials said it would cover 1,455 individual credit unions that in aggregate hold 89% of the system's assets.

The changes come after a massive campaign by the credit union industry, which strongly lobbied for NCUA to dial back or abandon its initial proposal. Lawmakers, too, joined in, arguing the NCUA's initial plan was too harsh.

This time around, credit union representatives said the NCUA's changes were positive.

"We are encouraged that the board listened and responded to credit union concerns, including lowering the 10.5% well-capitalized requirement, lowering some of the risk weights, removing the treatment of interest rate risk, extending the implementation time frame, reducing the number of credit union affected, and addressing the individual minimum capital requirement," said Jim Nussle, the president and chief executive officer of CUNA, in a press release.

Still, they continued to question the need for the proposal in the first place.

"We remain unconvinced that this risk-based capital approach is even necessary, and are concerned about the risk-based well capitalized requirement and the substantial cost the proposal will impose on credit unions," Nussle said.

Dan Berger, the president and CEO of the National Association of Federal Credit Unions, agreed that "this rulemaking is unnecessary."

"The costs associated with it are shocking given how extremely well capitalized the industry is today," Berger said in a press release. "The huge costs of this proposal, which attempts to address just a few dozen credit unions, reinforces our position that this rule is not necessary and, quite frankly, was never necessary."