For better or worse, New York State’s Department of Financial Services (DFS) made history yesterday. It was the first regulator on either the state or federal level to propose regulating virtual currency operators. Its regulations proposing licensing requirements were finalized this past June and yesterday the Department announced that Circle Internet Financial is the first corporation to receive a BitLicense.
Under New York’s new regulations companies engaging in “virtual currency business activity” involving New York or New York State residents must be licensed. These regulations generally define virtual currency business activity as encompassing the receiving, storing, buying, or exchanging of virtual currency. Circle Internet is one of the growing number of companies specializing in platforms that allow consumers to send and receive payments between each other electronically. Presumably, the BitLicense will make it easier to offer its members the option of paying for goods in either Bitcoins or traditional currency. New York State banks and credit unions are exempt from licensing requirements. (3 NYCRR 200.3)
In honor of the late, great Yogi Berra, who passed away yesterday, you might say that when it comes to virtual currency, New York came to a fork in the road and took it. Former Superintendent Benjamin Lawsky made the regulation of virtual currency a top priority of the Department. Is it better to let the industry grow organically to maximize the attractiveness of New York as a center of Bitcoin innovation? Or will an appropriate regulatory framework help spur innovation by helping to distinguish the vast majority of legitimate virtual currency entrepreneurs from the bad actors who are attracted to its potential application to money laundering?
In March 2013, FinCEN issued guidance outlining the applicability of the Bank Secrecy Act to persons administering virtual currency exchanges, but as I noted New York is the first entity to issue Bitcoin licenses.
Incidentally, I have been looking over Yogi Berra’s statistics this morning and he is one of greatest of the truly great Yankees. It wasn’t too long ago when getting a plaque in Monument Park at Yankee Stadium was more difficult that making it into the Hall of Fame. In contrast, it seems like just about every other day this year another Yankee’s number has been retired. That’s too bad because Yogi is one of the handful of people who truly deserve the honor.
I’m a skeptic when it comes to customer service. All you have to do is visit a cavernous retail outlet with an abundant supply of everything but informed and courteous staff to realize that your average consumer is more than willing to trade service for a lower cost. I know that some people switched to credit unions out of disgust with banks, but I still believe that most of the disgruntled will end up going where they can get the best accounts and cheapest loans.
I’m bringing this up because it’s that time of year when senior staff and Boards gather to peer into their crystal balls and plan for the coming months and years ahead in an attempt to position credit union resources. In an ideal world your credit union could be all things to all people, providing great customer service, the cheapest loans in town and the most reasonable fees but the world is not ideal; No business of any size can survive doing all things for all people. Having put on my Captain Obvious hat, it follows that a planning session that doesn’t funnel staff and resources towards the areas where your credit union is most likely to see the greatest return is not a plan at all but a glorified wish list that leaves it up to staff to make the really tough decisions.
Against that backdrop one of the questions that most intrigues me is: Is customer service really worth it? This morning’s Liberty Street Blog contains an intriguing bit of research that attempts to answer this question in quantifiable terms. I would love to see someone apply a similar analytical framework to credit unions.
The researchers hypothesized that banks that spend more on customer service by, for example, maximizing the number of ATMS or hiring more staff at the branch level, do a better job of attracting core deposits than other banks, To measure this premise they divided the noninterest expenses of community banks with under $1 billion in assets in by their total assets. They found a clear correlation between the amount of money community banks invest in their service infrastructure and the amount of their core deposits. Specifically “a higher noninterest expense profile is associated with more core deposits, lower funding costs, and fewer liquid assets.” They suggest that one possible explanation for this finding is that “a bank that provides better services attracts more core deposits, lowers its funding costs, and, because it faces lower liquidity risk, holds fewer liquid assets.”
Does this mean that customer service should always be a top priority? Not necessarily. The research also suggests that there is no such thing as a free lunch. For example, those banks with higher operating costs also tend to have riskier lending portfolios. The researchers suggest that one possible reason for this correlation might be that the more “sticky” a bank’s deposits are as a result of customer loyalty the more aggressively a bank feels it can use these deposits. I would suggest that another possible reason is that these banks end up having more members precisely because they have lower lending standards not because of great customer service.
