How The Real Corporate Numbers Should Drive Credit Union Action

Every six months NCUA posts general updates on the 2010 liquidations of five corporate credit unions. For instance, June 2015 data was posted in November 2015 along with the September quarterly balance sheet and income statement of the five Asset Management Estates (AMEs).

These updates continue to show the ever-growing disparity between the NCUA’s apocalyptic forecasts that were used when seizing the corporate credit unions and the fully reserved and improving state that the corporates reported to their members and the NCUA at the same time.

The result is a growing pool of funds, not losses to be covered by insurance assessments, that belong to the credit union owners of these corporates. The challenge will be to ensure these funds are returned in full to the member-owners.

This update of the NCUA’s liquidation of five corporates consists of two separate articles:

• This article is a review of the data that documents the surplus and how it has arisen from what were supposedly insolvent institutions. While some, myself included, have been critical of the NCUA’s transparency, if credit unions don’t respond to the limited information the regulator does release, then the co-op system’s checks and balances could fail once again.

• The second article describes why it’s vital for credit unions to become engaged and assert their interests in the distribution of the growing surplus. One of the unique responsibilities of a co-op leader is to ensure the member-owners’ interests are always protected.

More Than 4,000 Credit Unions Wrote Off Their Corporate Capital

In September 2010 NCUA began liquidating five corporates. According to the last 5310 filed by each corporate, they had a total of 4,886 members:

While there’s some overlap because credit unions can belong to more than one corporate, most credit unions have invested in capital shares as a condition of their membership at a corporate credit union. As shareholders they are entitled to a pro rata distribution of the recoveries from their respective corporate’s AME.

The NCUA has said that it won’t begin returning funds until 2021, when the last note in the NCUA Guaranteed Notes (NGN) program matures. Therefore, the primary reason for paying attention now is that critical accounting and allocation decisions have been and continue to made among the AMEs. These have not been fully disclosed.

These reports continue to show the ever-growing disparity between the NCUA’s apocalyptic forecasts that were used to justify seizing the corporate credit unions and the fully reserved and improving state that the corporates provided to their members and the NCUA at the same time.

By 2021 new leaders will be at the NCUA, and at many credit unions. Also a significant number of cooperatives with claims may have merged or been dissolved during this decade-long process.

None of the five corporates that were liquidated have credit unions, individuals or organizations representing and protecting their members’ capital positions in the estates. Therefore, if the individual credit union holders of the Receiver’s Certificates (see illustration) issued by the NCUA do not confirm and protect their interests, any future payouts will be solely NCUA’s discretion.

Several credit unions have commented to me that they did not even know they had been sent Receiver’s Certificates. How many more managers familiar with the events of 2010 will still be in place 10 years after those events?

The NCUA’s past practices for charging credit unions for excess reserves in the NCUSIF beyond any actual loss experience or currently, in setting a higher Overhead Transfer Rate each annual budget cycle, have demonstrated that using members’ funds carefully is not the regulator’s first priority.

Increasingly, as shown in discussion at open board meetings, the agency’s decisions have been that of an agent acting in its own self-interest, versus being prudent stewards of credit union member funds.

Latest Projections From June 30 NGN Update And Sept. 30 AME Data

The NCUA’sPerformance Metrics-Balance Change Report as of June 30, 2015, shows remaining NGN balances of $13.5 billion versus an ending net releasable value of $16.954 billion for the securities collateralizing the notes. This would result in a positive surplus of $3.460 billion payable to the five AME estates. However, the outstanding value of the legacy assets is $18.231 billion or $1.3 billion higher. If this additional amount is partially or fully realized, then the surplus could be as much as $4.7 billion.

This range of $3.5 to $4.7 billion from the June NGN report does not include any legal recoveries which are credited directly to the AME estates. The NCUA just published the total of all legal recoveries so far as $2,485.35 billion. A February 2014 Credit Union Times article says law firms are receiving contingency payments of about 25% of that total payment, which would leave approximately $1.9 billion on top of the legacy surplus above.

Two other sources confirming this minimum value range are from the Resolution Costs and Net Remaining Assessments table. The NCUA in the 2015 2Q update projects as much as $ 3 billion in over-assessments. This estimate reflects an $8 billion net change from the initial Projected Remaining Assessments posted in July 2010 and used to justify the liquidations.

This latest negative remaining assessment shows that the $3.5 billion of TCCUSF assessments collected after the July 2010 projection were unnecessary. In each six-month update the projected losses have been revised downward (for an overall $8 billion downward estimate) over the five years that the program has been in place. But this trend was clearly evident before the September 2010 seizures.

