subordinate to all other claims against the credit union, including the claims of creditors, shareholders, and the Fund. Kerecman said that section makes three things perfectly clear: for a regular federally insured CU net worth only means retained earnings; it distinguishes between regular and low income credit unions; NCUA has no flexibility with the definition. Sherman's amendment struck the words "low income" from the definition. Kerecman called it "absurd" that the definition in its current form distinguishes between regular credit unions and low-income credit unions. "The definition inhibits CUs' ability to reach out and serve their members or, depending on their charter, communities because they don't have the resources available," he said. "Even if a credit union is experiencing a modest rate of growth, it will have to change its business plan to avoid hitting the 7% net worth cap," Kerecman said, noting that "none of this was an issue" prior to the passage of 1151 and the PCA provision. That's what happened to Point Mugu FCU since it was approved by NCUA in Jan. 1997 for a community charter. In fact, President/CEO Ron McDaniel said the $195-million has had to change its business plan three times in the past five years. In the first cycle, the credit union emphasized loan growth. Then Point Mugu got concerned about its net worth ratio, so it stressed growing deposits. Each of the first two cycles last 18 months Now McDaniel said Point Mugu is in the third cycle. Its net worth is 8.5%, and it's taken steps in pricing dividend rates so that the credit union only sees moderate growth. "There's a real squeeze between low loan rates and low dividend rates," he said. "NCUA says in the approval process for a community charter that the credit union needs to be sure it has the willingness and capability to serve the entire community it's applying for," said McDaniel. "Philosophically that's what we want to do, but when you get to the point where you're making business strategy decisions and you're prevented from being as aggressive as you'd like to be with serving the community, then you're dealing with a constraint. The more capital tools in addition to retained earnings federally insured credit unions can have, then the better position they'll be in to serve the entire community, which is what we signed on to do." While it would appear that CU growth causes PCA problems, CUNA Senior Vice President and Chief Economist Bill Hampel said the number of credit unions with net worth ratios near 7% that run afoul of PCA rules "is smaller than people think." Besides, temporary spurts of growth don't push credit unions' net worth ratios down, said Hampel. Keeping in mind that NCUA allows credit unions two ways to compute their net worth ratio – current net worth divided by current assets, and current net worth divided by average assets for the last four quarters – in the end of 2000, there were 173 credit unions with net worth ratios of 6-7%. In the end 2001, using the first formula, there were 245 CUs with net worth ratios of 6-7%, but using the second formula that number drops to 166. CUNA data show credit unions' assets increased 16% in 2001. "The case could be made that if there were no PCA rule in effect, then that growth number would have been higher," said Hampel. "The real effect of PCA is more subtle and pernicious," said Hampel. "It has to do with the fear of what a credit union will have to go though if it goes through an extended period of growth. It would eventually run into the PCA rules. This forces normally well-run, well-managed and well-capitalized credit unions to get overly conservative in their growth strategies." Hampel described credit unions that think they have no option other than to throw up their hands in frustration and convert to mutual thrift charters as being "short sighted." "There are a combination of many reasons why a credit union would want to convert to a mutual charter, and capital is just one reason, but not the only one nor the main one," Hampel said, referring to an article that ran in the March 8 issue of American Banker, "Credit Union Conversion Guru Calls Trend Inevitable" which attributed CUs' inability to raise capital as the reason some of them have converted to mutual thrift charters. McDonnell added that, "I hope now that Rep. Sherman has put the issue of alternative capital reform on the table, that will send a message to his colleagues that this is an important issue that needs to be discussed and looked at seriously. His action opens the door to discussion, and that has to be the first step. Someone had to break the ice to get the issue on the table." Jim Blaine, president/CEO, State Employees Credit Union of Raleigh, N.C. and head of the NASCUS task force on alternative capital is also glad the issue is on the table. A time when credit unions are well capitalized and earnings are good as they are now "is great," said Blaine, "but that type of environment makes it hard to talk about managing capital." Blaine stressed that NASCUS is not advocating the repeal of PCA. "The association wants federally-insured credit unions to be able to count other forms of capital toward their net worth ratio," he said. Blaine said this is particularly important for state-chartered credit unions because in many instances there is a disparity between some states' definition of capital and the definition under PCA. "Certain states like North Carolina and California allow for alternative capital, but H.R. 1151 preempts all state law, so regardless of what our law says, we have to follow what the federal law says." Blaine said the fact that credit unions' capital ratios are going down due to a huge influx of member deposits, while credit unions continue to operate in a safe and sound manner "is a prime example of why we need alternative capital. Every depository institution, including corporates and low income credit unions are allowed to include secondary capital accounts toward their net worth. Regular, well-capitalized credit unions are the only financials that aren't allowed, and this needs to be fixed." Kerecman said alternative capital reform could happen three ways – as part of deposit insurance reform; regulatory relief; or as free-standing legislation. He said he is hoping there will be a managers amendment presented before the Deposit Insurance Report Act of 2002 goes to the full House Financial Services Committee, as part of a "all-or-nothing" package of amendments. -

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