Back to Basics: Can Your Members Repay Their Loans?
Occasionally we need to go back to basics and be reminded of fundamental concepts. Here is one fundamental concept of lending: we want members to be able to repay the loans they receive from credit unions… because who doesn’t like to be repaid after lending money? The first step is taking the time to conduct a general analysis of whether a member will likely be able to repay the loan they’ve applied for. This blog will explore a few considerations to make when reviewing a member’s loan application and answer a few questions asked by our compliance friends.
NCUA has a general expectation that credit unions will evaluate all loan applications to determine the member’s ability to repay the loan. Article VIII of the Model FCU Bylaws mandates that for every loan made by the credit union, “the credit committee or loan officer must review the character and financial condition of the applicant and their surety, if any. The credit committee or loan officer will ascertain the applicant's ability to fully and promptly repay the loan.”
Although there are more specific ability to repay requirements spelled out in Regulation Z for mortgages and credit cards, keep in mind that this more general requirement for an ability to repay analysis applies to all loans and lines of credit made by the credit union. This makes sense considering safety and soundness obligations and the expectation that a credit union will only make loans that it believes will be paid back.
What if the loan is secured by the member’s shares?
Share-secured loans are not exempt from an ability to repay analysis. A loan secured by a member’s share account is covered by all of NCUA’s rules that govern loans and lines of credit and the bylaws. If the product operates as debt that the member is obligated to repay, it is governed just as other types of loans. It may be the case that the analysis is much easier to conduct because the member’s share account is used as a measurement of creditworthiness for determining if a they qualify for a secured loan.
Ultimately, if a member uses their shares as collateral for a loan, the credit union is still expected to follow lending laws and its own lending policies and procedures for evaluating the loan application.
What if the member has other collateral?
There are not exact requirements for evaluating collateral other than real estate, like for cars or equipment used in a business. Consideration of any type of collateral or security should be based on an internal risk management analysis.
As explained in NCUA’s Examiner’s Guide, a credit union should consider:
- Age of the collateral compared to the estimated useful life of equipment;
- Condition of collateral (including maintenance and environmental liability);
- Impact of technology obsolescence on marketability of the collateral;
- Degree to which the collateral is essential to business operations;
- Alternative use of collateral; and
- Marketability of the collateral.
Like share accounts, other collateral may be used as part of the analysis of determining creditworthiness but is only one piece of the puzzle.
What if my initial determination of their ability to repay changes?
Some credit union develop a system of checking or reevaluating a member’s ability to afford a loan or line of credit after a few years. Circumstances change, and sometimes a member can no longer qualify for a loan product they once could, especially for open-end lines of credit.
The NCUA’s examiners guide identifies 2 years as an industry standard in evaluating and monitoring consumer lines of credit. The guide adds, “This review of a borrower's financial condition could help management determine whether to increase, decrease, or terminate a borrower's credit line.” See Chapter 10 of the Examiner’s Guide, at page 10A-5.
Although this reevaluation is not a regulatory requirement, it may be an appropriate practice if your members have fluctuating finances. Keep in mind that action against a member, such as a reduction in credit, may trigger adverse action notice requirements.
What if the member is not a U.S. citizen?
Credit unions are not prohibited from offering loans to someone who is not a U.S. citizen through the same processes they would follow for U.S. citizens.
The credit union would be required to follow all internal procedures and evaluations on credit worthiness as with any other applicant. In the context of fair lending, Regulation B allows a credit union to consider immigration status as part of the evaluation of the applicant. The commentary to section 1002.6(b)(7) points out some factors for the credit union to consider when evaluating the likelihood that a debt will be repaid. These considerations include the applicant’s employment status and their continued residence in the area. For more information, check out our blog on Immigration Status and Student Loans. Ultimately, the credit union will need to consider all the factors that may affect a member’s ability to repay their debt.
About the Author
Loran Jackson was named regulatory compliance counsel in April 2019. In this role, Jackson helps NAFCU members with a variety of federal regulatory compliance issues.