LOAN PARTICIPATION – DOES YOUR CREDIT UNION “PARTICIPATE”?
In recent times, businesses have had to get creative in a number of ways to stay afloat. Even before the global pandemic, deviceful programs designed to maintain revenue flow and provide uninterrupted member services were gaining popularity among financial institutions. Loan participation allows many credit unions to generate maximum returns, offer more flexible lending options, and maintain a high loan growth with room for more originations. This is an otherwise impossible scenario for smaller credit unions. So, let’s investigate credit union participation loans.
WHAT IS LOAN PARTICIPATION?
In a loan participation agreement, the originating lender sells or “participates” interest in a loan to multiple lenders who agree to fund it together. The NCUA Code of Federal Regulations defines a participation loan as “… where one or more eligible organizations participates pursuant to a written agreement with the originating lender.” Participants share the associated dividends and risk exposure, making the program an attractive lending option.
This process is similar to loan syndication, which involves a group of loans with joint involvement. Loan syndications are common for a massively large sum so that one financial institution doesn’t endure the significant risks alone. The main differences between the two are the role of the lenders, how the loan itself is structured, and how the accounting works. In syndication, all the lenders are equally involved in the origination and servicing of the loan, and all parties have knowledge of the others involved. In participation, there is only one loan and one originator, and the borrower may never be aware that the loan is funded by more than one lender. Each type of arrangement has merit in its own purpose.
BENEFITS OF A LOAN PARTICIPATION AGREEMENT
Availability of larger loans, increased commercial lending opportunities, risk reduction, better budget management, and interest-driven income are some enticements of a loan participation collaboration. Credit unions that buy into participation loans find benefit from sharing in profits, circumventing growth problems during a slow market, and diversifying assets. With all these positive returns, why wouldn’t a credit union go this route? Well, in the past it was somewhat more difficult to maneuver. Time-consuming due diligence had to be performed prior to beginning the arduous task of negotiating the agreement, all before the actual transaction could be completed. Today, advancements in the SaaS field make this effort much easier.
SAAS LOAN PARTICIPATION PRODUCTS
Loan participation systems and expertise have improved with new SaaS (Software-as-a-Service) products capable of automating loan monitoring and management. Especially as smaller credit unions have limited resources, online platforms like Loan Participation Exchange and LoanStreet (that work with credit unions in certain states or nationwide) can offer more affordable access to loan partnerships. These centralized and transparent solutions can match sellers and buyers to each other, provide reporting and analysis throughout the process, ensure regulatory compliance, and effectively streamline what was traditionally a burdensome practice. Some online platforms are designed specifically for loan participation use, and others have all-in-one loan model capabilities that include loan participation modules (Flex, Symitar).
CUSOs CAN PROVIDE VALUE
In a 2019 CU Times article, CUSOs were starting to become more involved as loan participation funders. The article states, “CUSO also serves as a “one-stop-shop” for buyers and sellers, leveraging their specialized expertise at every step of the deal, including lead lender pre-screening, borrower due diligence, participation loan servicing and even assisting in workout situations. Most importantly, tapping a CUSO-vetted network of motivated buyers and sellers introduces a sea of opportunity and establishes a higher level of trust.” Further, CUSOs provide independent, unbiased involvement; many that specialize in commercial lending have experience and network resources that some credit unions won’t have.
IS IT A GOOD OPTION FOR YOU?
In today’s world, supply must keep up with demand—in this case, capital being the commodity demanded. If credit unions feel pressure to grant loans and diversify members’ investments beyond caution, loan participation can minimize risk and improve workflow conditions. In particular, although a credit union may be able to originate the loan and serve as the facilitator of the transaction, one with a smaller staff may not be able to handle the administrative activity. As long as the loan participation meets members’ needs in step with the institution’s requirements, it can be a very good move. However, a credit union should always perform a risk assessment as part of due diligence before considering such a venture. NCUA specifies that regulatory provision 701.22(d) “…emphasizes the need for adequate documentation and due diligence from before the time of purchase throughout the life of the loan” as part of minimum requirements for such an agreement.” In fact, NCUA examiners are making the evaluation of CU risk assessments and record-keeping verification for loan participation programs a supervisory priority in 2022.
SUMMARY
Loan participation agreements can be lucrative alternatives to traditional financing options. A well-drafted agreement is paramount to a successful endeavor for all parties involved. It should include precise language pertaining to the event of a borrower’s default, as that is usually the occurrence of friction among participants. Extensive due diligence and loan duration oversight are critical elements to the outcome of a loan participation program.
New lending opportunities for credit unions will continue to evolve. Credit unions want to position themselves for success, and programs like loan participation can do just that. Sharing the benefits and liabilities with other financial institutions through participation loans can open doors to continued membership growth, new financial products, wider revenue sources, and larger business opportunities. In an unpredictable environment, camaraderie among credit unions is a positive step.
Regardless of how your credit union does consumer lending, remember to always use Oak Tree Business Systems forms & documents for your credit union!
