Several days ago, Credit Unions (Polish: SKOK) have been covered by supervision of the Polish Financial Supervision Authority (PFSA). Within the next three months, Unions’ financial statements will be examined by statutory auditors. Only when the audits are completed, it will be possible to state if the Unions’ assets, or the scale of loans they have granted, are covered by the funds they accumulated to a sufficient extent.
It is difficult to predict the result of the audits as they have only started. It is nonetheless good to note that according to media reports, Credit Unions recently supplemented their financial reserves. The side effect was that their profits were reduced. The measures may result primarily from the awareness of the differences between reporting by commercial banks and Credit Unions.
It is not a simple task to compare financial results of Credit Unions and regular banks. The vast majority of Polish commercial banks draft their financial statements according to International Financial Reporting Standards (IFRS). Other commercial banks and co-operative banks apply the accounting principles laid down in the Act on accounting and the resolutions of the Polish Financial Supervision Authority.
Credit Unions must draft their financial statements according to the Act on accounting and the current Ordinance of the Minister of Finance on detailed principles of Credit Union accounting. It should also be added that until the end of 2011 Credit Unions had the obligation to comply with the provisions of the Ordinance in its 2001 wording.
The main differences between the financial statements of banks that apply Polish accounting standards and of Credit Unions lies with the rules of asset and liability valuation, as well as the very layout of financial statements. What is the picture from a closer perspective?
Compare the incomparable
There are several significant differences.
‘Credit Unions do not valuate their assets or liabilities at the effective interest rate. Loans and credits are valued at the value of due payment according to the prudence accounting principle taking into account write downs, while liabilities are valued at the value of due payment,’ explains Celina Gąsiorek, manager in the Financial Services Department at Ernst & Young.
In addition, Credit Unions apply rules of determining and posting write downs on credit dues and loans that are different than those applied by banks. It should also be noted that Credit Unions include money collected in the so-called stabilisation fund in their balance sheets.
‘In addition, there are differences as to the layout of the very financial statements,’ adds Celina Gąsiorek.
It is also important to note that banks’ financial statements include more disclosures on the nature of assets and liabilities and disclosures that describe risk management. In the latter area, the financial statements of Credit Unions relatively resemble the statements of entities involved in non-banking services.
The above differences are much more explicit if compared to international financial reporting. Compared to entities that apply Polish accounting standards, the banks that apply IFRS have different classification of assets and liabilities, value impairment of credits and loans differently and must disclose more information, particularly on assets, liabilities and risk management rules.
In spite of similarities of the services provided by banks and Credit Unions (i.e. granting loans and accepting deposits), their accounting rules and financial statements are hardly comparable. It would be difficult to predict audit results before examinations are completed.
From the point of view of statutory external reporting, Credit Unions (like other entities pursuing economic activity) must prepare annual financial statements. Until recently, not all Credit Unions had the obligation to have their financial statements examined by an independent registered auditor. Credit Unions’ financial statements were published in Monitor Spółdzielczy. Also, pursuant to the 2004 agreement between the National Association of Co-operative Savings and Credit Unions (referred to also as the National Association of Credit Unions, Polish: KSKOK) and the National Bank of Poland, Credit Unions submit monthly information on their assets and liabilities to the NBP for the needs of the monetary statistic.
In addition, since 2005 Credit Unions must submit data on their participation in the clearing system (such as the number of accounts, number and value of transfers and cash payments) every six months.
Apart from the above external reporting, Credit Unions must report to the National Association of Credit Unions on a regular basis (every 10 days, month, quarter, six months and year) providing selected financial data from various areas, e.g. the loans they grant.
It should be noted that the Act of 5 November 2009 on Credit Unions (that entered into force on 27 October 2012), which imposed the supervision of Credit Unions by the Polish Financial Supervision Authority, introduced the obligations of Unions’ reporting to the PFSA.
‘Relevant implementing provisions are at the final stage of consultations. Once introduced, they will specify inter alia the requirements of Unions’ reporting to the PFSA,’ says Arkadiusz Krasowski, partner in the Financial Services Department at Ernst & Young.
Credit Unions’ financial statements for the year that ended on 31 December 2012 will have to follow the amended provisions of the Ordinance of the Minister of Finance of 30 December 2011 on detailed principles of Credit Union accounting. It means that Credit Unions will have the obligation to change the rules of making write downs on credit dues and loans.
The Ordinance of the Minister of Finance of 21 November 2001 on detailed principles of Credit Union accounting applicable to Credit Unions’ financial statements for 2011 did not refer to making write downs on credit dues and loans. Credit Unions applied the general provisions of Article 35b of the Act on accounting and the guidelines set out by resolutions of the National Association of Credit Unions.
