MADISON, Wis. – Winthrop Federal Credit Union is the first tosign on to CUNA Mutual Group's Capital Notes, a secondary capitaltool designed to boost regulatory capital for low-income designatedcredit unions. Developed in late 2003, Capital Notes aims to assisteligible credit unions that are growing faster than the capitalthey need to satisfy regulatory requirements. “Current law mandatesthat credit unions, unlike other financial institutions, must relyon retained earnings alone to build capital to satisfy regulatoryPrompt Corrective Action (PCA) requirements,” said Tom Merfeld,senior vice president of CUNA Mutual's Credit Union FinancialSolutions Group. “This puts most credit unions and ultimately theirmembers at a competitive disadvantage because it dampens the creditunion's growth potential.” Corporate and low-income credit unionsare the only exceptions, Merfeld said. Capital Notes will providetimely and much needed access to capital, said Joe Clark,president/CEO of $33 million Winthrop FCU, who added that theirbusiness plan calls for aggressive growth over the next five years.“Capital Notes will allow us to address the need for additionalregulatory capital to support our expected growth,” Clark said.Merfeld said Capital Notes will be for terms of least 10 years andwill be unrated, so credit union's wouldn't have to incur ratingexpenses. In a possible phase two of the rollout and “with greatervolume expectations,” credit unions would issue unrated, unsecurednotes into a trust and CUNA Mutual would then work with a ratingagency to issue rated notes. The higher rated notes – AAA and AA-could be purchased by corporates. CUNA Mutual would likely retainmuch of the unrated or riskiest piece of the total, he added. Thesecondary capital program is also being encouraged as a solutionfor credit unions considering conversion to mutual savings banks bycreating an instrument that addresses many of the concerns raisedabout alternate capital. “Namely, it ensures members' ownershiprights aren't compromised, and maintains the philosophicalintegrity of the credit union,” said Larry Blanchard, CUNA Mutualsenior vice president of corporate and legislative affairs. Sincelast year, more than two dozen credit unions have sought, or areseeking, bank charters, saying they are undercapitalized and thatconverting will allow them to raise much-needed capital. Othercredit unions have pursued expanded fields of membership, but arealso aware that aggressively recruiting new members may drag downtheir capital-to-assets ratio and raise the attention ofregulators. Several credit union trade associations and regulatoryagencies are working closely with Congress to address capitalissues, Blanchard said. NASCUS continues to work to raise awarenessof the secondary capital issue and is keeping an eye ondevelopments at the state level. In early 2001, CUNA's RenaissanceCommission identified access to alternative, or secondary, capitalas a must-do task for credit unions. NAFCU, the California CreditUnion League and several other state leagues continue to talk withCongress about secondary capital and the Filene Research Institutehas argued for changes in the rules governing credit union capitaland mechanisms credit unions could use to obtain secondary capital.By the end of August, the Government Accountability Office (GAO) isexpected to deliver a study on credit union capital that could beused by lawmakers to modify current legislation. For now, CapitalNotes is only available to low-income credit unions, which nowtotal nearly 1,000, Blanchard said. Section 701.34(a)(2) of theNCUA Rules and Regulations defines low-income credit unions ascredit unions in which a majority (50.1%) of members make less than80% of the average for all wage earners as established by theBureau of Labor Statistics, have an annual household income thatfalls at or below 80% of the median household income for the nationas established by the Census Bureau, or are enrolled as full-timeor part-time students in a college, university, vocational, or highschool. Contract language for Capital Notes specifically indicatesthat debt is subordinated and does not impact members' cooperativeownership of the credit union, Merfeld said. It also avoidspotential abuses in sales to unsophisticated investors, becausesales of the notes are limited to institutional investors and notconsumers. CUNA Mutual purchases the note for its own investmentportfolio. “CUNA Mutual is working with several other healthy,fast-growing credit unions that are interested in this instrumentand are already legally eligible for secondary capital. We applaudWinthrop Federal Credit Union and Joe Clark for being earlypartners with us in our pilot,” Blanchard [email protected]