Your net worth ratio depends on how you define total assets

Man looking at charts

Stop me if you’ve heard this one.

It’s last day of the month. It’s also a Friday. AND it’s a payday for a major credit union sponsor group. Although many of those deposits will leave in the next few days, today—the day we use for Call Report filing—our deposits (and therefore assets) are way up. This means our net worth ratio will be down.

Or maybe you’ve experienced the following.

A well-meaning member lets you know that she’ll be depositing a cool $2 million into the credit union for a few weeks. But those few weeks happen to straddle a quarter end. Your assets are going to be inflated when you file your Call Report. Your net worth ratio will experience a wild swing downward.

As it turns out, NCUA has prepared for this beforehand. It allows for three alternative methods of calculating total assets for the purpose of net worth ratio calculation.

The four methods are:

  • Total assets as of the date of the quarter end (Call Report account 010)
  • Average daily assets over the calendar quarter (Call Report account 10A)
  • Average of the three month-end balances over the calendar quarter (Call Report account 10B)
  • Average of the current and three preceding calendar quarter-end balances (Call Report account 10C)

Unsurprisingly, these four options can produce quite different net worth ratios.

To illustrate this, I ran a year-long simulation for a credit union with $85 million in assets with roughly 9% asset growth in the year, a $2 million deposit the last day of the year, and an ROA of 0.50%. The credit union started the year with 7.50% net worth ratio (using the usual definition of total assets). At the end of the year, the credit union’s net worth ratio was as follows, calculated each of the four ways:

Asset definition usedNet worth ratio
Quarter-end balance6.86%
Daily assets over calendar quarter7.08%
Average of the three-month end balances over the calendar quarter7.00%
Average of the current and three preceding calendar quarter-end balances.      7.31%

As you can see, this credit union can obtain a more favorable net worth ratio by using any definition of assets other than the balance at the end of the year.

The spreadsheet in which I did this simulation is available here (contact me if you’d like me to talk you through it).

It should be noted that a credit union can elect a different definition of total assets every quarter. It can switch back and forth at will, from one quarter to another. Based on the Call Report instructions, to utilize a different definition of total assets when filing your Call Report, just enter the value in the correct field (010A, 010B, or 010C).

This little bit of flexibility can be useful, but should be used judiciously. I believe that this is intended to be temporary relief from an influx of deposits that will be followed by an outflow of the deposits, like in the scenarios outlined at the start of this blog.

This flexibility shouldn’t be used to obfuscate true capital inadequacy or a trend toward it because after a year such practices would catch up to the credit union and the capital inadequacy would be worse than if it had been noted and addressed head on.

For example, this may have been useful about a year ago, say in the last quarter of 2020, when assets were up quite sharply for pandemic-related reasons. Back then, using the total asset calculation that defines total assets as the average of the last 4 quarter-ending balance of total assets, perhaps two of those quarters would have had much lower total assets, thus making the definition useful.

Now, a year later, all of the last four quarters have had high asset growth, and any of the four ways of defining total assets will take into account the unusual asset growth.

If a credit union had used an alternat definition of total assets to keep the net worth ratio up, and failed to take real steps toward changing the dollar balance of net worth, in the fourth quarter it would catch up as the last quarter of slow asset growth has dropped off the calculation. Suddenly the credit union finds itself inadequately capitalized no matter how the ratio is calculated.

But, if you’ve ever found your credit union in a situation similar to the ones described at the start, this can help ensure that your ratio doesn’t experience a temporary wide swing in one quarter.

This is codified in NCUA’s rules and regulations §702.2(k). Also, page 12 of the Call Report includes instructions for this, and page 58 of the paper instructions for the Call Report also has details.