Don’t get me wrong. I understand that Banking is a customer service business and it doesn’t cost you much to expect your employees to politely deal with members. What I am suggesting is that a primary emphasis on a strong customer service infrastructure isn’t without some very real risks and may be a distraction from a discussion of the types of initiatives that really would increase your credit union’s growth. After all, there are many struggling credit unions that are beloved by their members.
Here is the research
Friday was a sad day for New York credit unions. In case you didn’t hear the news, two iconic credit unions, Montauk Credit Union and Bethex Federal credit union were placed in conservatorship and taken over by regulators.
Montauk was chartered in 1922. It has $178.5 million in assets. It specializes in making loans to finance the purchase of taxi medallions in New York and other cities. Since the late 1930’s, when New York City first began regulating taxis, the Medallion industry, distinguished by its yellow cabs and exclusive right to pick up street hails, had been among the most stable sources of credit union loan growth. In addition, the value of medallions spiked over the last decade reflecting increased tourism in the City and a search for higher yields. In 2013 they sold for as much as $1.3 million. But the emergence of Uber, which provides drivers with a low-cost means of entry into the taxi industry, has sent the prices of medallions tumbling. A recent decision upholding the right of Uber and other such services to pick up street hails so long as an App is used further hurts the industry.
On Friday I was talking to a credit union CEO who has participation interests in NYC taxi medallion loans. He has given these loans increased scrutiny in recent months and adjusted his ALLL to account for potential loses.
Bethex Federal Credit Union in the Bronx, N.Y has $12.9 million in assets was started in 1970. Its CEO, Joy Cousminer, is a leading advocate for small credit unions who has been honored by the NYS Senate for her work in the Bronx Community.
In June Bethex was one of the credit unions highlighted in a WSJ article reporting that 50 credit unions were identified in a confidential report from FINCEN for their increased vulnerability to potential money laundering. Here is some additional information.
Pressure To Settle MBS Lawsuits
Just how much money credit unions will get to offset their special assessments for losses stemming from the purchase of Mortgage Backed Securities (MBS) by the corporates may become clearer in the coming weeks. The Law360 blog is reporting that “ A New York federal judge on Friday gave Morgan Stanley & Co. Inc., Goldman Sachs & Co. and other big banks six weeks to meet face to face with the National Credit Union Administration and try to broker resolutions to lawsuits that claim the banks’ toxic mortgage-backed securities helped ruin multiple credit unions.” Stay tuned.
You can tell that the kids are back in school and everyone’s resigned to the fact that summer is over. The fact is that there has been more credit union news generated in the past two days than there has been for the entire summer. Here are some highlights with the usual caveat that the opinions I express are my own and that, lest you think I am suffering from forgetfulness, I reserve the right to circle back to any of these issues in an expanded form at a future date.
Board Meeting Results
At yesterday’s NCUA Board Meeting, the Board finalized an interpretive ruling increasing from $50 to $100 million the size of credit unions considered small under the Regulatory Flexibility Act. As I explained in a previous blog, the true impact of this change won’t be known until we see how aggressively NCUA uses the designation to exempt credit unions from regulations. According to NCUA, the change means that an additional 733 federally-insured credit unions fall under the enlarged threshold.
The $100 million ceiling is actually lower than some industry advocates had argued for, pointing out that similar designations for the banking industry can be as high as $550 million. In the preamble to the updated interpretation, the NCUA responded to these critics by pointing out that the $100 million threshold actually means that a proportionate number of credit unions will be considered small.
Corporates Thrown A Bone
As readers of this blog will know, I have been critical of the industry’s efforts to ensure that all credit unions, regardless of their size, have access to emergency lines of credit. Remember, the question is not if we are going to face another financial crisis, but when. Consequently, I am pleased that NCUA took a small step to help credit unions yesterday by giving corporate credit unions the ability to provide bridge loans of up to 10 business days to credit unions awaiting funding for loans approved through the Central Liquidity Facility (CLF). These loans will be excluded from the calculation of a corporate credit union’s net assets for purposes of determining their capital requirements. Much more needs to be done in this area, but at least this is a start.
NCUA Gets Another $130 Million for Corporate Stabilization Fund
While I was skeptical of how successful it would be, NCUA’a aggressive legal pursuit of the investment banks that provided failed mortgage-backed securities to corporate credit unions continues to bear fruit for the industry. On Wednesday, the NCUA announced that it had settled one of its claims against the Royal Bank of Scotland for $129.6 million. This settlement stems from mortgage-backed securities purchased by Members United and Southwest Corporate Credit Unions.
