Credit Unions Turn to One Another to Fund Loan Demand

John Parks, Primary Financial
November 6, 2006

Credit union loan growth remains strong, a trend that is expected to continue through most of 2007. However, credit unions are having trouble growing share deposits from their members and the market conditions creating this shortfall are not expected to change.

So what other options do credit unions have when it comes to funding new loan growth?

One option is a line of credit with their corporate, but this may not be the solution long term. Many credit unions are looking for alternative funding methods ranging from raising rates to attract new members, to borrowing from their corporate or using advances from the Federal Home Loan Bank. But some credit unions are looking to fund new loans by issuing CDs with one another.

Issuing CDs to Non-Members

NCUA’s regulation 701.32 states that a federally charted credit union may take up to 20 percent of its total shares (or $1.5 million, whichever is greater) in non-member deposits. Many state-chartered credit unions follow federal guidelines, but this can vary from state to state. (State-chartered credit unions should check with their state examiners to verify that they are allowed to take deposits from other credit unions and to determine whether there are restrictions that need to be followed.)

But whether federally chartered or state-chartered, one thing is clear: Credit unions are taking advantage of this ability to accept non-member deposits. According to Callahan & Associates, from March 2004 through June 2006, the number of credit unions taking non-member deposits increased by 65 percent and deposits increased by 82 percent. This growth can be attributed to the ease with which a credit union can issue certificates to non-members. As long as credit unions comply with federal and state regulations, all that is really required is to have policies and procedures in place for this type of funding method. However, for most credit unions, issuing CDs to non-members themselves can be time-consuming unless a broker is employed. So, in addition to employing proper funds management policies, it is also recommended that a credit union perform adequate due diligence when assessing both deposit brokers and brokered deposits.

Finding Funding Sources

There are several ways to attract funds from other credit unions, but many credit unions go through their corporate's CUSO. Smaller amounts of funds may be raised through connections made at chapter meetings. Or, another source for deposits is rate boards. A rate board is a service that allows credit unions to post rates to a website for a fee. These rates are then shown to other credit unions that subscribe to the rate board. From there, other credit unions looking to invest will be given contact information for your credit union.

Brokers can be another way of gathering these deposits. The broker can work in two different capacities. The first is to charge a fee to refer one credit union to another – from there, the credit unions work together directly. The other way a broker can be used is in a custodial capacity. In a custodial capacity, the broker will be the agent for the investing credit union and the issuing credit union will only have to work with one source. This is the method the corporate network uses.

Benefits of Using a Custodian for CD Issuance to Non-Members

• Increasing the bottom line by adding an additional funding alternative
• Accessing a larger market of investors
• Offering deposits at cheaper rates than when a credit union solicits rates nationally through rate services
• Saving operational costs by having one central contact (the custodian) instead of many
• Accepting larger pieces of funding saves time and resources over offering multiple smaller pieces to members
• Pooling many credit union deposits, making one large CD and eliminating the extra operational work of setting up individual $100,000 CDs
• Having a single contact that will work with the individual credit union investors and typically take care of any wiring of funds and dividend collection

The good news in all of this is that a credit union can help fund loan demand and still be able to keep this funding within the credit union movement. Keep in mind that any time a broker is used, it’s important to complete proper due diligence and ensure that the broker is either registered with NASD or is under the oversight of a government regulatory agency. The NCUA requires that credit unions update broker due diligence on an annual basis. Credit unions using a custodian should consider getting a SAS-70 from the broker to ensure that proper procedures are in place.

John Parks is associate vice president of institutional funding for Primary Financial, a CUSO owned by 28 corporates and U.S. Central. He can be reached at 800-639-0339 or jparks@epfc.com.