A Labor of Love: Serving the Underserved
Written by André Cotten, Regulatory Compliance Counsel, NAFCU
One of the things I admire most about credit unions is their cooperative nature. People helping people. Fortunately for me, the service-orientated nature of credit unions strongly aligns with my personal passion for economically empowering underserved communities. Recently, I watched a webinar discussing the use of secondary capital to drive financial and community impact. The webinar was hosted by the National Federation of Community Development Credit Unions (“Federation”), a credit union trade association that specifically serves credit unions dedicated to the lower-income consumer market.
Although the actual content of the webinar was more of a business case analysis, it did spark my interest in exploring the regulatory implications of helping underserved communities. This blog highlights a couple of ways credit unions may be able to reach unbanked or underbanked consumers.
Background
In general, all credit unions would like to grow. According to the Federation’s webinar, there are roughly 67 million people who are either unbanked or underbanked. To put this into perspective, that is roughly 20% of the U.S. population. As a natural result, underserved consumers are also more likely to be credit invisible or credit challenged.
From a federal regulatory perspective, the Federal Credit Union Act, which governs the NCUA and federally insured credit unions, expects the credit union system to meet “…the credit and savings needs of consumers, especially persons of modest means.” Of course, NCUA’s primary focus is on ensuring the safety and soundness of the credit union system. However, NCUA has developed initiatives to facilitate credit unions more effectively serving their memberships, especially those in underserved areas.
Low-Income Designation
The low-income designation (“LID”) is a classification for credit unions that meet certain membership criteria. A federal credit union qualifies for a LID when a majority of its membership (50% plus one member) qualifies as low-income members. Note, NCUA has a very technical definition of “low-income members.” The regulatory definition includes members with a family income of 80% or less than the median family income for the metropolitan area where they live or national metropolitan area, whichever is greater. For the full definition, refer to Section 701.34.
A LID comes with numerous benefits: the ability to accept secondary capital; a MBL exemption; and the ability to accept nonmember deposits. LID credit unions also have access to NCUA grants and low-interest loans and consulting services from NCUA’s Office of Credit Union Resources and Expansion.
One of the shining jewels of a LID credit union is the ability to access secondary capital. From a high-level perspective, secondary capital is a subordinated loan that is treated as equity for regulatory purposes. Section 701.34 also has specific instructions regarding secondary capital. A LID credit union must first adopt and forward to NCUA for approval, a written “Secondary Capital Plan.” The regulation details the baseline content for this plan. If the credit union does not receive a decision within 45 days, NCUA does allow the LID credit union to proceed with accepting secondary capital. NCUA also states that the secondary capital must be held in “an uninsured secondary capital account or other form of non-share account.” Note that in the event of liquidation, a secondary capital account investor’s claim against the credit union must also be subordinate to all other claims, including shareholders, creditors and the NCUSIF. For the full set of requirements, including accounting treatment, refer to Section 701.34.
According to the Federation’s webinar, credit unions that serve a lower-income target market tend to have higher operating and provision expenses. However, successful LID credit unions have significantly higher average loan yields and fee income. Typically, LID credit unions generate higher return on assets than their non-designated credit union peer group.
Now, I know you are wondering where to sign your credit union up to become a LID credit union. I am glad you asked. NCUA periodically evaluates federal credit unions during regulatory examinations for eligibility to become a LID credit union. NCUA’s Office of Consumer Financial Protection will notify credit unions that qualify. For federally insured state-chartered credit unions, the state supervisory authority will determine the designation in compliance with State, then Federal, regulations.
However, there is another option. A federal credit union that does not receive a qualification notice from NCUA but believes it qualifies may submit its information to demonstrate its eligibility. Yes, Section 701.34 also has a detailed discussion about how a credit union may demonstrate its eligibility. For example, the credit union may provide actual member income from a statistically valid sampling of loan applications or surveys to demonstrate a majority of their membership is low-income. The Office of Consumer Financial Protection will notify the credit union of its decision.
As an added benefit, many LID credit unions are also likely to qualify for the U.S. Treasury’s Community Development Financial Institution (CDFI) designation. This designation provides additional benefits ranging from CDFI grant dollars for capital and loan loss reserves to a New Market Tax Credit program designed to encourage investments into operating businesses and real estate projects located in low-income communities. For additional info, please see CDFI Fund.
On a separate but related note, Freddie Mac and Fannie Mae, pursuant to FHFA requirements, have developed “Duty to Serve Underserved Markets Plans” that reflect a continuation of their efforts to facilitate the financing of housing for very low-, low- and moderate-income families. The multi-pronged plans of action include: providing new product flexibilities to facilitate the origination of mortgages secured by manufactured home; begin purchasing chattel loans; and working with organizations that are deeply knowledgeable about these markets, including credit unions. For additional details, please see NAFCU’s 2016 comment letter, 2017 comment letter, Regulatory Alert, and Final Rule Summary.
Here are some additional resources related to NCUA’s Low-Income Designation:
NCUA’s Low-Income Designation Quick Facts
Resources and Expansion: Low-Income Designation
Maximizing the Low-Income Designation
Low-Income Designation Fact Sheet
Resources and Expansion: Grants
Expanding Into Investment Areas
Wait, that’s not it! Even if your credit union cannot qualify as a LID credit union, NCUA still has an option that may suit you. Any federal credit union with a multiple common bond field of membership may include in their field of membership, without regard to location, communities satisfying the definition for serving underserved areas. These communities must be located within what is known as an “Investment Area” as defined in Section 103(16) of the Community Development Banking and Financial Institutions (SDFI) Act of 1994. Note, Chapter 3, Part 3 of NCUA Chartering Manual details the seven criteria’s included in an Investment area.
NCUA’s landing page for serving underserved communities also provides instructions for finding investment areas in the United States.
Instructions to use the CDFI website
After locating an investment area, if your credit union is interested in applying, then the credit union will need to assemble and send an application package to NCUA. NCUA also includes a Sample Letter to NCUA and instructs credit unions to include the map and worksheet they obtain from the CDFI website. Credit unions will also need to include a business plan in their application. NCUA provides a Guideline for a Business Plan to help credit unions create a plan. For further guidance, interested credit unions may want to contact Office of Consumer Financial Protection.
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At this point, I know your little, community loving, credit union heart is full of joy and excitement. It’s great to know that NCUA has great tools and resources to assist credit unions who want to help underserved communities. It also exciting to know that helping these communities also helps the credit union to thrive and prosper. It’s always better when we grow together.
Have a great Labor Day Weekend to all of you hardworking, credit union professionals!
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Programming Note. In honor of Labor Day, NAFCU’s offices will close at noon today, Friday, August 31st and reopen on Tuesday, September 4th.
