Credit unions bracing for a potential recession combined with the long-awaited implementation of a new accounting standard has caused loan-loss provisions to skyrocket.
Recently released data from the National Credit Union Administration showed the provision for loan and lease losses, or credit loss expense, rose by 337% year-over-year in the fourth quarter of 2022 to $5.3 billion.
By comparison, the provision declined by 86% to $1.2 billion in 2021..
Preparation for possible deterioration in asset quality is understandable given multiple Federal Reserve interest rate hikes and many economists' recession predictions, said Peter Duffy, managing director for Piper Sandler.
The recent failures of Silicon Valley Bank in California and Signature Bank in New York raised concerns about the financial system and
Credit unions are simply being prudent in the face of potential increases in delinquencies and charge-offs, he said.
"Coming out of an extended period of very high asset quality and very low charge offs, it's logical the credit unions are taking these steps," Duffy said.
Salal Credit Union in Seattle, for example, upped its provision to $5 million last year compared to $274,000 in 2021.
Russell Rosendal, the $1.3 billion-asset credit union's president and CEO, said in an interview that Salal has historically maintained its allowance for loan losses at levels higher than its peers, and in some cases much higher.
"We believe credit problems can hit financial institutions very quickly, and we want to be prepared for a slowing economy in 2023," Rosendal said.
Salal's net charge-offs for 2022 were only 0.15% of total loans, but Rosendal said the credit union's loan portfolio is growing, and with increased lending comes a need for a larger provision.
"We have a well-established program to work with members early if we see slowing payments," he said.
Delinquency numbers look good across the industry, so the bulking up of provisions is likely a sign of credit unions putting money away for a "rainy day," said Mark Treichel, a former NCUA executive director who now runs Credit Union Exam Solutions.
The delinquency rate at federally insured credit unions was 61 basis points in the fourth quarter of 2022, up 12 basis points compared with the fourth quarter of 2021. The net charge-off ratio was up 8 basis points compared with the previous year to 34 basis points.
"Also, earnings could be more strained in 2023 so it's better to get ahead of it," Treichel said.
Another factor at play is the Financial Accounting Standards Board's accounting standard on current expected credit loss, or
The rule, which was first finalized in 2016, requires banks and credit unions to
Deseret First Credit Union in West Valley City, Utah, raised its provision to $521,000 last year compared to $83,000 in 2021.
Shane London, president and CEO of the $991 million-asset Deseret First, said the increase is primarily due to CECL.
"We've run extremely low delinquencies and charge-offs over the past couple of years," London said. "Also things have been good for so long the [provision] amount needed has been historically low, and so an uptick was destined to happen."
Rosendal from Salal said CECL will cause "major changes" in many financial institutions' allowance and provisioning metrics.
Mike Higgins, partner at Mike Higgins & Associates, a firm that focuses on performance management in financial institutions, said he sees a lot of balance sheets each month as part of his consulting practice and that the higher provision for loan loss is due to strong
When loan balances grow, reserves must follow suit, Higgins said.
Credit unions tend to overestimate the amount of future losses, end up over-reserved, and when the losses don't materialize they either stop taking provision expenses for several quarters or do a reversing entry on the income statement, Higgins said.
He added that asset quality has been strong and is likely just reverting to the mean, but it is not elevated by historical standards right now.
"We'll have to check back in a few quarters to see what is going on with employment and the economy," Higgins said. "But the bottom line is when storm clouds appear on the horizon, [credit unions] err on the conservative side to build a reserve buffer."
