After a decade of declines, could credit union failures pick up in 2019?
Credit union failures aren’t likely to end any time soon.
The health of the industry has significantly improved since the financial crisis. In the third quarter, loans reached $1 trillion, delinquency rates fell and earnings increased by 30 percent from a year earlier, according to data from the National Credit Union Administration.
But despite these positive trends, a handful of credit unions continue to fail year each and that will continue in 2019, industry observers said. Fraud continues to plague some institutions while other credit unions still struggle with finding good loans to boost profitability.
“We are always hopeful that we won’t run into any failures,” said Curt Long, chief economist at the National Association of Federally-Insured Credit Unions. “But I do think we have to recognize there are a lot of small credit unions out there dealing with regulatory burden and other issues. There are a lot of different stresses from a lot of different areas.”
Eight credit unions failed in 2018, according to NCUA. Although that’s down from 2017, it still lags behind the banking industry. Banking regulators haven’t closed an institution in more than a year.
An important factor is the size of these institutions. Credit unions tend to be much smaller than their banking counterparts, said Steven Reider, president of the consulting firm Bancography. There are more than 1,400 credit unions with less than $10 million in assets compared with just two banks in that size range, according to data from NCUA and the Federal Deposit Insurance Corp.
Credit unions face a list of daunting of tasks from trying to diversify loan portfolios to spending money on technology upgrades. All of that is exacerbated if an institution is tiny.
“The scale of economies has a significant role,” Reider said. “Small for banks is $100 million. There are credit unions with less than $1 million in assets and for an institution of that size or scope, it’s pretty easy to find yourself in financial peril.”
Many credit unions that fail do so because they struggle generating loan volume rather than issues with liquidity, said Mike Schenk, chief economist at the Credit Union National Association. For instance, credit unions with less than $10 million in assets saw a 3 percent drop in loans while membership declined by 9 percent in the third quarter from a year earlier, according to NCUA data.
That forces them rely more on investment income, which may have a yield close to zero, he added.
Having a narrow field of membership can also be problematic. That can be especially acute if the institution serves a particular business that is struggling itself. For instance, there used to be more than two dozen credit unions that worked with employees of Sears, but their ranks shrank as the retail giant struggled with profitability. The last one merged with another institution in November.
“Globalization has put a significant dent in some membership fields,” Schenk said. “In the current environment we are hearing about the potential for closures of manufacturing plants. There are certainly people who serve those fields of membership and they will be challenged for that.”
Fraud also plays a role in credit union failures. Wrongdoing contributed to three of the failures in 2017, costing the share insurance fund $23.2 million, according to NCUA’s 2017 annual report.
Small institutions may lack the manpower or resources to put in place the controls needed to prevent embezzlement or other financial crimes, experts said. The scheme could be as simple as an employee taking money out of the till and falsifying records, said Luis Dopico, an economist at the Filene Research Institute who has studied credit union and bank failures.
“Someone might be taking advantage of others goodwill,” Dopico said. “There is an assumption that everyone is there for the right reasons.”
Internal fraud helped bring down the $55 million-asset Riverdale Credit Union in Selma, Ala., in December 2017, said Mark Rosa, president and CEO of Jefferson Financial Federal Credit Union in Metairie, La. The $943 million-asset Jefferson assumed the loans, membership, shares and most other assets of Riverdale.
Although taking on an institution that had internal problems is always a concern, management at Jefferson felt confident in the move. Regulators had cleaned up Riverdale’s operations after putting it into conservatorship before it eventually failed, Rosa said.
More failures – probably in line with the number seen over the last few years – are expected to happen in 2019, but that could spike if the country is hit by a recession. Institutions that assume failed institutions usually do so as a way to expand their own operations and also ensure that members still have a credit union to call home.
“Members need a credit union in Selma and now we are it,” Rosa said of Jefferson’s taking on Riverdale. “A banking environment isn’t the best for the low-income people we serve.”
ELGA Credit Union expanded into Saginaw, Mich., by assuming the members, assets loans and shares of the failed Valley State Credit Union in March 2017. It was the first failed institution that the $656 million-asset ELGA had taken over so management took time to complete thorough due diligence on the $20 million-asset Valley State’s loan portfolio, said Karen Church, CEO of ELGA in Burton, Mich.
“We are always open to expansion, especially in areas that we would like to be and especially when members could use our help,” Church said.
Teachers Federal Credit Union in Hauppauge, N.Y., has assumed a few failed institutions over the years, including Melrose Credit Union in Briarwood, N.Y., in August. That deal instantly added roughly $1 billion in assets and 20,000 members to Teachers.
“Teachers Federal was started in 1952 and it took us 49 and a half years to get to $1 billion,” said Robert Allen, president and CEO. “We grew by $1 billion in one day.”
Still, the $7.3 billion-asset Teachers has also taken on smaller institutions not because of the strategic significance but to promote the credit union cause. In August, an institution with just $641,000 in assets and 110 members voluntarily merged into Teachers.
“Keeping credit union membership thriving [is important],” Allen said. “A credit union of our size is able to offer more. You can potentially keep them in credit unions and maybe they tell their coworkers and families about you.”