Found in NCUA's Own Backyard: Federal Credit Unions Have the Power to Issue and Sell Securities
In 2014, NCUA issued a proposed rule amending its regulations to clarify that a federal credit union is authorized to securitize its assets by issuing and selling securities. The proposal sat on the backburner for a few years until recently.
At this month's NCUA Board Meeting, it was clarified that an amendment is not actually needed. NCUA had determined that federal credit unions already have the requisite authority and incidental power to issue securities.
To that end, on June 21, NCUA issued Legal Opinion Letter 17-0670. In this Legal Opinion Letter, NCUA set out a VERY thorough explanation of how it determines what activities are supported by the FCU Act, and why, under this analysis, the issuing and selling of securities meet all the relevant criteria for an incidental power activity.
Securitization of Assets as an Incidental Power
Section 721.2 of NCUA's regulations sets out a three-part test which NCUA uses to determine whether an activity is an incidental power. An incidental power is authorized if it:
(a) Is convenient or useful in carrying out the mission or business of credit unions consistent with the [FCU Act];
(b) Is the functional equivalent or logical outgrowth of activities that are part of the mission or business of credit unions; and
(c) Involves risks similar in nature to those already assumed as part of the business of credit unions.
NCUA found that issuing and selling securities offers FCUs an important source of liquidity and reduced dependency on share deposits to fund loan demand. It offers flexibility in responding to competition and market demand, making it both convenient and useful to carrying out the business of credit unions.
NCUA also found that securitizing assets can increase the amount of credit available to members and create a vehicle for mitigating risk, making it a logical outgrowth of an important part of credit unions' mission and business: to provide credit for provident and productive purposes.
Finally, NCUA found that the risks associated with issuing and selling securities were the same risks already assumed by credit unions. Specifically, NCUA identified 5 types of risk attached with securitizing assets: credit risk, liquidity risk, reputation risk, operational risk and strategic risk. In each case, NCUA found that the accompanying risks were similar in nature to those risks already faced by federal credit unions.
Having met all three criteria, NCUA determined that the issuing and selling of securities is, in fact, already permitted by the FCU Act and NCUA's rules and regulations. Having made that determination, the Legal Opinion Letter turned to safety and soundness considerations.
NCUA's Expectations for Starting A Securitization Program
The Legal Opinion Letter also set out some expectations for credit unions engaging in asset securitization activities. Below are some expectations for the creation and implementation of a safe, sound and successful securitization program from the Legal Opinion Letter:
- An FCU should consult with legal counsel and other advisors to understand and give due consideration to all legal requirements, including those from other regulators and jurisdictions.
- Management must consider whether securitization policies are realistic and carefully designed to serve the membership.
- The credit union must have developed proper internal safeguards including management oversight, internal controls and quality control.
- Due diligence must be exercised before entering into third party agreements or devoting credit union resources to securitization activity.
- The risks associated with issuing and selling securities must be properly examined and assessed, and appropriate adjustments must be made in the credit union's risk management processes and insurance coverage to appropriately mitigation that risk.
- Section 721.4 requires an FCU to complete and submit an application to NCUA requesting to engage in securitization activity, as it is not an a preapproved incidental power.
We expect further guidance on the topic to be issued by NCUA in the next 3 to 4 months and will keep you updated.