NCUA has now recovered $1.9 billion as a result of these lawsuits. We won’t know for several years just how much money can be used to reimburse credit unions for the special assessments they’ve had to make as a result of the MBS purchases made by the failed corporates. But with the NCUA overcoming significant procedural hurdles in recent months, it is possible that its litigation will ultimately result in substantial reimbursement for credit unions. Chairman Matz deserves credit for going forward with this litigation.
Do Banks Have Reason to Fear Credit Union Loan and Membership Growth?
American Banker is reporting this morning that “credit unions are adding members and loans at an accelerated clip, though the accuracy and relevancy of these numbers are up for debate.” The article points out that for credit union advocates this increased growth is proof that people continue to lack confidence in the banking industry. To credit union critics, statistics on credit union members are both unreliable and misleading. For example, our good friend Keith Leggett concedes that while there is still some dissatisfaction with larger banks, a lot of the new credit union members “are basically members in name only.” (e.g. they are becoming members to get a car loan with no intention of doing more of their banking at the credit union)
I actually think both the critics and supporters of credit unions have valid points in this discussion. Skeptics are right to point out that a lot of membership growth is somewhat shallow. The metric that the industry ultimately has to work to improve is the number of consumers for whom the credit union is their primary financial provider. That being said, capital constraints permitting, every time a member gets a loan from a credit union, credit unions are provided with one more opportunity to make a sales pitch. Considering how difficult it is to get people to switch accounts, the sheer volume of people taking a look at credit unions should not be underestimated. Furthermore, the banking industry continues to minimize consumer dissatisfaction with its Great Recession antics at its own peril.
On that note, let’s have a nice weekend, with a special thanks to all of you who showed up at the Association’s Legal and Compliance Conference this past week.
Student lending is having an increasingly large impact on your credit union whether or not it provides private student loans. First, With student debt now surpassing $1 trillion it is one of the factors explaining why millennials haven’t helped prime the economy by buying that first home. And, Of course, if your credit union is one of the increasing numbers of institutions that has jumped into the private student loan market in recent years, you know firsthand about the opportunities and challenges posed by this market. A report recently issued by the Brookings Institute has both operational implications for those of you making these loans and provides further evidence for those of us who believe that the cost of college is one of the key policy issues facing this nation. To be clear the research dealt with government guaranteed student loans but I’m assuming that many of its conclusions are applicable to the private student loan market.
So what did these researchers find? That increasing student loan default and delinquency “are largely due to increases in” the number of borrowers taking out loans to attend for-profit colleges and two-year community colleges. These nontraditional borrowers “were disproportionately older, independent of their parents, from lower-income families, and living in more disadvantaged areas.” Why do these conclusions matter? From an operational standpoint they underscore just how important it is to take the quality of the institutions your members are attending into account when establishing student loan policies. On a policy level, it’s possible that we have as much of a college quality crisis as we do a student loan problem
For those of you who provide private student loans this research should be kept in the same file as the Supervisory Guidance on Private Student Loans that NCUA posted in December of 2013.( Supervisory Letter No.: 13-13.) This is a guidance that I am embarrassed to admit I haven’t highlighted in a previous post. In it NCUA explains its expectations for sound underwriting practices involving student loans. It explains, for example, that “the performance of PSLs can vary significantly by cohort (e.g., field of study and degree, school attended, and graduation year relative to the economic cycle) as a result credit unions are expected to fully evaluate the credit risk of their PSLs by conducting a risk analysis for the different cohorts.” This research shows that not all those factors have an equal impact on delinquency-the quality of the school may matter the most.
The tricky part is that too inflexible approach to student lending is going to lose you potential members. Providing a helping hand to someone striving to get ahead is one of the reasons we have credit unions in the first place.
In addition Student lending, particularly if done on a large enough scale, also raises potential fair lending issues via the Equal Credit Opportunity Act. For example, let’s assume you receive applications from members planning to attend both four-year colleges and for-profit institutions. According to the researchers “ attending a for-profit or 2-year institution is correlated with living in a more disadvantaged area, being lower income, and having worse labor market outcomes,” As a result, it’s quite possible that a facially sound underwriting policy may result in a disproportionate number of your rejected loan applicants being from protected classes. In fact, in its guidance NCUA reminds credit unions that PSL loans are subject to the Equal Credit Opportunity Act.
