By Steve Pociask
With deficit reduction firmly on the minds of politicians in Washington these days, some in Congress are now talking about a blank-slate approach that would force a review of every tax deduction and potentially bring about tax reform. One recent suggestion is that tax exemptions for credit unions should be ended and could not survive such a review. However, the benefits provided by credit unions to consumers far exceed the taxes foregone from the tax exemption.
Before I get into the details, here is some background on the issue. Credit unions are member-owned institutions that give each dollar of surplus back to their customers — that is, their members — in the form of lower interest rates on loans and higher rates on deposits. Credit unions have no shareholders, have no equity investors, and are served by volunteer boards. Since credit unions make no profits, there is nothing to tax. Income earned by credit-union members is taxed at the same rates as income earned by bank customers.
However, the proposed elimination of nonprofit status would mean that credit-union members are taxed twice: The first tax would apply to the retained earnings that go to benefit the credit union’s members through better interest rates; and the second would apply to the income members earn.
Things are different for banks. Banks are for-profit, have private investors, can have lavishly paid boards of directors, and pay dividends to stockholders. They make profits that are taxable. However, the consumers who benefit from banking services pay taxes once — just as credit-union members currently do: personal income taxes on interest earned.
The idea of ending the tax exemption is not about lowering the deficit; it is about preventing credit unions from competing with banks. This is obvious enough, given that banks are the ones calling for the taxation of credit unions.
Credit unions are a reasonable alternative to big banks. Through mergers, the top 100 banks have increased their market share from 41 percent in 1992 to 74 percent in 2012. Being too big to fail, these banks are truly the double-dealers of government reliance — taking government bailout help with one hand and then calling for government intervention to double-tax credit-union members with the other. With more than 90 percent of the lending market share, banks do not strike me as a needing protection from competition.
From their perspective, I guess, every little bit helps. The point is this: Banks want to suppress competition and are using the proposed deficit reduction as a means to attain that goal.
However, a cost/benefit approach suggests that the tax exemption is worth preserving. The Congressional Joint Committee on Taxation estimates the exemption cost $0.5 billion in taxes in 2012. But because credit unions tend to offer higher interest rates to their members and lower rates on loans compared to banks, credit-union members get $8.1 billion more in benefits than they would get from banks.
One might think that, without the tax exemption, banks could eat the $0.5 billion loss and provide just $7.6 billion in benefits. But instead, the lower member benefits and lack of an incentive to stay non-profit would lead credit unions to “demutualize,” reducing them to the same behavior as banks, as well as increasing concentration in the “too big to fail” banking industry.
In other words, eliminating the nonprofit status of credit unions would cost consumers $16 for every $1 of taxes saved. That would be a really bad deal for consumers.
If credit unions have an advantage, why don’t banks simply become nonprofits? The reality is that banks could operate in a break-even fashion, but they choose not to. Put simply, the banking industry’s cry of an “unlevel” playing field is just weak and disingenuous lobby-speak.
Sticking consumers with much higher costs for a very small tax benefit is a bad choice all the way around. A better approach would be to encourage competition and maximize consumer benefits.
The evidence suggests that credit unions provide substantially more benefits for consumers than costs for taxpayers, and the tax exemption should be retained. Moreover, public policy should encourage a competitive alternative to those banks too big to fail. If Congress moves ahead with a blank-slate approach, it should carefully apply a cost/benefit approach in order to prioritize policy initiatives.
Steve Pociask is president of the American Consumer Institute Center for Citizen Research, an educational and research organization.