The NCUA recently issued an Accounting Alert (attached) addressing investments in annuities and limited partnerships that are purchased to pre-fund employee benefit plan obligations.
Our view is that the NCUA issued this Accounting Alert due to the significant growth in investments in life settlement funds and structured products that act like life settlement funds. We believe that these types of investments are on the NCUA’s radar and that every credit union considering an investment in one of these funds should be aware of this.
The Accounting Alert cautions credit unions (including state chartered, federally insured credit unions) to seek advice from both a qualified financial investment expert and an accounting professional as to how to account for investments in annuities and limited partnerships. Significant due diligence and documentation supporting your decision is a requirement if you are going to make these types of investments.
Based on my background as a Chartered Financial Analyst® (CFA®), and having worked on Wall Street for 30 years, a critical consideration is the anticipated return on these investments. Anytime you have higher return investments, you must pay attention to the associated risks. By definition, higher returns always entail higher risks. It is our view that understanding associated risks with high return investments need to be documented clearly in the credit union’s files.
The credit union must fully understand the product, any terms that may affect the accounting treatment, and if there is any ability to liquidate these investments or whether they are required to stay on the books until maturity.
According to the NCUA, some of those terms include:
- A premium bonus rider that appears to increase the accumulation value, but may be subject to reduction due to a premium bonus recapture, surrender charges or other policy features. These reductions may cause the fair value of the investment to be less than the purported accumulation value.
- A market adjustment rider that may affect cash flows and may be an embedded derivative.
- A partnership that invests in life settlements (purchases of life insurance policies) may offer a contribution (non-cash asset) from the general partner that adds value to the limited partner’s account. The stated value of this contribution may not reflect its fair value due to liquidity restrictions, transactions not conducted at arm’s length, or other reasons.
The bottom line is that the NCUA does not prohibit investments in these types of products but is warning credit unions to conduct appropriate due diligence before purchasing them. In connection with any investment, but particularly with more complex investments such as an annuity or a limited partnership, the credit union must:
- Fully investigate and understand all features of the investment; and
- Seek advice from both a qualified financial investment expert and accounting professional on the significant financial risks and accounting treatment of the investment.
And finally, it is critical to note that the NCUA’s approach may be different for each credit union based on the specific facts and circumstances, including materiality or safety and soundness risks.
In our opinion, this letter from the NCUA is a heads up to really pay attention to your due diligence process when considering these investments.
About the Author
BRUCE D. SMITH, CFA®
Partner & Senior Benefits Consultant
Bruce partners directly with credit unions to design and implement Supplemental Executive Retirement Plans (SERPs) that are durable, compliant, and built to perform over the long term. With more than four decades of financial services experience, he combines deep technical expertise in plan design with a client-first approach, ensuring that executives and boards can move forward with clarity and confidence.
Since 2014, Bruce and his team have implemented more than 200 split-dollar SERPs for credit unions and nonprofits, all of which are on track or exceeding their original performance projections.
