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ALEXANDRIA, Va. – Despite its use of strong language in its Risk Alert No. 05-RISK-01 issued June 10 concerning “Specialized Lending Activities – Third-Party Subprime Indirect Lending and Participations” – even describing stiff penalties for compliance failure – the NCUA insists the issue that has raised its level of concern is not necessarily the increase in credit unions’ involvement with indirect lending or even subprime indirect lending. Rather NCUA’s focus is on CUs’ relationships with third-party vendors for this product and their possible lack of due diligence and implementation of effective controls and monitoring systems. NCUA Board member Debbie Matz told Credit Union Times the agency’s examiners “have raised red flags when they’ve examined credit unions doing this kind of indirect lending.” Matz also pointed to the increasing number of credit unions involved with indirect lending – an estimated 1,500 CUs, and on average their indirect lending portfolio accounts for 133% of their net worth. “So if they’re filling their portfolio with high risk loans, then that puts the credit union in jeopardy if those members default on the loans,” said Matz. She added that, “If a credit union is doing subprime indirect lending on their own and monitoring it, that’s find. It’s the vendor relationship that this risk alert focuses on.” In the Risk Alert signed by both NCUA Chairman JoAnn Johnson and Matz, they wrote that, “Subprime lending is an activity that, if properly implemented and controlled, can be an acceptable segment of your lending portfolio in meeting your members’ needs. Still, if your credit union engages in subprime lending or purchases participations in such loans, adequate due diligence and control measures are required. Your control measures increase in importance if your credit union allows a third-party vendor to perform activities related to subprime auto loan underwriting, servicing, repossession, or insurance processing.” Matz said NCUA has no estimate how many credit unions doing subprime indirect lending are working with third-party vendors, but the NCUA Board member said examiners will be contacting every credit union involved with the product, and “will be talking further with those doing it with third-party vendors to see if they’re responding to our alert.” Why is NCUA so concerned about these credit unions? “They’re promised a pot of gold at the end of the rainbow by these vendors and it appears to be easy and low risk and low cost. So the credit union thinks why not offer it, without being fully aware of the ramifications. They see their colleagues doing it and assume they’ve their due diligence, so why not do it themselves,” explains Matz. “In order for us as a federal regulator to be effective, we need to work with the credit unions because we don’t regulate the vendors,” she adds. “Our suspicions are that if credit unions ask their third-party vendors questions, either the vendors won’t answer them or their answers won’t be adequate to meet our standards,” Matz told Credit Union Times. As stated in the Risk Alert, “failure to implement effective controls and monitoring systems will result in frequent supervision contacts and may result in a CAMEL downgrade and other appropriate administrative action.” The NCUA Board further advised FICUs that “Adoption of any third-party’s subprime underwriting criteria without careful and comprehensive evaluation is unsafe and unsound. For federal credit unions, this is a violation of the board’s responsibility under 113 of the Federal Credit Union Act to establish lending policies and internal controls. For all federally-insured credit unions, this is an unsafe and unsound practice subject to possible NCUA action under 206 of the Act.” All lending programs, says NCUA including subprime, depend on adequate policies, procedures, and practices. “You should analyze the vendor’s program to ensure you understand how the loan application, underwriting, servicing, and collections processes work. You should also monitor the program on an ongoing basis to ensure the vendor is executing the program as described,” the agency stated in the Risk Alert. It also reminds credit unions that “sound business practice requires you not permit third-party servicers unlimited authority to alter loan terms,” and notes that “some credit unions have entered into outsourced servicing agreements that give a third-party servicer virtually unlimited authority to change due dates, grant payment deferrals, grant loan extensions, and enter into settlements, without notifying the credit union in advance or obtaining the credit union’s prior approval. “For federal credit unions, permitting third-party servicers to make such alterations without any limitations violates 113 of the Act. For all federally-insured credit unions, this is an unsafe and unsound practice subject to possible NCUA action under 206 of the Act.” NAFCU Director of Regulatory Affairs Gwen Baker said that the trade association strongly supports subprime indirect lending because it “helps those of lesser income who would otherwise have to find alternative means of transportation.” Baker went on to say however that NAFCU strongly supports NCUA’s Risk Alert and the agency’s “suggestions that no loans be made which would affect the safety and soundness of a credit union.” -

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