WASHINGTON – While CUNA is supporting a proposed lender risk rating system from the Small Business Administration, the trade group has recommended several changes that would help with credit union peer comparisons.

SBA has proposed an internal tool to assist the agency in assessing the risk of each active 7(a) lender and 504 or certified development company's SBA loan operations and loan portfolio. The agency would assign each lender a composite rating based on certain portfolio performance factors, which may be overridden in certain cases. In a July 13 comment letter, CUNA Senior Regulatory Counsel Catherine Orr wrote SBA should be careful “there is no appearance of impropriety or favoritism” in cases where factors might be overridden.

One of the main concerns CUNA has is with the rating components, which would be used to measure an individual lender's overall loan performance, Orr said. The problem loan rate would be used to show current delinquencies and liquidation and predict potential future purchases by SBA. The problem loan rate would be calculated by dividing total gross outstanding dollars of a lender's loans that are 90 days or more delinquent plus gross dollars in liquidation, excluding purchases of active loans (numerator), by the total gross dollars outstanding (denominator). CUNA said the delinquency calculation can be skewed when compared to other financial institutions. If a lender uses SBA guarantee programs “liberally,” that lender would most likely have a lower delinquency rate on their SBA portfolio than a lender that used the guarantee programs more judiciously, Orr wrote.

“In our view, the second lender does not necessarily represent a greater risk to the SBA if they are able to manage their portfolio to an acceptable level of actual losses,” Orr said. “In this case, the lender would essentially be penalized for their decision to use the SBA's programs when it is truly appropriate and necessary for the small business to get the credit.”

CUNA said the term “total gross outstanding dollars that are 90 or more days delinquent” should be revised to clarify that it refers only to the lender's SBA loans.

Another issue involving the rating component is SBA's use of credit scores to come up with the Small Business Predictive Score, a portfolio management credit score based upon a borrower's business credit report and principal's consumer credit report, and the Projected Purchase Rate, a 12-month projection of future performance based on the most current credit data on a borrower's payment history. CUNA said because credit scores for businesses “are still evolving” they may not be “sufficiently robust” to be used as part of a third party's scrutiny of a lender's portfolio.

“We understand that some SBA lenders still have a `no-hit' ratio of approximately 50% for their applicants,” Orr said. “We also understand that some SBA lenders have noticed errors in the reporting that affect the credit scores. Issues with credit scores can be addressed by the lender during the underwriting process, but that information would not be available to the SBA.”

CUNA said it understands that credit scores are a part of the underwriting but not the sole factor in the decision, “[yet] the SBA is proposing to use credit scores to derive two of the four factors that will comprise a lender's ranking.”

Overall, SBA's proposed system places an “overemphasis” on purchase metrics, CUNA offered.

“It seems deficient on the origination side,” Orr wrote. “Traditionally, it takes a commercial loan one to three years to go bad. In the case of SBA loans, this results in purchase. If the rating system emphasizes purchase rates, it is reactively dealing with after-the-fact data instead of proactively prevent- ing defaults.”

Other issues CUNA has with the rating system are lack of clarity on how SBA would combine the common rating components and peer comparison to derive an individual lender's composite rating score. For example, would one rating factor be weighted more than the others, Orr inquired. Also, the system does not appear to take into account the differences between seasoned and new lenders, considering the influx of the latter over the past two years. CUNA is also urging that the new system would take into account geographical or regional differences. For those lenders who improve their composite rating or have a strong rating, the trade group suggests SBA speeding up their approval process. In some cases, the composite rating may be overridden due to lender specific factors that may be indicative of a higher or lower level of risk under SBA's proposal. CUNA urged the agency to be careful here.

“It is important to provide for flexibility for a lender's composite rating to be adjusted (overridden) in appropriate situations, but the agency should make the process as objective as possible so there is no appearance of impropriety or favoritism,” Orr wrote. SBA lenders would have access to their own ratings through its Lender Portal, but CUNA recommended that lenders be able to see historical data not just the current quarter's data. Lenders would be responsible for ensuring information in the portal is correct and any data changes provided to credit bureaus must be reported by the borrower directly to Dunn & Bradstreet or Trans Union.

Given the newness of the system, CUNA suggested SBA conduct a test period to be sure the composite ratings comport with what audits have found as well as whether the rating factors are the best measures.

“The SBA could select various types of lenders (such as new and seasoned, large and small portfolio lenders) as `beta' lenders to see how this rating and system complies before it is fully implemented as a `test' stage for all SBA lenders,” Orr wrote. “We feel a testing period would help limit any potential confusion accompanying implementation of the new rating system.” [email protected]