Here is a link to the research:
A Quick Political Note-
The big winner in last night’s Republican debate was former HP CEO Carly Fiorina She showed its possible be a political outsider, have a firm grasp of policy and politics (Sorry Ben Carson and Donald T), and be both aggressive and passionate without being an obnoxious name calling loud-mouth (Sorry Donald). For those of you looking for an outsider at any cost she is the one for you.
Do financial institutions have any attorney-client privilege left? That’s the question posed in a recent commentary in American Banker.
The author is not a reactionary blogger, but Thomas P. Vartanian, who has previously served as a government counsel to two federal banking agencies, argues that regulators are taking an increasingly aggressive stance in efforts to obtain access to communications and work products lawyers provide to financial institutions. He warns financial institutions that “acting as if there is a privilege, when in fact there may be none, can lead to an institution’s unvarnished legal analysis, conclusions and communications being accessible to the very regulators that are instituting enforcement actions against it.” The issue has taken on added importance in the aftermath of federal legislation passed in 2006 that clarified that financial institutions that provide privileged communications to regulators do not lose the attorney-client privilege as applied to other parties.
Credit unions are not immune from this issue. In a strongly worded opinion letter, NCUA opined that examiners have a right to “complete access to a credit union’s records.’ It went on to explain that with the new federal law, “NCUA will no longer permit credit unions to withhold privileged documents because of an assertion that producing them will waive a privilege as to a third party.”
To be clear, NCUA or any regulator for that matter is not the ultimate arbiter of privilege. If your credit union does find itself being asked for privileged information, it should consult with an attorney and see if there are grounds to refuse the request. The key point to keep in mind is that given the state of the law, communications with your attorney may not be as private as you think they are.
This unfortunate reality is in no one’s interest. Right after I am done with this blog, I am going to attend the second day’s program of the Association’s Legal and Compliance Conference. Laws and regulations are getting more complicated by the day. Mistakes are going to happen, and when they do, there has to be a mechanism to ensure that frank and honest discussions can take place about how to correct them.
September is national disaster preparedness month and for good reason. The storms that have hit many parts of the country over the last decade have made us all experts in areas of lending law that we would much rather not have to deal with.
Against this backdrop, a recent case out of the Court of Appeals for the Seventh Circuit provides a great explanation of exactly what a lender’s obligation is with regard to damaged property. See Avila v. CitiMortgage, Inc. (7th Circ, 2015). It’s worth a read. The case involved an Illinois homeowner who bought a home in Chicago in 2005 with $105,000 mortgage from CitiMortgage. Five years later, a fire made the house uninhabitable. The homeowner filed a claim with his insurance carrier and received $150,000.
As is common practice, CitiMortgage was a loss payee on the insurance proceeds and refused to disperse any funds until it reviewed the restoration work. By the way, this is a smart practice but it created much confusion in New York in the aftermath of Hurricane Sandy when elected officials criticized banks, in many cases unfairly, for holding back proceeds. In this case, Citi reviewed the work and found that it was done poorly. The case get tricky because by this point our homeowner had missed several payments and Citi interpreted its mortgage contract as allowing it to put the insurance proceeds toward paying off the now delinquent loan. The home was never repaired.
At issue in the subsequent litigation was a section of the mortgage contract dealing with the proper use of insurance proceeds. Your mortgage agreements undoubtedly have similar language. The contract provided two distinct obligations on the lender. First, insurance proceeds should go toward the restoration of the mortgaged home. However, it also provides that if such a repair is not economically feasible, the insurance proceeds shall be applied to the mortgage loan.
In this case, our homeowner filed a suit in Cook County, Illinois claiming that the bank breached its fiduciary obligation and the insurance contract. The case was dismissed by the district court, but on appeal the Seventh Circuit revived part of the case. First, it rejected the homeowner’s argument that the bank had a fiduciary or special obligation towards the homeowner as the holder of the insurance proceeds. However, it still allowed the case to go forward. At issue was whether the homeowner’s default constituted a breach that allowed the insurance proceeds to be applied to the mortgage and whether Citibank was first obligated to demonstrate that fixing the damaged house was not economically feasible.
We have to assume that property will be damaged and how efficiently your credit union handles these claims will either save or cost you a lot of money. I’m giving you this case as a gentle reminder to make sure you have proper policies and procedures in place to handle property damage claims before the next disaster strikes.