Why act now? Because by 2021 new leaders will be at the NCUA, and at many credit unions. Also a significant number of cooperatives with claims may have been dissolved during this decade-long process. Today’s oversight will determine tomorrow’s outcome.

Trends Clear Long Before TCCUSF Plan

These positive trends in the legacy asset’s value only continue the dramatic improvements that were clearly occurring prior to July 2010. According to the NCUA’s public statements including this Credit Union Journal article in July the potential market loss on the $52.7 billion of distressed securities was $30.7 billion in December 2008.

However as of July 2010, the NCUA states that was then $47.5 billion in distressed securities’ market loss was only $21.4 billion, a gain of $9.3 billion in value. In addition, there were principal reductions of $5.2 billion for a total improvement of $14.5 billion in the 18 months from December 2008 through July 2010 for these five credit unions’ collective balance sheet.

These improving trends were also crystal clear at the individual corporate level prior to the September 2010 seizures by NCUA. For example, Members United had shown a 41% gain of $541 million in the fair market value adjustment of its investment portfolio in the 12 months ending June 2010. Since all of Members United’s investments were classified as available for sale, there was regular tracking of the portfolio’s economic value. This tracking chart was provided to all of its members, as well as examiners, along with the corporate’s regular monthly financial statements.

This combination of known value improvements in the legacy assets as of July 2010, and the subsequent $8 billion in revised loss reductions since that time, suggest serious problems in NCUA’s forecasting methodology, loss recognition, and modeling both initially and for ongoing program updates.

Why The Accounting Allocations Are Critical Now: Two Sets Of Books

Critical decisions are occurring now about how to allocate these improvements.There are two separate bookkeeping accounts and two distinct sets of credit unions benefitting from how allocations are made between these respective books.

The first set of records are for each of the five Asset Management Estates (AMEs), one for each corporate. Even though these assets are huge, these books and entries do not appear to be audited by an independent firm. The NCUA reports the financial net worth status of the five AMEs as of Sept. 30, 2015 and along with a comparison from December 2013 as follows:

The Fiduciary Net Capital Of The 5 AMEs ($000s)

Source: NCUA AMAC

The improvement of net worth for the five AMEs is more than $1.2 billion for the past 21 months. Three of the AMEs are showing positive balances available for their member-owners. Constitution Corp’s net position is coming close to break even.

Nowhere does NCUA attempt to reconcile the improvements and net worth of the AME’s with the NGN-legacy asset positive surplus forecasts described earlier.

Credit unions that purchased membership capital shares that were written off should receive distributions from these AMEs. Moreover, members of Southwest, Members United, and Constitution will benefit from receiving their respective corporate’s pro rata share of U.S. Central’s distribution to these three firms’ capital accounts. The remaining active corporates there are currently 12 should receive pro rata distributions for their U.S. Central capital shares as well.

But here’s the first rub. Each estate will pay out its positive balance to the shareholders, but the TCCUSF will have to cover a probable WesCorp shortfall. In other words, all credit unions will have to cover WesCorp’s TCCUSF shortfall should one still exist, which will limit the opportunity for all credit unions which paid premiums to receive a partial return of the over-assessments. For as the NCUA has stated repeatedly, all the recoveries from legacy assets and the legal settlements go to the respective estates’ shareholders and not the TCCUSF.

Moreover, the NCUA has repeatedly denied FOIA requests to release the names and receiver certificate amounts of the U.S. Central shareholders at the time of conservatorship. This lack of transparency further confuses what should be a clearly transparent accounting for all corporate credit unions and their member-owners.

A focus on future action could result in a financially stronger and more united cooperative system. The NCUA owes the credit union system more than billions; it also must demonstrate confidence in and respect for the cooperative processes that make the movement unique from other financial providers.

Accounting Entries Don’t Add Up

As described above, the transfer of funds between the AMEs and TCCUSF are critical to the final distributions that will be available. And these accounts do not foot. The five AMEs at Sept. 30 list a total of $6.655 billion in their five Due to the TCCUSF accounts. Since all but WesCorp will have a positive outcome, this would mean that four AMEs would pay the $1.449 billion total they owe to the TCCUSF fund. However, the fund would have to make up the shortfall from WesCorp’s AME. The NCUA currently projects this at $3.97 billion, according to an emailed explanation I received from an NCUA spokesman.

But at this same closing date of September 2015, the TCCUSF balance sheet presented to the NCUA board in November reports a net receivable from the Asset Management Estates of $2.5 billion. This number corresponds to no entries or possible net entries listed above on the AME balance sheets.

