Farm Credit Watch: Large FCS Association Launches Consumer Lending Brand

On Aug.1, Farm Credit Mid-America (MidAm), the second largest FCS association, announced at a PGA Tour event that it was rebranding its consumer lending division. With $22.5 billion of assets, MidAm serves Ohio, Indiana, Kentucky and Tennessee. According to its news release, MidAm, “is improving its consumer lending division by launching the brand Rural 1st. Building on its existing experience, the lending cooperative has streamlined processes, added new technology, and specialized a team of expert loan officers [sic] — all to make buying rural property as simple as possible.” Why MidAm needs a consumer lending division is an obvious question the news release did not address. The release also made no mention of the fact that MidAm is an FCS association — instead referring to itself as a “company” — that like other FCS institutions was created to provide credit to farmers and ranchers who cannot obtain credit elsewhere.

The news release quoted Art Whaley, MidAm’s senior vice president for consumer lending, as stating that “our customer’s dream of rural living is the sole purpose of our business.” That certainly is not why Congress created the FCS. The release summarizes the “unique and specialized lending options, tailored specifically for rural land, home purchases and construction projects” offered by MidAm, including lot loans, recreational land loans, construction loans, home loans and home equity loans. What is interesting about the news release and MidAm’s home loan page is what it does not state about the restrictions on rural home loans imposed by the Farm Credit Act and regulations under that act supposedly enforced by the Farm Credit Administration. Importantly, an FCS rural home loan can only finance a “single-family moderately priced dwelling located in a rural area that will be owned and occupied as the rural homeowner’s principal residence.” To its credit, the MidAm notes an important statutory limitation on FCS home loans — the home must be located in a rural area or in a town with a population of no more than 2,500.

An open question is how well does MidAm comply with all of these restrictions, which in turn raises this question: How good a job does the FCA do in enforcing these restrictions, especially the requirement that FCS associations can only finance “moderately priced dwellings” that are the homeowner’s “principal residence”? Based on reports I have received from bankers over the years as well as my own research, the FCS has financed rural estates with large houses as well as second homes and has financed homes in towns with a population exceeding 2,500. Especially problematic is MidAm’s willingness to finance a “weekend recreational retreat” and to provide “recreational land loans” that can be used for “hunting and fishing, horseback riding or other outdoor activities.” There is, of course, nothing agricultural about those properties; worse, a family’s second home may have been constructed on the property. None of this financing activity, of course, relates to agriculture and all of it can be provided by commercial banks. MidAm’s Rural 1st lending is the type of questionable FCS activity that the Senate and House Agriculture Committees should cast a critical eye on.

Is the FCS adequately acknowledging credit-quality problems?
As ag lenders know all too well, financial distress among farmers has grown due to the falling crop prices and the consequent decline in farm net income. From a peak of $123 billion in 2013, net farm income is forecast to be about $60 billion this year. Retaliatory tariffs imposed by China and other importers of U.S. agricultural exports will drive agricultural prices and farmers’ income even lower. That financial stress will feed back to ag lenders, including the FCS, which will lead to deteriorating credit quality among some borrowers. This question therefore arises — is the FCS, and the FCA, being sufficient aggressive in recognizing emerging loan-quality problems, specifically those loans that should be placed on a nonaccrual status?

On the surface, the FCS looks reasonably well-reserved for future loan losses, with its allowance for loan losses at June 30, 2018, equal to 67 percent of total non-performing assets, most of which were nonaccrual loans. However, that percentage was down from 79 percent at Dec. 31, 2017. Drilling deeper into the numbers, though, raises questions about the adequacy of the FCS’s loan-loss allowance and the assessment of its loan quality, especially at some associations. Most telling, loans classified as substandard or doubtful rose during the first half of 2018, reaching 3.3 percent of total loans outstanding, up from 3.1 percent at the end of 2017. More troubling, at June 30, 2018, non-accrual loans equaled just 24 percent of substandard/doubtful loans. While not every loan so classified should have a nonaccrual status, one can reasonably wonder if a sufficient number of FCS loans are on a nonaccrual status. More aggressively putting loans on such a status would, of course, reduce the FCS’s reported profits.

Key numbers the FCS publishes for its 25 largest associations — those with total assets exceeding $1.5 billion at June 30, 2018 — reveal quite a disparity between, one, nonperforming assets as a percent of gross loans and other property owned, and two, the loan loss allowance as a percent of gross loans — see table on page F-58 in the June 30, 2018, Quarterly Information Statement of the Farm Credit System. Even though agricultural conditions and crops grown vary greatly across the country, questions should be raised as to whether this disparity should be so great. For example, the nonperforming assets percentage of these associations at June 30, 2018, ranged from 0.19 percent of gross loans to 1.95 percent. The loan-loss allowance as a percent of nonperforming assets varied greatly, too, ranging from 216 percent down to 26 percent. Farm Credit Mid-America, discussed above, at 28 percent, was among the least well-reserved associations.