Rising employee benefit costs are posing profitability problems for credit unions. Credit unions need to keep good employees and generate profits to remain viable in the long term. A little known and even less understood concept referred to by NCUA as Employee Benefit Obligation (EBO) Pre-Funding, provides credit unions the opportunity to significantly improve investment earnings that will help offset credit unions’ rising staffing or EBO costs.A credit union may pre-fund specific EBO employee benefit obligations (present benefit costs and estimated future benefit costs) by re-directing a percentage of excess liquidity to offset benefit expenses. Pre-funding of EBO investment options may be less restrictive under NCUA code section 701.19(c) versus traditional investment regulations under NCUA code section 703.According to NCUA (as determined by USC (29 USC 1002), the definition of employee benefits that a Credit Union may offset thru investments under code section 701.19 includes: a plan, fund or program established or maintained for the purpose of providing for its participants or their beneficiaries employee benefits such as medical, hospital, accident, disability, death, unemployment, vacation, education, day care, scholarships, prepaid legal, and more.For clarification, Employee Benefit Pre-Funding Investment strategies can help offset the following employee benefit obligations (EBO’s):Health care expenses including post-retirement benefits401(k) matching contributionsLong & Short Term Disability premiumsGroup Life and AD&D insurance premiumsDental & Vision premiums457(f)Non-Qualified Deferred CompensationHealth Savings Account contributionsOther employee benefits including education, day care, pre-paid legal, vacation, and scholarships.The pre-funding of EBO’s assures employees that promised benefits will be there when needed. Once current and future EBO expenses are calculated, a significant portion of a credit union’s tier one capital or net worth may be redirected to investments offering potentially higher yields.NCUA code section 701.19(c) investment authority allows a federal credit union to purchase an investment that would otherwise be impermissible if the investment is directly related to the credit union’s obligation or potential obligation under the employee benefit plan. Note: state credit unions are not left out provided they have or apply for and receive ‘federal parity’.What are the ‘expanded’ investment vehicle types available to credit unions to help off-set rising EBO expenses per NCUA code section 701.19(c)? All of NCUA 703 Traditional Investments plus the following active & passively managed accounts are available for EBO prefunding:Equities & BondsMutual Funds & ETF’sSplit-dollar, Key Person & (COLI) Corporate Owned Life InsuranceVariable & Fixed AnnuitiesOf the expanded investment options now available, fixed annuities that include a 100% ‘return of principal’ provision are considered to be very conservative investment vehicles and similar to traditional FDIC/NCUA backed savings accounts and treasuries. Annuities are insurance products and can only be issued by insurance companies which like banks and credit unions, are carefully regulated by state insurance commissioners and monitored by state insurance regulators.Using fixed annuities in an EBO investment strategy, a credit union may boost investment income by as much as 60% depending on invested amounts (allocated per regulatory limits). A ‘laddered’ EBO fixed annuity investment strategy similar to credit unions’ CD or bond ladders should be considered. The laddering or staggering of fixed annuity investment contract maturity dates, from say – 3 to 7 years, allows a credit union to control liquidity and interest rate risk while earning a higher overall portfolio rate of return.In addition to higher investment yields than their CD cousins, fixed annuities offer much greater liquidity. The standard annuity liquidity contract options include a 10% to 15% annual withdrawal privilege without incurring penalties.The implementation of an EBO pre-funding investment program can improve a credit unions’ profitability in the following critical ways:Improve investment yieldFurther diversify investment portfoliosImprove capital ratioReduce concentration riskAs with all earnings and investment strategies, an EBO pre-funding program must be implemented in conjunction with a systematic and comprehensive Asset/Liability Management (A/LM) program that manages the following risk categories as defined by NCUA: Interest, Liquidity, Compliance, Credit, Transactional, Strategic and Reputational Risk. Whether a credit union is actively investing under EBO rules and regulations or is only in the planning stages, experienced guidance is recommended.Credit union executives should be using A/LM models that establish (IRR) interest rate risk limits that are empirically linked to its current financial condition. For those utilizing EBO pre-funding strategies, these tools are required to manage EBO investments and measure their current and future impact on IRR.An EBO pre-funding program should be integrated with comprehensive liquidity management. A liquidity shock modeling tool should be used to provide the following reports:Balance Sheet Cushion Measurement and MonitoringContingent Liquidity Measurement and MonitoringModeling of EBO Investments Impact on LiquidityModeling of Anticipated Liquidity NeedsNaturally, NCUA will be watching credit unions that engage in EBO pre-funding investment programs to ensure they:Create policies that meet regulatory expectationsSet appropriate EBO Funding Guidelines & LimitsImplement monitoring tools to support an EBO Pre-Funding ProgramFor these reasons, credit unions need to either create their own effective risk management tools or contract an experienced consulting firm that specializes in risk management services before implementing an EBO pre-funding investment program.When used as prescribed by regulations, EBO prefunding improves a credit union’s profitability and is a prudent investment strategy that is adopted and approved by NCUA. 28SHARESShareShareSharePrintMailGooglePinterestDiggRedditStumbleuponDeliciousBufferTumblr,Dennis Child Dennis Child is a 40 year veteran credit union CEO recently retired. He has been associated with TCT for 25 years. Today, Dennis enjoys providing solutions and training for credit … Web: tctconsult.com Details
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