This current discrepancy is further complicated by the fact that nowhere is the initial liability of each AME to the TCCUSF documented or explained. Presumably this was the negative net worth being assumed by the TCCUSF when the corporates were taken over and then liquidated. However, three of the corporates reported positive net worth when seized by the NCUA. For example, U.S. Central, under NCUA management, reported $310 million in positive net worth; Members United $29.5 million; and Southwest Corporate $86.1 million.

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This Claim Receipt For Member Contributed Capital shows that Chicago Patrolmen’s FCU has a balance of $1.5 million in its Member Contributed Account with the liquidated Members United, and would be able to share pro rata in the net proceeds.

Solvent Corporates, But Owing The TCCUSF?

As an example, NCUA recognizes this solvency situation in the Order of Conservatorship served on Members United on Sept. 24, 2010. In that order, the NCUA states Members United currently shows positive regulatory capital. In this same order the NCUA acknowledges that the OTTI reserves were set up and totally expensed from earnings and capital, but then makes the unsubstantiated statement that future OTTI charges will continue to deplete capital.

This statement was made even though the same order noted the recent improvement in NEV: Even if NEV continued its recent slight improvement, the losses are far more than Members United’s balance sheet can absorb.

This slight improvement was $541 million in just the 12 months prior. NCUA’s dire predictions for Members United were completely wrong and moreover contradicted the significant improvement that was well underway.

What Happened To OTTI Reserves?

According to the NCUA’s reported losses on the legacy assets, as described in the abovementioned NCUA email, none of the five corporate estates have used up their OTTI reserves that were expensed at the time of the conservatorship.

Even more puzzling is that the actual losses updated on the legacy assets schedules published by the NCUA are much less that what the NCUA says have occurred. In U.S. Central’s case this difference between the agency’s reported legacy losses and the actuals from the updated spread sheet is more than $1 billion.

Another example is Members United. The NCUA recognized the $606 million OTTI reserve in its order taking over the credit union, but asserted it would be inadequate. Five years later using NCUA’s own numbers there is still $340 million remaining of that reserve alone. However, the actual losses on the assets which NCUA said are from Members United are only $204 million, not the $260 million NCUA is claiming.

So how do credit unions reconcile the NCUA’s reported $8.87 billion in actual losses with the spread sheets for legacy assets which show much-lower actual loss figures for each estate?

Since at least three of the corporates were not insolvent at the time of conservatorship, why would these three owe any amount at all to the TCCUSF? These three collectively report as of September 2015 a liability payable to the TCCUSF of $1.416 billion (which includes the $1.0 billion note at U.S. Central). Documenting why any liability exists and what happened to the reported net worth when the credit unions were conserved is vital to the recoveries due to these corporates’ capital holders.

A Challenge To The Cooperative System

More than half of the nation’s active credit unions when the five corporates were seized were members of one or several of these liquidated institutions. The dollars that are at stake are in the billions, with prospects of more.

The uniqueness and challenge of the cooperative model is that it creates common wealth both now and for the future. For credit unions to sustain and grow as cooperatives, today’s leaders must act to ensure the member-owners’ stake is not compromised or appropriated away. The cooperative has a special design that entails local ownership oversight as well as system responsibilities.

The reason for involvement now and going forward is not solely the amount of funds. Rather the NCUA’s continuing narrative that there are no more lessons to be learned about the corporate takeovers is contradicted by every update and explanation.

If the agency can ignore this growing credibility gap between its future judgments at the time of takeover and subsequent facts, one must be deeply concerned about their willingness to respect future member interests.

A focus on future action could result in a financially stronger and more united cooperative system. The NCUA owes the credit union system more than billions; it also must demonstrate confidence in and respect for the cooperative processes that make the movement unique from other financial providers.

What Can Your Credit Union Do?

Some initial thoughts are:

• Locate your Receivers Certificate and confirm the membership share totals are the same as the amounts on your books when the corporate was seized;

• Create a central registry for all certificates at a corporate or trade association;

• Contact NCUA board members to ask for greater transparency and more timely accounting for the legacy assets and TCCUSF financial statements;

• Ask the trade associations to present the issue to Congress as an area needing independent oversight because billions of members’ funds are at stake;

• Create an independent review of the assumptions, data, and modeling used by the NCUA at the time of the takeovers to understand how the enormous gap between projected losses and actual events occurred. Publish recommendations to ensure these regulatory misjudgments are not repeated in future crisis.