‘As a result of the above, Credit Unions determined and posted write downs primarily on the basis of criteria relating to overdue credit/loan receivables, their enforcement status (in the process of enforcement or in court proceedings) and the type of entity that performs the enforcement procedure. The percentage of the value of credit receivables that constitutes a write down was assumed on the basis of guidelines from the National Association of Credit Unions,’ explains Arkadiusz Krasowski.
Similar to the banks that apply Polish accounting principles, from 2012 also the accounting policies of Credit Unions relating to write downs on credit and loan dues must be adjusted to comply with the provisions of the above-mentioned Ordinance of the Minister of Finance of 30 December 2011.
‘The basis for making write downs on credit and loan dues by Credit Unions is different from the rules applied by banks that apply Polish accounting regulations. Credit Unions include the principal and interest accrued but not due in the basis for calculating write downs on credit and loan dues, while banks do not include interest in the basis for calculating write downs, but treat the interest as income in suspense in the case of irregular receivables (and do not include them in their profit and loss accounts until actual payment takes place),’ says Celina Gąsiorek.
Measured anew, the results of Credit Unions will differ from their previous results depending on the actual enforcement of loans by the Unions. It cannot be predicted, yet we can attempt at estimating the scale of risk.
‘It should be expected that introducing new requirements on credit risk management and quantification may affect the operations of Credit Unions, and in the long run also their capital adequacy, to a significant extent,’ says Arkadiusz Krasowski.
The new Act on Credit Unions imposes an obligation on all Unions to perform an opening audit within three months from the Act’s entry into force. Reports from examinations by statutory auditors are to be submitted to the PFSA, the National Association of Credit Unions, the National Bank of Poland, the Financial Stability Committee and the National Co-operative Council.
The PFSA drafted detailed guidelines on the extent of examinations to be performed by statutory auditors during an opening audit. The guidelines require performing a number of verifications not only strictly financial, but also in areas such as the quality of managing particular types of risk by individual Credit Unions as well as evaluation of risk management’s adequacy and quality. Reports from those examinations are to be submitted to the PFSA in January 2013, which will allow determining the scale of individual types of risk affecting Credit Unions and detecting possible capital shortages in individual Credit Unions.
It should be added that in spite of the absence of public supervision of Credit Unions, they worked out their own deposit guarantee system which comprises two main pillars: insurance of deposits held by individual Credit Unions and the so-called stabilisation fund. Credit Unions are members of the Cooperative Insurance Association (Polish: ZWC). Pursuant to the agreement with the Credit Unions Mutual Insurance Society they guarantee protection of their customers’ funds in the case of a Credit Union’s liquidation or bankruptcy.
The rules of the above protection are similar to those of the deposit guarantee system of the Bank Guarantee Fund in the regular banking system.
‘Yet, it should be emphasised that if the need arises to launch payments to Credit Union customers and the amount of such payments exceeds the value of the funds collected by the insurance system (estimated at approximately PLN 635 million, according to data for 2011), individual Credit Unions (and consequently their members) would have to provide the lacking funds for payments to customers,’ warns Celina Gąsiorek.
Apart from the above insurance system, Credit Unions have the obligation to pay adequate member fees to the stabilisation fund. The main purpose of the fund is to ensure financial stability of Credit Unions by providing funds to prevent Credit Unions’ financial problems and bankruptcy in the case of an emergency.
The fund’s purpose is not to protect deposits. All Credit Unions have equal access to the fund and may, in justified cases, receive aid from the National Association of Credit Unions. The form of the aid may vary (repayable or non-repayable). According to estimations, in 2010 the value of the stabilisation fund was approx. PLN 425 million, but from that time some of the funds could have already been used for a number of purposes. Financial data on the Credit Union sector say that as at the end of June 2012 the value of their deposits exceeded PLN 15 billion.
Iwona Kozera, Managing Partner, Ernst & Young:
‘Credit Unions are a specific part of our market – over 2 million people use the system. These are usually people characterised by relatively low use of banking services and lower income. Credit Unions had their own accounting principles, generally more liberal than banks, for example in the area of creating credit risk reserves.
Without audits according to bank rules, it would be difficult to evaluate the financial standing of Credit Unions compared to the banking sector. In my opinion, covering Credit Unions with PFSA supervision is the right move from the point of view of the entire financial system’s security.
According to current plans, audits of Credit Unions are to be completed in January next year. It would be best if the audits were performed by people conversant with the rules of the banking system. It would facilitate evaluation of Credit Unions’ financial standing.’