ALEXANDRIA, Va. – First NCUA issued a Risk Alert Letter to credit unions in June 2005 regarding the agency's concern with credit unions' use of third-party indirect lending vendors for subprime lending. Last month the NCUA went a step further and issued a Notice of Proposed Rulemaking to regulate purchases by federally insured credit unions of indirect vehicle loans serviced by third-parties. According to the NPR, “despite these NCUA supervision and insurance initiatives, the Board remains concerned that some credit unions engaging in these programs still do not undertake the requisite due diligence to understand and protect themselves from the risks inherent in these programs. In fact, some credit unions with significant concentrations in indirect, outsourced loans have indicated to NCUA their desire to fund new loans even though they have not yet completed the due diligence described in NCUA issuances.” It further explains that, “The Board believes the proposed rule is necessary to protect the National Credit Union Share Insurance Fund (NCUSIF) from the risks associated with this activity.” The deadline for the comment period on the NPR is Feb. 15. Limitations With Flexibility In its NPR, the NCUA proposes a two-step, regulatory concentration limit for indirect, outsourced programs. In step number one, for the first 30 months of a new relationship, 701.21(h)(1) “limits a credit union's interest in indirect vehicle loans serviced by any single third party to 50 percent of the credit union's net worth. This permits a credit union to enter and gain experience with a new indirect, outsourced vendor program.” In step number two, after 30 months of experience with the vendor's third party's program, the proposed rule allows a credit union to increase its interests in the vendor's program to 100% of the credit union's net worth. “Regardless of whether a credit union is at or below its concentration limit, all credit unions should conduct due diligence, both before entering into indirect, outsourced lending programs and on an on-going basis. Even at lesser concentration levels, these programs entail significant risk that can negatively affect net worth. All credit unions involved in these programs must be familiar with relevant regulatory limitations and guidance, including those documents referenced earlier in this preamble,” the NPR states. The NPR also includes a waiver provision for high limits in appropriate cases and indicates that NCUA will grandfather credit unions already above the limits. Those credit unions that are grandfathered would be allowed to request a waiver from their NCUA regional director. In addition, the NPR “is limited to loans made to finance vehicle purchases and the concentration limits do not apply to servicers that are federally-insured depository institutions or wholly-owned subsidiaries of federally-owned depository institutions,” that is CUSOs. According to NCUA, “the risks to credit unions associated with these servicers are mitigated because federal regulators have access to and oversight of these entities.” Unlike the earlier Risk Alert Letter, the more recent NPR doesn't specify subprime indirect lending. In fact, it states that, “The proposed concentration limits are not, however, limited to loans of any particular credit quality, such as prime, nonprime, or subprime loans,” adding that “Still, loan portfolios of lesser credit quality require greater due diligence, as described in the Risk Alert.” Centrix, NCUA Continue Dialogue Since June, CENTRIX Financial's John Frew, executive vice president, governmental affairs has been the lead negotiator for the company and has met with NCUA Executive Director Len Skiles over the past four months to discuss the agency's concerns and the various elements of the proposed rule. Frew said NCUA told him they were going to proceed with the rulemaking. “They've been totally honorable with us about their intention and been consistent with their process. We didn't know what the limitations were going to be, but we knew there were going to be some concentration limits,” he said, adding that, “If the NCUA determines greater scrutiny needs to be done of credit unions' indirect lending activities, then that's their business. Credit unions are regulated by the NCUA.” As for his reaction to the NCUA's NPR, Frew said it was “still too early to tell,” and that he hadn't personally heard or talked with any of CENTRIX's credit union clients about it, so he didn't know how they reacted to it. Frew said after his first review of the rules he thinks “it's a positive first step,” noting that he would prefer that the NPR's measurement should be against a credit union's assets, not its net worth. “We're going to see how credit unions react and what their interpretation is. This isn't just a one-party dance, everyone needs to feel comfortable with the rules of the business including credit unions, vendors, NCUA and state regulators,” Frew said. He added that, “The proposed rule reflects the conversations NCUA had with credit unions and third-party lenders. The agency has done a tremendous amount of homework, and the proposed rule is a balanced approach to credit unions and gives some guidelines for those engaged in third-party subprime indirect lending. Prior to this there were no rules, so this is a step in the right direction to establish those rules. It's hard to know what you can and can't do without the rules.” As for the NPR's effect on credit unions' indirect lending activity, Frew offered he didn't think it will slow their business down. If a credit union is just getting into indirect lending, Frew said they're probably not going to go past the 50% limit anyway. For those credit unions already involved in indirect lending, Frew said, “There are hundreds and thousands of credit unions that already fit into the limitations.” Referring to the affect of NCUA's earlier Risk Alert letter on CENTRIX's business, Frew said, “This has been a difficult six months for CENTRIX, and the economic impact has been significant. We're going to move carefully, in concert and collaboration with all of our partners and continue discussions with NCUA. You can't do this with your eyes closed. We were shut out of the game and the NCUA was kind enough to give us an audience. Once they saw we were willing to identify issues and jointly work them out, not once did we have a negative conversation with the NCUA, and the rulemaking is the result of that.” -

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