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Nutmeg State Financial Refutes ALLL Allegations.

Byline: Peter Strozniak

The $387 million Nutmeg State Financial Credit Union fired back Tuesday after two former executives filed wrongful discharge and defamation civil lawsuit. The Rocky Hill, Conn.-based credit union said the lawsuit is filled with false allegations and inaccuracies.

Former CFO Timothy Ross and Shannon Hall, vice president of lending, claimed they were fired in retaliation for exposing alleged fraudulent financial reporting practices.

Ross and Hall claimed Nutmeg State Financial CU President/CEO John Holt allegedly encouraged accounting practices that were inconsistent with GAAP and contrary to state and federal laws. The suit also claimed Holt allegedly did so in an attempt to hit profit targets, which allowed him to receive compensation bonuses and fund his $45,000 a month supplemental executive retirement plan.

That SERP number is incorrect and is actually $38,000, according to Miguel Escalera, an attorney representing the Rocky Hill, Conn.-based credit union.

"Also, it's important to note that this is not an amount of a monthly benefit to John Holt -- it's an accrual for a benefit that is offset by investments (similar to a 401k). John would have to stay until he's 67 years old to collect it," Escalera explained. "The SERP is owned by the credit union, not John Holt. The retirement vehicle selected by the credit union's board is supported by investments that pay for the costs and is further supported by insurance that provides a guaranteed minimum that the credit union will receive from its investments. The outside auditors have repeatedly reviewed and approved of Nutmeg State's accounting with regard to the SERP."

He also noted that Nutmeg's board offers Holt a pay-for-performance incentive plan -- not a bonus -- that establishes specific metrics in the form of a balanced scorecard that measures financial performance, member satisfaction, strategic plan execution and governance success.

Moreover, the credit union has an independent executive compensation committee, which establishes competitive pay and retention terms for its senior management team based upon compensation data gathered from national credit union peers, according to Escalera.

Nutmeg State Financial also denied the lawsuit's allegations that cited specific examples of questionable accounting practices.

For example, Hall claimed Holt forced him to manipulate the credit union's allowance for loan and lease losses, instructing Hall to push the losses out to a future date rather than record the losses within that month as required by GAAP.

These conversations allegedly happened multiple times per month, Ross and Hall claimed. By pushing out the losses, they claimed Holt artificially inflated the credit union's profits, which allowed him to receive his bonus and fund his SERP.

"These accounts were all reviewed by Nutmeg's outside audit firm, which gave Nutmeg clean and unqualified audit and determined Nutmeg was in full compliance with GAAP," Escalera said. "The allowance account has always been properly funded and remains so today, as confirmed by Nutmeg's auditing firm."

As of March 31, 2016, Nutmeg State Financial's provision for loan and lease losses jumped to 0.82%, up from 0.59% as of Dec. 31, 2015, according to NCUA Financial Performance Reports. In 2015, the credit union reported a 0.39% provision in the first quarter and 0.34% in the second quarter, increasing that amount to 0.54% in the third quarter of 2015.

On its financial summary, Nutmeg State Financial increased its ALLL by 10.8% in the first quarter of 2016, to $3,232,099. As of Dec. 31, 2015, the credit union's ALLL was $2,918,046, up from $2,645,862 in the first quarter.

As of March 31, 2016, Nutmeg State Financial's delinquent loans were 0.77% and net charge offs were 0.69%. As of Dec. 31, 2015, the credit union reported delinquent loans of 0.70% and net charge offs of 0.72%. In the third quarter of 2015, the credit union reported delinquencies and net charge offs of 0.66% and 0.69%, respectively. Second quarter 2015 delinquencies were 0.67% and net charge offs were 0.58%. First quarter delinquencies were 0.68% and net charge offs were 0.70%. Review the credit union's financial data here. In 2014, Nutmeg State Financial's provisioning remained relatively steady, between 0.35% and 0.37%. Its ALLL was $2,767,132 as of Dec. 31, 2014.

