GAO Report Finds No 'Compelling' Reason For Secondary Capital

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In a blow to credit unions' efforts to gain access to alternative, or secondary, capital, a prominent government agency issued a report last week concluding there is no "compelling" need for secondary capital among credit unions.

The report by the Government Accountability Office said that credit unions concerns about new minimum capital standards and the standards' affects on growth do not yet warrant new allowances for raising capital.

"Despite these concerns, available indicators suggest that the credit union industry has not been overly constrained as a result of the implementation of (prompt corrective action)," said the GAO. "As a group, credit unions have maintained capital levels well above the level needed to be considered well-capitalized and have grown at rates exceeding those of other depository institutions during the three calendar years that PCA has been in place for credit unions."

The credit union lobby, which never really embraced the concept of secondary capital, was ambiguous. Bill Hampel, chief economist for CUNA, conceded that most credit unions do not have any complaints about PCA, the rule enacted as part of the CU Membership Access Act (HR 1151) that sets minimum capital for credit unions at 6%. But there are many credit unions, as many as 1,500, that intentionally maintain low capital levels, around 7% to 9%, to purposefully distribute more funds to their members, and many of those credit unions are "looking over their shoulders" at the new capital requirements, said Hampel.

Their concerns have been heightened over the past three years of rapid share growth that has diluted capital levels. Some of those credit unions, noted Hampel, have begun to curtail their growth for fear of pushing their net capital too low.

Because the non-partisan GAO is considered an important authority among members of Congress, the report is sure to cloud the issue, which has already split the credit union lobby.

Bill Donovan, chief lobbyist for NAFCU, which is lukewarm on the secondary capital issue, said the GAO report will be looked at closely on Capital Hill but won't be the final word.

"It's input that will be weighed carefully by Congress, but it's only one input of many that will be weighed," said Donovan, explaining that Congress is not expected to address the issue any time soon, anyway.

Sherman Reiterates Support

After release of the report, California Congressman Brad Sherman, who has been pushing the secondary capital issue on behalf of the California CU League, issued a vague statement saying the GAO report is "by no means the last word on the issue," and he is still interested in exploring ways for credit unions to address their capital needs.

The issue has caused widespread disagreement among credit union officials themselves, with some worrying that the only way for credit unions to raise extra capital is through retained earnings, the net income left over after paying expenses and dividends.

The PCA rule in HR 1151 says that only retained earnings may be counted as net worth (capital).

Because of the new restrictions on minimum capital some credit union officials are looking for additional ways to add to their capital, such as by issuing subordinated debt. Secondary capital like this has been used on a limited basis for years to boost the net capital of low-income credit unions.

And some mainstream credit unions have also issued secondary capital in recent years, but are unable to count it as net worth under PCA.

But others in the credit union movement are opposed to the concept, saying that the issuance of secondary capital could dilute the traditional ownership rights of credit union members, a further weakening of credit union distinction with for-profit institutions. The GAO report alludes to this disagreement in its report.

This divergence on the issue is why none of the major credit union lobbies, including CUNA, NAFCU or NCUA has fully embraced the concept of secondary capital and all have been reluctant to push for its inclusion in legislation.

The exception is NASCUS, the trade group representing state credit union regulators, many of which already allow state-chartered credit unions to issue secondary capital. Those state charters are not allowed to count that capital as net worth under PCA.

NCUA Proposal Has Appeal

In fact, as CUNA lobbyist Gary Kohn pointed out last week after release of the GAO report, the credit union lobby is more interested now in an NCUA proposal to convert PCA to a system of risk-based capital, similar to the one applied to banks and thrifts, which could ease some of the pressures of PCA.

"We recognize there is no consensus on secondary capital within the movement right now," said Kohn, adding that the focus has shifted to the risk-based capital proposal. "We think the risk-based proposal could solve some of the problems with PCA."

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