Delinquencies were higher in 2014, ranging from a low of 0.84% in the

first quarter to a high of 1.20% in the third quarter. Net charge offs ranged from a low of 0.57% in the third quarter to a high of 0.97% in the first quarter.

Ross and Hall also alleged the inaccurate reporting of the valuation of properties, but Nutmeg contends its outside auditing firm confirmed the valuations were conducted properly and in compliance with GAAP.

The former executives also alleged that during a state exam in November 2015, Holt told his management team that communications and interactions with examiners should be held to a minimum and to not offer any information beyond what was required, which violated state and federal reporting laws and NCUA policy.

"On the contrary, Nutmeg has designated people to act on behalf of the credit union to provide documentation on anything requested by examiners and has always been willing to communicate fully with examiners and outside parties," Escalera said. Examiners have been supplied all the information they have sought. This is confirmed in a clean and unqualified audit issued by outside auditing firm Nearman, Maynard, Vallez, CPAs."

The lawsuit alleged that Holt concealed information from regulators, including the underfunding of the ALLL, the overvaluing of certain assets and the overstating of short-term earnings to avoid regulatory scrutiny of the credit union's financial reporting and Holt's compensation package.

However, the credit union's lawyer said outside auditors issued a clean and unqualified audit in 2015, and all information requested by regulators was provided and all asset valuation was deemed appropriate by these auditors.

"Additionally the auditors also confirmed the ALLL methodology was appropriate and followed GAAP accounting standards," he said. "Whenever information is requested, Nutmeg always responds with full documentation."

As part of the annual review, examiners from both the Connecticut Department of Banking and NCUA did express concerns to Mr. Ross regarding the size of defendant Holt's compensation and benefit plan (both bonus and SERP) and its effect on defendant NSFCU's finances," according to the lawsuit.

Nutmeg State Financial's net worth as of March 31 was 13.23%, compared to a peer average of 10.83%, according to the NCUA. The credit union's 0.77% delinquency was slightly lower than the 0.78% peer average.

However, Nutmeg State Financial's return on average assets was lower than peer average as of March 31, at 0.45% compared to the peer average of 0.50%. And, during 2015, the credit union reported ROAA that was lower than peer average each quarter.

ROAA in 2014 was higher, increasing throughout the year from 0.61% in the first quarter to a high of 0.78% as of Dec. 31.

Though the credit union cannot make public comments about any regulatory inspection, Escalera said the allegations about the bonus and SERP are entirely without merit and that an independent outside auditor's report shows that the charges in the lawsuit are baseless and demonstrates that Nutmeg followed proper accounting practices.

Ross also alleged that on Jan. 5, 2016, at least two other investments were overstated. In addition, both Ross and Hall determined that the ALLL funding for December 2015 should have amounted to $400,000. But Holt disagreed and fired them both on Jan. 6, according to the lawsuit.

"The allegations in the suit regarding the allowances for loan and lease losses ("ALLL) are unfounded," Escalera said. " On January 5, 2016, Mr. Hall recommended an ALLL allowance of $300,000 as of December 31, 2015. Nutmeg State transferred $285,000 to the ALLL account effective as of December 31, 2015, leaving an overfunded balance for the ALLL in the amount of $14,769.41."

Escalera said outside auditors confirmed that Nutmeg State's methodology and assumptions in determining the ALLL balance as of December 31, 2015 were consistent with GAAP, reflected an overpayment, and found no issues with Nutmeg State's ALLL analysis.

In addition to wrongful discharge, Hall is suing Nutmeg State Financial for defamation.

He claimed that the credit union defamed him with accusations of acting erratically that put the organization at risk. Hall also claimed that the credit union knew these accusations were false and used them to fire him.

Although Connecticut laws forbid the credit union from commenting on why Ross and Hall were fired, Escalera said Nutmeg Financial is confident in the actions taken expects to be vindicated at trial.
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Publication:Credit Union Times
Geographic Code:1U1CT
Date:Jun 7, 2016
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